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Monday, June 28, 2004

JAPANESE PERSPECTIVES

Decline in savings rate a warning to reform-resistant politicians


As Japan continues to maintain a current account surplus, it will remain subject to overseas criticism that its people should spend more and save less. However, the truth is that Japan's savings ratio has rapidly declined over the past decade. Let us look at some data and discuss why this is happening, and what should be done.

First of all, Japan's savings ratio, which stood at 15.1 percent in 1991, has dropped to 6.4 percent, according to the latest data available, and the pace of decline has accelerated in recent years.

Unlike Japan, the United States has long been criticized for its savings shortage. Americans are blamed for spending too much and thus incurring current account deficits -- one major reason behind the dollar's instability -- and have been urged to save more. Japan's current savings ratio is, of course, still higher than the roughly 4 percent observed in the U.S., but substantially lower than France's 12.2 percent and Germany's 10.4 percent.

Why is this happening? There are two key factors -- declining incomes and the aging of Japan's population.

The aggregate disposable income of Japanese households dropped from 314 trillion yen in 1999 to 297 trillion yen in 2002. Savings, a variable dependent on income, will naturally decline. At the same time, however, household expenditures have remained stable over the years. This means people are tapping into savings to maintain their current living standards, thereby lowering the savings rate.

A closer look at the data shows that adults under the age of 29 maintain a savings ratio of nearly 20 percent. This contradicts the widespread perception that young people are aggressively using their credit cards and not saving as much money as the older generations did.

Also, the savings ratio for households of gainfully employed people aged 60 or older stands at around 10 percent. On the other hand, the overall savings ratio for households of people aged 60 or older -- including those without jobs -- has dipped into negative territory -- an indication that many of these people are rapidly using up their savings.

One of the reasons behind this development is a recent change in the tax code that was made to help elderly people donate their assets to their children while still alive. Since the elderly comprise a large portion of the population, changes in their financial behavior have contributed to the sharp reduction in Japan's overall savings ratio.

What impact has the decline in household savings had on the overall economy? Because prices in Japan have declined in recent years, consumer spending leveling off effectively meant people were buying more. But with the economy picking up and crude oil prices surging, inflationary pressure is growing. This is why United States Federal Reserve Chairman Alan Greenspan is contemplating an interest rate hike and why the Group of Eight leaders discussed oil prices at the annual summit. Inflation will require people to further tap into savings. This will have a particularly serious impact on the elderly, who cannot expect to earn more simply because the economy is picking up. This is why pension reform has become a major campaign issue for the upcoming House of Councilors election.

Of course, it is not a bad thing for people to tap into savings. That's what savings are for. An increase in withdrawals may mean consumers are spending more, thus giving more momentum to the economic recovery. But the overall situation of the Japanese economy does not warrant unguarded optimism.

Financially strapped central and local governments have incurred huge debts that are being financed by household and corporate savings. Overall, Japanese companies currently have a surplus of funds, but that may drop into negative territory as they boost investment in line with the economic recovery. The only reliable source of funding, therefore, is household savings.

Fortunately, what Japan is witnessing today is a slowdown in the accumulation of savings. But as recent government statistics show, the birthrate has dipped below 1.3, and the aging of Japan's population is expected to accelerate. If people continue to dip into savings, the absolute volume of savings will decline, and there may come a day when household savings will be insufficient to make up for the deficits of the national and local governments. Japan will then tap into its foreign currency reserves, and such a development will naturally affect the U.S. economy as well.

To prepare for such a crisis, the government needs to cut back on the wasteful and inefficient spending rampant in the public sector. It also needs to change its export-oriented ways, in which a resource-scarce nation uses much of its imported resources to manufacture exports and ends up earning profits in foreign currencies.

The essence of structural reform should be the channeling of more of Japan's savings and available resources into domestic investment. The decline in the savings ratio is a warning sign telling us that we cannot afford to waste any more time.

Teruhiko Mano is a professor at Seigakuin University.


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