The answer, as I see it, is “both.” To understand exactly where the LDP’s faults lie, it’s important to understand the multiple channels through which global economic crises spread.
One channel of contagion is the financial channel; falling demand for assets in one part of the world reduces the price of those assets, which causes capital losses to financial institutions in other parts of the world. In the current crisis, those assets are U.S. mortgages, mortgage-backed securities, CDOs, CDSs, asset-backed commercial paper, and other various debt-related securitized products. And, remarkably, Japan’s financial institutions have relatively little exposure to these products — much less exposure, in fact, than any other large rich country.
In other words, Japan dodged a huge bullet. If Japanese banks, hungry for profits after years of capital rebuilding, had jumped into US debt and derivatives markets as European banks did, Japan would now be facing a financial meltdown to rival 1990. The fact that Japanese banks didn’t jump on the bandwagon is a huge coup. It’s unclear how much, if any, of the credit for this goes to the LDP. A lot of it is simple luck and timing.
The Japanese economy, however, has still been hit hard, through the second channel of contagion: exports. Japan remains an export-dependent economy, one that is still structurally weak in many ways. How much of the blame does the LDP take for that? A lot, I would argue.
Many have noted that Japan’s export dependence is a result of sluggish consumption growth during the Koizumi years, a weakness that continues today; the reason for that sluggish growth is less discussed. One reason is the demographic transition; Japan’s market size relative to the world economy has shrunk. Whether the LDP deserves the blame for that is the subject of the ongoing debate about fertility.
A second reason for sluggish consumption growth is stagnant wages. Globalization takes part of the blame for that, but much of the effect is due to shifts in the labor market. As Japan’s baby boomer men retire, many have been replaced not by full-time workers with lifetime employment guarantees and seniority-based wages, but by low-paid, insecure temporary workers. That helped Japan’s companies cut costs, but it put a huge damper on consumption, because generational turnover has made mean wages fall automatically.
I blame the LDP not for allowing the rise of temp workers, but for encouraging the creation of a two-tiered employment system in the first place. Baby boomer salarymen, with their secure jobs and non-performance-based wages, were and are getting paid more en masse than their productivity justified. Which means younger generations are getting paid less than their productivity justifies. That’s made Japan less efficient, and left it more exposed to an export slump than it might have been.
The LDP has done other things over the years that had the effect of suppressing Japanese consumption — nontariff trade barriers, restrictions on FDI, inadequate antitrust enforcement, etc. And of course, there were all the mistakes of the Bubble Era, which have left Japan’s companies (and therefore domestic investment) in a weak position to this very day. The LDP should have been banished in 1993, giving opposition parties the chance to reform the bureaucracy and other broken institutions. Fifteen years of reform could have left Japan stronger in 2008, but that ship has sailed.
To sum up: Japan’s lack of direct exposure to America’s financial crisis offered it a golden opportunity to come out of the world recession with a head start on every other economy in the world. But because of decades of LDP failure to address other problems in the economy — sins of omission and commission — Japan missed that opportunity, and must suffer alongside everybody else.
The next key question is: Would the DPJ do better? Going by Ozawa’s promises, I’d conclude that in the short term it would not. Japan’s best hope now is for the long term – embarking now on a path of institutional reforms will make Japan much stronger ten or fifteen years in the future. Better late than never, I say.
— Noah Smith