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Monday, Sept. 17, 2001

JAPANESE PERSPECTIVE

Inflation targets no substitute for needed structural reform


The 0.8 percent contraction in the second quarter gross domestic product, coupled with dive in Tokyo share prices, has increased pressure on the Bank of Japan to further ease its already loose monetary grip by setting inflation targets. Tuesday's terrorist attacks in the United States and the ensuing plunge in world financial markets are expected to magnify that pressure.

Business circles, financial authorities and politicians are obviously making the demands in unison because they believe the economy would be easier to manage if nominal figures remain on the plus side. But if we scrutinize Japan's economic conditions from a global perspective, it is easy to understand that such a policy option has little chance of succeeding, and I would like to make this point clear before the Diet reopens to discuss the issue.

First of all, the entire global economy is in a state of oversupply -- not just in terms of product inventory, but also in plant overcapacity.

Since overcapacity hampers corporate profitability, stock markets are ignoring concerted efforts by Japanese, U.S. and European authorities to cut interest rates and provide greater liquidity to the markets and continuing to slump.

After the end of the Cold War, companies in the industrialized nations poured their capital and technology into less-developed nations on the other side of the iron and bamboo curtain to build factories there, taking advantage of cheap labor and land. But they were slow to consolidate plants back home, which resulted in them becoming less competitive due to high costs. The job cuts being carried out by U.S. and Japanese firms only reflect their lost international competitiveness.

The government may be able to artificially raise domestic prices if it decides to return the nation to a state of international isolation. But how can Japan, which imports 99 percent of its crude oil supply, put heavy restrictions on trade activities?

In terms of security policy, Japan has often been criticized for pursuing only its own peace. Japan holds a position of high responsibility in the global economic system, and any attempt to raise prices in Japan alone is futile.

Second, we have to realize that the cost of living in Japan is still higher than in most other countries. The Public Management, Home Affairs, Posts and Telecommunications Ministry admits as much in its statistics on international prices. World Atlas 2001, released by the World Bank, also confirms this fact.

In Japan, the average income level is $32,030, which is fourth in the world behind Switzerland, Norway and Denmark and higher than the $31,109 earned in the U.S.

However, that income in terms of domestic purchasing power is only $25,170, or as much as 21 percent less than the market exchange rate dollar figure.

This 21 percent loss for the Japanese, which is far larger than losses of 8.2 percent in Germany, 4.8 percent in France and 5.8 percent in Britain, illustrates just how expensive goods and services are in Japan.

Some say the yen's exchange rate is too high against other major currencies, but we have to remember that the nation is still posting external surpluses, albeit by declining margins. If Japan artificially pushed down the yen's value, it would be criticized for pursuing its own self-centered interests.

Japan's domestic prices will have to come down to a level on a par with international standards if the nation pursues trade liberalization. What is happening is not deflation, but the normalization of a previously regulated pricing system.

There is no doubt that declining prices will have a deflationary impact, and measures of course should be taken to ease the pain. But unlike the depression that hit Japan in the early Showa period, today's Japanese economy has a resilience that can withstand such pain.

That resilience shows in the famous brand-name shops opening, and in the continued rise in Japanese going abroad. After all, Japan remains a major creditor country.

The only way Japan can achieve an economic revival is to make steady efforts at corporate restructuring that will allow companies to earn profits despite a fall in prices to international levels. Sectors that have neglected such efforts, as well as the politicians they back, vocally complain about the pain of reforms. But Japan's "lost decade" resulted from policymakers succumbing to those complaints and making the wrong decisions.

There is no easy road to reform, and Japan still has the resilience to weather the pain and revive itself. However, while it is of course necessary to take adequate measures to cope with the shocking terrorist attacks, this should not be used as an excuse to postpone reforms. I hope the nation's lawmakers realize this as they attend the upcoming Diet session.

Teruhiko Mano is an adviser to Tokyo Research International Ltd.


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