Japan’s Economic Stagnation Continues

The economy of Japan is facing significant challenges

Abenomics – the series of policies put forth by Japanese Prime Minister Shinzo Abe – is facing a difficult test as negative interest rates, an aging population, and a stubborn Yen have created serious headwinds to growth. As a result, Japan’s economic stagnation continues.

Consisting of the “Three Arrows” – structural economic reforms, monetary easing, and fiscal stimulus – Abenomics was packaged as the path to growth for the Japanese economy mired in long-term stagnation.

With Japan poised to lose millions of people per year – as an aging population is not replenished through immigration or a high birth rate – they are simultaneously facing population decline in overall terms, and a declining workforce.

These challenges have led the Japanese government to take desperate measures.

Japan’s experiment with negative interest rates is not going well

After efforts to devalue the Yen and spur exports failed to have the desired effect, Japan has implemented negative interest rates, a policy which benefits borrowers and punishes savers. Unlike the situation we have come to expect normally, where the bank pays you interest for keeping money in your savings account, negative interest rates means the bank actually charges you for holding on to your money. Thus, the value of your money declines over time, instead of growing.

This is meant to discourage saving and spur spending, thus stimulating the economy. Unfortunately for Japan and the other central banks that have considered negative interest rates, this has not gone as planned.

Negative interest rates are a sign of central bank desperation

Around the world many central banks have lowered interest rates, printed money, and pumped money into financial institutions. And yet, growth is still sluggish. Everything they have done is – at its core – a desperate attempt to get people to spend money. But as much of the global economy continues to stagnate, central banks are running out of ideas and running out of ammunition to spur growth.

Negative interest rates are a hail-mary by central banks. And Japan, having struggled through two decades of stagnation, is one of the most desperate.

What if Japan just can’t fight a declining population?

The problems facing the Japanese economy are directly linked to their declining population. After all, wouldn’t we expect a country with a declining population to also have a declining economy? And if people expect the economy to decline, they would expect prices to decline, and this would lead to deflation.

Japan is trying everything to stop deflation

The desperate measures being taken by Japan make sense when we consider the fear of deflation (declining prices). While lower prices may seem like a good thing, they can have a devastating effect on an economy.

Consider this: Imagine that you expected the price of the new iPhone to decline 10% by next week. You would wait until next week to buy it.

But what if next week you expected the price of the new iPhone to decline by 5% in the upcoming week? You would probably wait until next week to buy it.

Every week you wait to buy the new iPhone – and many other products that were declining in price – would be a week where stores lost sales, lost money, and were forced to lay-off staff. There would be fewer people earning an income, so demand for products would go down even further. Some stores would lower prices in desperation, causing people to keep on waiting for better and better deals. This would become a vicious cycle, a cycle that could destroy the economy.

This is a tragedy of the commons problem – behaviour that would be rational for each individual would be disastrous collectively.

Deflation is also a psychological problem, which is why most central banks aim for at least 2% inflation to keep the economy functioning steadily.

With a declining population and shrinking workforce, Japan is desperately fighting the psychological perception that their economy is going to shrink. So, while we talk about money, Japan is really fighting a mental battle against its own people, and negative interest rates are a weapon of last resort.

Abenomics’ failure to spur growth is part of a larger problem


Countries that have implemented Negative Interest Rates
Photo credit: Thomson Reuters, U.S. Global Investors

As you can see in the chart above, Japan is not the only country trying negative interest rates. The continued failure of efforts to spur growth are a sign that something is fundamentally wrong with our economy. Gimmicks like negative interest rates are not the answer.

Despite the best efforts of the government, Japan’s economic stagnation continues and the system is in trouble

When you’re down to almost forcing people to spend money, you know things aren’t going well. Japan has thrown everything they have at their economic woes, but nothing seems to work. This should come as no surprise. It is nearly impossible to get your economy to grow when your population and workforce are both rapidly shrinking.

Until Japan can get a handle on those two problems, economic growth will remain elusive.

Follow Spencer Fernando on Twitter: @SpencerFernando

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