Abenomics Fails to Spur Business Spending

I recently pointed out that the 3.5% boost in Japan’s statistical GDP has not reflected on real economic growth for the basic reason that monetary policy induced price distortions impede economic calculation and promotes discoordination. And that such growth has merely represented the frontloading of spending actions in view of forthcoming higher taxes.

We have anecdotal proof on this:

From the Bloomberg’s today’s Abe’s Resurgent Japan Hurt by Lack of Business Spending (bold mine)

As Japan’s cherry trees bloomed and the stock market soared, Kohetsu Watanabe flew to a blossom-viewing party in Tokyo hosted by Prime Minister Shinzo Abe to tell the premier personally how bad things really are.

When the head of machine-parts maker Daikyo Seiki Co. shook hands with Abe at the 12,000-guest event in Shinjuku Gyoen park, he says he begged the premier to help small- and medium-sized companies that make up 70 percent of Japan’s industry.

“Stocks and the yen may have come back, but the state of the real economy is very different,” said Watanabe, 49, who has no plans to raise wages for his 17 employees and hasn’t paid a bonus since 2008. “It’s impossible for me to be optimistic.”

His company in Akita, northern Japan, highlights the hurdle Abe faces in his quest to end 15 years of deflation and reinstate Japan as a pillar of the global economy. The first two “arrows” of so-called Abenomics, fiscal and monetary stimulus, have caused shares to rise and the yen to slump. While that helps exporters, it means more expensive imported materials and energy for Watanabe. With sales taxes set to rise in April, Abe’s third arrow -- restructuring rules to help businesses -- probably will take too long or be too watered down to prevent a drop in domestic demand next year.

What’s Japan’s real structural problem? From the same article:

With executives such as Watanabe waiting for earnings to improve before raising salaries, that pain may last beyond next year as the government faces opposition to dismantling decades-old policies, such as labor laws that make it difficult to fire workers.

How will such distortive labor regulations be eased by Abenomics?

In his May 17 speech, Abe said he wants to boost private investment to 70 trillion yen ($683 billion) a year -- the level before the 2008 financial crisis -- through deregulation, taxes, spending and equipment-leasing deals. He aims to triple infrastructure exports to about 30 trillion yen by 2020…

Yet the bias for the politicization of the marketplace:

The measures announced so far don’t go far enough, according to Izumi Devalier, an economist at HSBC Holdings Plc in Hong Kong, who says major restructuring is needed in agriculture, health care and labor laws…

“The Cabinet appears to be shying away from deregulation, opting instead to use subsidies and usual government-support programs,” Devalier wrote in a May 14 research note.

Just think of it; how will business investments and domestic demand improve when increasing taxes means a diversion of resources from the private sector to the government? 

Whatever money government spends is money that the private sector won’t be spending. These are called opportunity costs and the crowding out effect from government interventions. 

Yet government spending will be financed by more debt in the light of continuing weak business environment burdened by taxes and constrained by price instability. So Abenomics essentially will compound on her precarious nearly 220% debt to gdp.

Yet the above account shows how the Japanese government refuses to deal with the stringent labor laws that has choked the economy.  

Japan's rigid immigration laws represents as another vitally important structural hindrance which politicians refrain from reforms.

This shows that in politics, there is no such thing as economic logic, thus the tendency to deal with superficialities or treating the symptom rather than the disease.

Well of course, the Abenomics path of “subsidies and usual government-support programs” has been tried and tested since the Japanese bubble imploded in 1990s.

Let me quote in length Douglas French’s narrative of the doing the same thing over and over again yet expecting different results:

The Japanese government didn’t just leave matters to the monetary authorities. Between 1992-1995, it tried six stimulus plans totaling 65.5 trillion yen and even cut tax rates in 1994. It tried cutting taxes again in 1998, but government spending was never cut.

In 1998, another stimulus package of 16.7 trillion yen was rolled out, nearly half of which was for public works projects. Later in the same year, another stimulus package was announced, totaling 23.9 trillion yen. The very next year, an 18 trillion yen stimulus was tried, and in October 2000, another stimulus of 11 trillion yen was announced.

During the 1990s, Japan tried 10 fiscal stimulus packages totaling more than 100 trillion yen, and each failed to cure the recession.

In spring 2001, the BOJ switched to a policy of quantitative easing — targeting the growth of the money supply, instead of nominal interest rates — in order to engineer a rebound in demand growth.

The BOJ’s quantitative easing and large increase in liquidity stopped the fall in land prices by 2003. Japan’s central bank held interest rates at zero until early 2007, when it boosted its discount rate back to 0.5% in two steps by midyear. But the BOJ quickly reverted back to its zero interest rate policy.

In August 2008, the Japanese government unveiled an 11.5 trillion yen stimulus. The package, which included 1.8 trillion yen in new spending and nearly 10 trillion yen in government loans and credit guarantees, was in response to news that the Japanese economy the previous month suffered its biggest contraction in seven years and inflation had topped 2% for the first time in a decade.

In December 2009, Reuters reported, “The Bank of Japan reinforced its commitment to maintain very low interest rates on Friday and set the scene for a further easing of monetary policy to fight deflation. The bank said that it would not tolerate zero inflation or falling prices.”

In a paper for the International Monetary Fund entitled Bank of Japan’s Monetary Easing Measures: Are They Powerful and Comprehensive?, W. Raphael Lam wrote that the BOJ had “expanded its tool kit through a series of monetary easing measures since early 2009.” The BOJ instituted new asset purchase programs allowing the central bank to purchase corporate bonds, commercial paper, exchange-traded funds (ETFs), and real estate investment trusts (REITs).

According to Lam’s work, the BOJ bought 134.8 trillion yen worth of government and corporate paper between December 2008 and August 2011. Lam described the impact of these purchases as “broad-based and comprehensive,” but it failed to impact “inflation expectations.”

For more than two decades, the Japanese central bank and government have emptied the Keynesian tool chest looking for anything that would slay the deflation dragon. Reading the hysterics of the financial press and Japanese central bankers, one would think prices are plunging. Or that borrowers cannot repay loans and the economy is not just at a standstill, but in a tailspin. Tokyo must be one big soup line.

At the end of the day, all the hero worship on Abenomics or Japan inflationism as elixir will turn out badly for the simple reason that, as I recently wrote:

Abenomics operates in an incorrigible self-contradiction: Abenomics has been designed to produce substantial price inflation but expects interest rates at permanently zero bound. Such two variables are like polar opposites. Thus expectations for their harmonious combination are founded on whims rather from economic reality.

Abenomics will advance on Japan’s coming debt crisis.