When Economists 'Try', It's Generally Kind of Ridiculous
When the Abe government first came to power in Japan under the banner of Abenomics, the Bank of Japan and the yen received all the attention but it wasn’t supposed to be that way. There were initially three arrows to the reform agenda, and many argued that the other two were more important. The introduction of QQE was the headline, but fiscal expansion as well as structural reform was what would make or break Abe.
The Abe government survived, however, even though there never were so many arrows. The LDP landslide in July last year was simply stunning because Abenomics overall amounted to no meaningful difference, apart from a good case to be made that especially its first QQE arrow made economic life in Japan appreciably worse (household spending and incomes). The ruling government was handed a supermajority in national elections anyway in what was a reverse of sorts of Japanese political instability that prevailed throughout much of the early years of Japan’s (first) lost decade.
Many observers believe that last year’s hustings were less about economy, at least directly, and more about other factors related to voter resignation over it. A key feature of the Abe government away from Abenomics has been what is often described as muscular nationalism. Given Japan’s history, this is quite controversial. It is also perfectly in keeping with historical precedence in places both like and unlike Japan. Prolonged stagnation breeds discontent that can either be channeled productively as necessary reform, or unproductively in uncontrolled demolition in the form of social disorder, anarchy, and war.
The quandary faced by the incoming Abe government in 2013 from the outside seemed a very Japanese one. The Bank of Japan was by no means a stranger to ZIRP or QE, having pioneered both more than a decade before. The fiscal arrow, too, wasn’t so much anything different, either. In fact, the biggest challenge for “fiscal stimulus” was finding ways in which to spend whatever money might be allocated. As one Reuters article put it in February 2013, “But with its gleaming bullet trains, jungles of elevated highways and strings of man-made islands, ultra-modern Japan doesn't appear to want for much.” Except for a functioning economy, that is.
It is that last part that has stirred debate amongst Economists and politicians for so long that many of them have changed their positions from one side to the other and back again. The most consequential voice, perhaps, has been that of Paul Krugman, who on several occasions has consulted with the Japanese government likely as to his emotional discontent over what he calls “austerity.” In his view, anything short of total fiscal irresponsibility can be classified in that way, given the dire nature of global economic conditions.
It is not a position he always championed. In 1999, for example, he wrote the following while at MIT:
“The phrase ‘self-sustaining recovery’ trips lightly off the tongue of economic officials; but it is in fact a remarkably exotic idea. The purpose of this note is to expose this hidden exoticism - to show that anyone who believes that temporary fiscal stimulus will produce sustained recovery is implicitly endorsing a rather fancy economic model, the sort of model that finance ministries would under normal circumstances regard as implausible and disreputable.”
Then why would he embrace Abenomics, writing at its outset that, “In short, Mr. Abe has thumbed his nose at orthodoxy, with excellent results.” The reason you most often find for these apparent changes in position is that the Economists making them don’t find them to be changes in position. In almost every case it boils down to some argument that “the Japanese didn’t do it right.” So when a “new” program comes along, it is simply the next step toward “doing it right” that inevitably does it wrong.
Fiscal “stimulus” is the most experimentally established principle in the entire course of Economics. It has been tried especially in Japan and especially in the last quarter century more than any other idea. Yet, because of that it has been set instead far outside the bounds of science, left to undo empirically-established, emphatically negative interpretations with “jobs saved.” For every instance where fiscal spending creates no detectible positive economic results it is “explained” in terms of the undetectable – “it would have been worse without it.”
A full part of the justification for that belief is the timing of when “stimulus” is most often instituted – right at the end of a recession. The reason for that is similar incompetence, for Economists and political officials never see recession (or depression) coming, argue about it while it is building and sharpening, and then finally act usually when the economy is near, at, or even past its nadir. Thus, the economy bottoms and starts back upward again right around the time “stimulus” is introduced. That was certainly the ARRA in 2009, whose proponents claim that though it didn’t come close to mutatis mutandis standards of positive action, it must have been ceteris paribus the very thing that prevented the Great “Recession” from becoming the second Great Depression.
That is the same argument that has been made in Japan, repeatedly, and in many ways the same one Krugman was making in 1999. Japan in the 1990’s was in such bad shape that whatever fiscal “stimulus” they did may have left the country with a lost decade, but at least it wasn’t one of complete catastrophe like the 1930’s. It is hard to take these claims seriously, however, given that scientifically established principles are supposed to lead to predictable outcomes, so that whenever inevitably “stimulus” is offered up if “jobs saved” is the best it can do that should have been what was stated at the start. It never is; full recovery is always promised each and every time, and then retroactively“stimulus” is downgraded to “it would have been worse.”
Perhaps that is the failing of politics, where politicians regularly make the mistake of overpromising what can’t be delivered. There is, as always, some truth to it, as politics is by its very nature susceptible to declaring what it reasonably should never claim. But Economics especially with econometrics at its base never seems to be able to forecast that case. With so many regressions and mathematical computations, you would think the Krugman’s of the world would warn Japanese Prime Minister Abe in early 2013 to stop claiming Abenomics will create 600,000 jobs, as he did, because all the models show that the best case upper bound is where it will only “save” a few hundred thousand.
The reason Krugman, in particular, was instead so enthusiastic about Abenomics then was that it seemed to finally conform to his view of necessary. There are, to Economists, really two kinds of problems and therefore two kinds of necessary fiscal solutions. The first is Keynes’ pyramids in the desert, a temporary bridge of government outlays so as to soften the blow of any cyclical problem so that it doesn’t get out of hand and turn into the second case. That next condition is where an economy enters a longer term rut described as insufficient “demand” (or overcapacity) where rather than allow the forces of liquidation to align supply down to demand (which these Economists believe is the Great Depression) officials must “shock” demand so that it regains a level commensurate with undisturbed supply.
That was supposed to be the three arrows of Abenomics, massive in size and scale but more importantly a promise to keep it up so that the Japanese people would believe that the government will keep going no matter what until it worked, and so start right away to act like it will work and create the long-sought recovery. It didn’t work.
It has never worked, even when it is often claimed that it did. In 1995, amidst political turmoil in Japan, when it seemed like Prime Ministers would resign every few months or so, Japanese authorities still managed to introduce not one but two “stimulus” packages. Economist Adam Posen writes in his 1998 book Restoring Japan’s Economic Growth in a chapter titled Fiscal Policy Works When It Is Tried, that the second economic package that year, in September 1995, “was a unique event in Japan.” It exceeded, by his calculations, 1.6% of GDP.
“In the end, the September 1995 stimulus package did add significantly to economic growth in 1996. Not only was the actual real GDP growth of 3.6 significantly higher than the 0.9 percent recorded in 1995, it was at least 0.9 percent higher than the growth forecasted for 1996 by all of the major international institutions and the financial consensus… There was actually no other source of positive impetus to the Japanese economy in late 1995 and early 1996 that can be identified except discretionary fiscal policy.”
The trick in Posen’s analysis is the same ceteris paribus nonsense, where he qualifies his conclusion with “that can be identified.” Japan’s economy at that time was highly unstable, shifting between at times tantalizingly good growth rates while at others depressingly negative all over again (this should sound familiar). In 1994, for example, Real GDP (at seasonally adjusted annual rates) fell by 4.1% in Q2, exploded by +8.1% in Q3, only to drop 4.2% again in Q4. In 1995, Q1 GDP was 2.4%, boosted to 5.9% in Q2 (coincident to the first 1995 “stimulus”), only to fall back to 2.8% in Q3 and then -0.1% in Q4. In 1996, GDP was +3.2%, +4.2%, +0.1%, and +6.0%, respectively. And then 1997 and 1998 were a disaster all over again. Posen argues that was due to “fiscal contraction”, as if the Japanese economy only rises and falls with the government budget figures.
Even if we, like Posen, attribute 1996 growth to nothing more than September 1995’s “stimulus”, it still doesn’t achieve anything more than temporary redress where temporary isn’t the problem. What good is “stimulus” if it is necessary for it to be done all the time and everywhere? At that point it is no longer “stimulus” at all, it is the marginal economy – which may be precisely the problem in Japan.
All of these arguments, white elephants, and counterfactual “statistics” were rehashed in late 2008, especially after the Presidential election that year when President-elect Barack Obama promised in transition that once in office he would undertake a “massive” fiscal program. Most Economists lined up for it, particularly Krugman (though he was cautious from the very start because he didn’t, as always, think it big enough). In his 2009 book The Return of Depression Economics, Krugman wrote, “There are, moreover, reasons to believe that stimulus through public spending would work better in the United States, if done promptly, than it did in Japan.” He lists a number of factors, including how the US hadn’t fallen victim to the “deflationary mindset”, but also, as noted above, the United States unlike Japan hadn’t paved over every river bank and constructed for every medium-sized city an additional full-sized airport with which to handle just six flights a day.
This is an argument that actually predated the debate over what would become the ARRA, though in a different but parallel form. Every time textbook economics failed in Japan its failure was attributed to Japan rather than the textbook. In June 2003, at the FOMC meeting in Washington, DC, Federal Reserve officials debated taking the federal funds target all the way down to 1%, which in light of recent times may seem no big deal but at the time this was a threshold of major concern. The reason for that was Japan. Thus, the debate over those two days often drew in the Japanese experience, and in almost every case specific discussions about specific Japanese failures ended with assurances in the form of “but we aren’t Japan.”
Governor Donald Kohn keyed in on one aspect:
“Another problem in Japan was that the authorities were overly optimistic about the economy. They kept saying things were getting better, but they didn’t. To me that underlines the importance of our public discussion of where we think the economy is going and what our policy intentions are.”
Before that he had said the Bank of Japan officials erred by “lurching from one policy to the next”, and that they “didn’t give any sense of where they were going.” By these and other criticisms made, the verdict was that Japanese officials had failed in ways that US officials would not when presented with the same circumstances. Yet, when US officials were presented with the same circumstances only a few years later they proceeded to demonstrate that the problem wasn’t ever Japanese execution of “stimulus.” The Fed essentially made the very same mistakes that they had criticized Japanese officials for, and not that long before.
Moreover, despite all assurances that because of these factors and US differences the US economy would never, ever become like the Japanese economy, here we are anyway. We were promised that rates would never drop to zero, and then that they wouldn’t stay there, but even though the Fed has moved the federal funds band by 50 bps in the past two years interest rates in the US are no different than rates as they were in Japan in the 1990’s and early 2000’s (the Bank of Japan managed a couple rate hikes, too, along the way). We were promised there would never, ever be a lost decade here, yet the economy last peaked in 2007 and it hasn’t been the same since; by my math, that is just about ten years ago and here we are still debating as if it is still January 2009.
Even the Chinese are involved now, though this isn’t something new to them. Last year, Fixed Asset Investment of State-owned Enterprises was boosted by RMB 1.45 trillion, or about 1.9% of 2016 accumulated China GDP. Such massive “stimulus” produced exactly what you would expect (if you are not an Economist), nothing. That followed a 2.0% of GDP “stimulus” in 2012 that produced exactly what you would expect, nothing. China’s industrial production is today stuck at 6% where to end 2011it was 13%; retail sales in December 2016 in China grew by less than 11%, where in December 2011 they had grown by 18.1%. Even China’s highly managed GDP figure was in 2016 the lowest since the 1990’s.
This will keep happening so long as “stimulus” remains the only option. That was the lesson that should have been learned from the Japanese experience. Instead, as I wrote Wednesday with regard to the coming debate about the next US “stimulus”:
“Hypocrisy will be standard fare, and in any number of ways. For every Occupy Wall Street Obama supporter who found himself likely for the first time in his life enthusiastically embracing ‘record high stocks’ in 2013 will now be replaced by an ARRA-hating Republican who today screams Dow 20k in anticipation of Trump’s version of it.”
Rather than become attached to the guy who proposes it, perhaps we should evaluate instead the mountain of empirical evidence stacked uniformly against all of it. For in appreciating that consistency we might appreciate others. There is one common element in all these failed regimes and the “lost decade” economies that come with them. From Japan to China to Europe to the US, the only unifying component across so many different geographies and at such long time intervals is unstable money (and I don’t mean the exchange value of the yen). The only, and I mean only, other factor that is so similarly uniform are these repeated failures of those who refuse to even examine the possibility of a monetary explanation.
In reality, however, “stimulus” is itself not even much of an economic issue than a political one. Economists have a vested interest in unstable money, which they turn around as their own “discretion.” A stable money regime needs no Economists to run it, and is totally incompatible with “stimulus.” We would expect an unstable regime, then, to be one replete with “stimulus” that doesn’t ever achieve what it claims to seek. Though the man initiated the largest (peacetime) fiscal spending program in our history to that point, the name Hoover conjures up very different images but sadly for all these very same reasons. He was the first to be hit with the “Japan did it wrong” excuse.
In one of his first political moves after winning reelection last July, Japan Prime Minister Abe ordered, what else, new “stimulus.” Abe, at least, can be counted on for something. Adam Posen, on the other hand, told CNBC the week after Trump’s election victory last November that he did not support any plans by the new administration to undertake fiscal policy efforts. This was a man who in the relevant chapter in his book titled it specifically so as to declare that it works when it is tried. Now, apparently, Economists are left to redefine what it means to “try”, as Posen declared these new fiscal ideas “generally kind of ridiculous.” We all, at least outside of politics and Economics, know the feeling.
