Global View: U.S. recovers--like Japan

The dull economy has dragged on and America can take no more.

An economist saying the recovery won't happen is, as usual, about as welcome to the money men of Wall Street as a pint of warm and bitter British beer. So, as the stock market trends up and the excitement about recovery grows, let's think about another weak economy where low interest rates and fiscal stimulus spurred recovery: Japan.

Japan? Surely not? But, yes, it recovered three years ago. Take this from the Daiwa Institute of Research, a report published September 21, 2000 entitled The Recovery Begins to Broaden: "Profit margins and the expected economic growth rates of companies will turn upward, and an increase in private capital expenditure centered on IT investment will engender a virtual circle of expansion." (We expect they meant "virtuous")

Well, of course, it might be said that a Japanese economist, Susumu Okano, working for Daiwa, a Japanese bank, would not have all the famed objectivity of a Wall Street economist working on the U.S. economy. But Daiwa were far from alone in seeing recovery in the Japanese economy in 2000.

The London-based Economist magazine, for example, wrote March 16, 2000, in an article entitled "Just possibly, something to sing about at last," that "the talk now is that, in the first three months of this year, Japan may clock the fastest growth since the 1970s."

"A restocking cycle is under way," The Economist wrote. "Business investment is on the rise." And "Consumer spending, too, may be picking up."

Why, it all sounds very promising, and very much like the sort of comments you can read on the U.S. economy today. A June report from John Lipsky and James Glassman, two economists at J P Morgan, an investment bank, find "the classic preconditions for a stronger expansion." They say, "Policy makers virtually everywhere are implementing more expansionary fiscal and monetary policies. Businesses are adjusting to improve their profitability, while households are acting to restore their net wealth."

So is the U.S. economy now out of the woods?

Perhaps we should come back to Japan. What went wrong? The answer is not very hard to find and lies with what was promoting the revival in the first place. What was Daiwa's main assumption, shown handily on the front page of their report? "The government will adopt a fiscal stimulus package in the autumn of 2000, allocating Y2 trillion for public works spending."

Now, it is true that extra government spending is different to tax cuts. But the point is that Japan's revival was linked to government policy: the government was kick-starting the economy, or trying to, by stoking up demand. And it had some effect. In the 2000 fiscal year the economy grew by 3.2 percent, having managed aggregate GDP growth of just 0.5 percent in the three previous fiscal years. The year 2000 was therefore boom time.

But there was no follow though. In the 2001 fiscal year the economy contracted by 1.2 percent. The recovery fell away. Yet this was not what economists had been forecasting. Once numbers turned up a bit in 2000 they expected that a long dormant economy was on the road to recovery. They appeared not to think about sustainability.

And this is what seems so strange about the current optimism, evident in the stock market and in many expressions of opinion, from Wall Street economists and from Treasury secretary John Snow--"Conditions for this recovery are looking better and better," he said Tuesday--and from U.S. President George W. Bush himself, whose latest $350 billion tax cut is "going to put wind at our back as this economy recovers from what has been a very tough period of time," he said Friday.

U.S. economic policy is entirely geared to stimulus. The twin levers of policy have been pushed towards Go almost as far as they can go. The swing in fiscal policy, from extracting money from the economy by virtue of a surplus and the paying down of debt, to injecting money into the economy, via deficit and higher spending over taxes, is the most abrupt ever. Interest rates meanwhile are at their lowest for forty years and a 50 basis point by the US Federal Reserve next Tuesday would take the short-term interest rate to just 0.75 percent.

Longer term interest rates, which are more important for borrowing and growth, are also at record lows. For the vast majority of Americans it has never been cheaper to borrow money to buy a house, and soaring house prices and refinanced mortgages have been an economic stimulus plan all of their own. The "recovery" has not yet been accompanied by more jobs but real estate and mortgage finance companies have been taking on more staff. In this one area of the economy a solitary boom is occurring—one that is sure to have a sad ending.

And so it is likely, with all this stimulus in place, that statistics in coming weeks will continue to show that demand for services and manufactured goods is rallying a little, and optimistic economists and investors are likely to hail these statistics as promises of recovery.

Wrongly. For the unhappy truth about the U.S. economy is that it is not growing healthier and more ready for recovery, but less healthy and more ready for slump.

The widening fiscal deficit will leave Bush no more room to pump up demand. Ultra-low interest rates will leave Federal Reserve Chairman Alan Greenspan with no more scope to cut rates. Extremely high house prices will prevent house prices rising still further. The taps of stimulus that are pouring money into the weak economy are going to dry up, just as, in 2000, the flow of cheap money from stock price inflation dried up—and with it booming U.S. growth.

The imbalances that economists habitually point to—or ought to point to— in trade and in the fiscal accounts, do matter. They are signs that something is wrong. The U.S. deficit on current account—the broadest measure of trade—which set a new record in the first quarter, is a sign that the United States has been consuming too much, not too little.

Consumers themselves feel it. Even with all the taps of easy money flowing, they are not so ready to rush out and spend. When, as with the stock market, the taps can pour money no more, the recovery will fall away. The economy will slow down again, look for balance, and for a healthy base from which it can grow.

(Global View is a weekly column in which our economics correspondent reflects on issues of importance for the global economy. Comments to icampbell@upi.com)