I read an article in the Financial Times earlier this week (September 23, 2023) -…
I am travelling today and haven’t much time to write and I have a day of library document searches ahead. But the input from economists over the weekend in relation to the devastating earthquake and tsunami in Japan last week has been nothing short of a total disgrace. Even as the news was unfolding the mainstream neo-liberal ideologues were out in force preaching that the Japanese government was now facing a major fiscal crisis and its capacity to deal with this event was severely limited. Imagine the reactions of the people in shock after the event to hear the news bulletins telling them that their government was crippled and unable to help. The reality is that the claims by the macroeconomists were not ground in any credible theory. It is bad enough they provide this mis-information and lies when unemployment is rising. But when thousands of people are feared dead it is nothing short of being obscene. Earthquake lies – all courtesy of our neo-liberal economist brethren.
Before the full-scale of the disaster was even contemplated and the nuclear power stations started blowing up, the economists were parading out there lecturing the World about Japan’s lack of capacity to deal with the crisis because it was already broke and was carrying too much debt.
The ABC (Australia’s national public broadcaster) coverage was basically based on the Japanese public broadcaster NHK’s service interspersed with crosses back to the ABC studio to interview some expert. The ABC were running headlines as early as Friday that there was no a worsening fiscal crisis in Japan as a consequence of the disaster. Two bank economists were regularly imposed on us via the ABC coverage claiming that Japan could not afford to borrow any more.
The written media was full of it. For example, you read in this Sydney Morning Herald article (March 14, 2011) – Seismic shock for fractured global economy following Japan earthquake – that:
And while the Bank of Japan has said that it will do everything to ensure financial stability, it has little scope to work with, given the low level of interest rates and the massive amount of debt. While disasters result in a lot of reconstruction work, the challenge for Japan will be paying for it.
This AAP article (March 12, 2011) – Japan earthquake risks fiscal crisis – was representative:
The massive Japanese earthquake has raised the chances of a fiscal crisis in the world’s third largest economy and could affect countries around the globe, analysts in Europe and the US say.
The analysts are wrong. This crisis, bad as it is, has not changed the underlying risk associated with Japanese fiscal policy execution. The problem is that if the conservatives get into the heads of the Japanese politicians the latter might start believing that their fiscal options have been reduced. The operational reality is that they have not been reduced.
The Japanese government will be able to fully provision a recovery and reconstruction, however, painful and long that might take, as long as their are real goods and services available for purchase. The constraints will be in terms of real resources and time.
The press reports were all quoting some “British consultancy Capital Economics” who must be seeking clients because they were one of the first to jump onto the fiscal crisis bandwagon. They are not backward in telling us about themselves, describing their company as the “leading independent macroeconomics research consultancy” but didn’t add where! I wondered what the geographical limits on the “leading” was. Conclusion: not very broad given their public statements.
The Capital Economics report was quoted as saying:
It may be several days before the costs of the disaster are clearer … The greater the social and economic damage, the larger the threat to the government’s ability and willingness to ward off a fiscal crisis.
I will be months before the costs in real terms are fully assessed and a lifetime for some coming to terms with the personal and social costs. But the next statement is just a straightforward lie.
What is a fiscal crisis when we are talking about a nation that is fully sovereign in its own currency? Answer: there is no meaning that can be attributed to the term.
A fiscal crisis is besetting the governments of Greece, Portugal and Spain – because they are struggling to advance public purpose in their nations and cannot raise the funds to maintain existing programs. The reason is clear: they surrendered their currency sovereignty. Only the interventions of the ECB are saving the Eurozone from total meltdown but the underlying solvency problem for the individual member states is getting worse as the days go by. The intervention of the Euro bosses is failing.
But none of that is relevant to Japan – except that their export markets might be damaged if the Eurozone collapses. Even so, that is not a fiscal crisis. It would just signal a larger fiscal intervention was called for to make up for the spending collapse.
The same predictions were bandied about after the January 1995 earthquake in Kobe. I checked back to my notes and documents for 1995 when the Kobe earthquake struck. It was clearly a major disaster in terms of infrastructure damage and personal tragedy.
The New York Times said at the time (June 6, 1995):
The reconstruction of Kobe may cost well over $120 billion, making the earthquake the most expensive natural disaster in human history.
There was certainly major economic disruption. The port was severely damaged and roads were blocked.
This report documents some of the shipping disruptions:
The docks used by the huge ships, which generally carry about 2,800 containers each, were damaged, as were the tall cranes that lift them. The bridges to the islands were also damaged, making it impossible for heavy trucks to move the containers, which accounted for up to 50 percent of Japan’s international containerized trade.
And countless other stories about the economic dislocation caused by the earthquake.
The Nikkei barely missed a beat and there was also positive economic news via the “few bright spots include the computer chip and steel industries, the latter partly boosted by rebuilding in the Kobe earthquake zone” (Source: Asia Week – July 14, 1995).
But within days of the 1995 Kobe earthquake, mainstream bank and finance economists (the cohort that usually gets every forecast wrong) were out in force telling anyone who listened that the disaster would drive the Japanese government bankrupt. Apparently the public debt level was “explosive” – around 85 per cent of GDP – well beyond the Reinhardt-Rogoff catastrophe level of 80 per cent.
At the time, the conservative Japanese economists (like Makato Yano and his ilk) aided and abetted by a bevy of US mainstream macroeconomists were preaching the Ricardian Equivalence line and pressuring the Japanese Ministry of Finance to cut back the “out of control deficit”. This led to the fiscal austerity packages in 1997 which caused the economy to double-dip.
This paper – The Japanese Economy in the 1990s – is an excellent account of the fiscal debate in the 1990s in Japan. It concluded that:
… fiscal policy supported the growth of the Japanese economy in the 1990s, but … the stimulus was insufficiently strong to realise the full utilisation of capital and labour. This is an important observation … revealing the inadequacy of public policy. The government is held responsible for inadequate employment, bad performane of business firms and the associated tragedies and unhappiness.
Perhaps more interesting to theorists is the rejection of the Barro and Lucas’s theory of the irrelevance of fiscal policy to economic growth … all economic theories … have to be verified empirically and that the theory of fiscal irrelevance can not be adequately verified by studying the Japanese economy in the 1990s. By contrast, the Keynesian theory underlying this paper can be verified.
It is surprising that the irrelevance theory has been tacitly or overtly accepted by almost a generation of economists without being empirically tested … In my view, unfortunately it has now been adopted by many intermediate macroeconomic textbooks and even some introductory ones. The author hopes that the irrelevance of fiscal policy has been rejected convincingly for Japan in the 1990s and that it will be similarly rejected by empirical tests for other countries, inviting a resurgence of Keynesian economics in the world.
The reality is that Ricardian Equivalence and the broader irrelevance of fiscal policy theories have been systematically rejected in many nations since they were introduced to the literature. The pity is that they are still being used to give “authority” to the politicians who are deliberately undermining the prosperity of their nations by imposing fiscal austerity.
In terms of Japan after the Kobe earthquake there was no fiscal crisis. The only thing that happened was that the conservatives won the policy debate and further inflicted damage on the Japanese economy. It was only expansionary fiscal policy after 1998 that returned the economy to growth and some stability.
IN my notes and documents for 1995 I found this chart from the Bank of England quarterly bulletin which shows how demand for long-term Japanese government bonds soared after the Kobe earthquake. Here is the movement in yields on 10-year bonds (remember yields move inversely with demand (price)).
And since then the public debt ratio has risen to 200 per cent without any public solvency risk in sight.
But history escapes the ideologues who wheel out the same discredited theories whenever they get a chance.
The “leading macroeconomist” from Capital Economics were further quoted by AAP as saying:
The impact on local people is, of course, foremost in everyone’s minds … But the financial markets also need to consider the economic costs and the implications of the disaster for the public finances. These could be considerable … This disaster is probably not the ‘big one’ that seismologists have long been fearing …. Mercifully, the scale appears to be much less than that of the Great Hanshin-Awaji earthquake that hit Kobe on January 17, 1995 …
So not only are these experts in macroeconomics but also earthquake intensity appraisal. The problem is that they were so keen to get their poisonous viewpoint aired soon after the news of the disaster that they failed to understand how bad this present event will turn out to be. The news reports suggest it will be worse than Kobe. I am not a siesmologist so I cannot assess whether it was the “big one”.
But I can assess the implications for “public finances” and they are clear. The Japanese deficit will have to rise to support the reconstruction process. Its power industry is severely compromised and tens of thousands of people are likely to have died. Its transport and urban infrastructure will need massive public investments.
So unless the Ministry of Finance stops issuing debt to match Yen-for-Yen the net public spending the public debt ratio will also probably rise although the reconstruction effort if fully pursued (that is, if the deficit is allowed to expand sufficiently) will spur economic growth and so the impacts on the debt ratio will be difficult to discern in advance.
But whatever the only relevant considerations are the real and human dimensions. There is no government financial crisis facing Japan as a result of the damage. Household and firm finances might be severely impaired but that is because these entities have financial constraints. The Japanese government has no financial constraints.
Capital Economics continued to demonstrate their lack of “leading edge” insight:
A large part of the reconstruction costs will probably have to be met by local authorities and ultimately by central government, which is already struggling to bring public debt under control …
Overall, it will be that much harder to deliver a credible long-term fiscal plan in the summer if the economy is stuck in recession, the public finances are in an even worse state, and many people are still suffering the after-effects of this disaster.
At the very least, the scope for fiscal stimulus to mitigate the economic damage is much less than it was in 1995.
This is the sort of commentary that would lead me to fail a first-year (introductory) macroeconomics student. The Japanese government is not struggling to “bring public debt under control” because they have total control over the issuance of the debt. They can always decide not to issue any. Imagine the scream from the financial markets if the government there stopped issuing debt. Their pool of long-term risk free annuities would dry up and they might have to actually create some new asset themselves to price other riskier products off!
I have also noted previously that terminology such as “the public finances are in an even worse state” is totally meaningless and therefore inapplicable when applied to a sovereign nation. Budget deficits cannot be worse or better. The economy can be worse or better as measured by real GDP growth or unemployment or other important real indicators. But you can have a “large” (historically) budget deficit corresponding to “good” real outcomes (where governments use discretionary fiscal interventions to stimulate growth or “bad” real outcomes (where governments are passive or pursue austerity and the automatic stabilisers built-in to the budget framework deliver the deficits).
So there is nothing to gain by trying to say a rising budget deficit is worse. The fact is that the Japanese public finances are in a state that is largely dictated by the fluctuations in private spending. They are what they are and the Japanese government can always meet its obligations in yen.
The other point is that the statement that “the scope for fiscal stimulus to mitigate the economic damage is much less than it was in 1995” is an outright lie. The Japanese government can always introduce whatever fiscal stimulus it choose. The size of that stimulus might not be appropriate – perhaps too timid and leaving a spending gap or too aggressive and driving inflation – but it has total control. The bond markets do not dictate or limit in operational terms the capacity of the Japanese government to introduce whatever fiscal stimulus that takes its fancy.
They can provide all the necessary spending to muster the real resources necessary to reconstruct the north east of the country. Running deficit in one year doesn’t alter the capacity of a sovereign government to run a deficit in the next year. It might be that a previous sequence of deficits stimulates the economy to full employment and so deficits in the future will fall (as economic activity drives the automatic stabilisers into reducing outlays and boosting tax revenue). Governments in that situation should not try to further stimulate the economy.
But there is no constraint imposed on the capacity to run continuous deficits by a history of deficits.
The graphical images coming out of Japan are very challenging – very sad and open up all sorts of questions of whether it is reasonable to be a voyeur into this sort of human tragedy. But some of the images that are being displayed are totally obscene.
I refer to the sequence of interviews with mainstream macroeconomists (mostly from investment banks) who are using this tragedy as a further opportunity to mis-inform and lie to the public about fiscal policy. The same lot have been spreading the same lies about the recent natural disasters in New Zealand and Australia.
These characters not only should learn some macroeconomics but they also should learn some shame.
I have to attend to commitments now.
That is enough for today!