New Morn or False Dawn? - Japan's Rare Opportunity For Change: Heizo Takenaka

By: Heizo Takenaka   Date: 5 September 2011

About The Author

Heizo Takenaka

Former Japanese Minister of Economics, Minister of Financial Reform, and Minister of Internal

Heizo Takenaka, EconomyWatch Contributor

 

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The scale of the earthquake and tsunami that struck Japan in March was far greater than even the authorities’ worst nightmare scenarios foresaw. Now, nearly half a year after the crisis, Japan has a rare opportunity to undertake the comprehensive reforms that have been postponed for too long. 

Post-Disaster Japan – A Fresh Beginning or A False Dawn? : Heizo Takenaka

Will The Sun Still Rise For Japan?
Photo Credit: QTTheory

TOKYO – The scale of the earthquake and tsunami that struck Japan in March was far greater than even the authorities’ worst scenarios foresaw. Nearly six months later, the total damage remains difficult to estimate. Social unrest and confusion, as well as radiation leaks from the Fukushima nuclear power plant, continue.

And now the country has absorbed another huge blow: another downgrade of its bond ratings. Both Moody’s and Standard & Poor’s now rate Japanese bonds at only their fourth-highest level.

Related: Japan Tsunami Costs, Lessons for US and EU‏

Related: Japan Economy

So what policies should be implemented in response to these economic blows?

Last year, Japan’s economy grew at a relatively healthy 3 percent annual rate, higher than in the United States or the European Union, owing mainly to the fiscal expansion undertaken after the collapse of Lehman Brothers in 2008. But growth in 2011 had been predicted to slow even before the earthquake. Indeed, the economy shrank by 3.5 percent year on year in the first quarter.

Now, with so much fixed capital and infrastructure destroyed by the earthquake and tsunami, the economy’s productive capacity has fallen by an estimated 2 percent of GDP. But that may not be a bad thing: Prior to the earthquake, Japan had a demand-supply gap of approximately 5 percent of GDP. While reducing this gap to 3 percent of GDP has led to higher prices, this is exactly what Japan needs after years of persistent deflation.

Meanwhile, higher public spending on capital investment and other special procurements will boost domestic demand. The Hanshin earthquake in 1995 destroyed capital stock worth 2 percent of GDP. This time, the loss is estimated at 3.4 percent of GDP, implying a larger increase in domestic demand if the right public policies are pursued.

On the downside, confidence among consumers and investors alike has taken a hit, mainly owing to fears about radiation leakages and power shortages. According to the Japan Center for Economic Research, power-supply disruptions could negatively affect the Japanese economy for the next three years. If the Tokyo metropolitan area’s power supply were to decrease by 10 percent this year, for example, Japan’s GDP would fall by 2 percent.

Soon after the disaster, the government announced that reconstruction demand and higher prices would bring about relatively rapid economic recovery. I think this view is too optimistic, because I suspect that the government wants to finance its new expenditure with a tax hike. Moreover, the extremely sharp contraction in first-quarter GDP may indicate that the disaster’s negative impact on the economy was more significant than expected.

Indeed, the economy is expected to have shrunk by another 2.6 percent year on year in the second quarter, with growth set to resume only in July-September. And, contrary to the government’s outlook, the start of economic recovery could be delayed until the end of this year, with medium-term annual growth reaching 1.5- 2 percent.


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