Misunderstanding Japan, Misdiagnosing America
Something about Japan brings out the rhetorical worst in the U.S. political class. When America was down in the late ’70s and early ’80s, and our island ally was way, way up, Washington moaned about the inevitable loss of our economic leadership to Tokyo. Now that America is down once more, our politicians are again pointing to Japan – though this time not to a country riding high, but to the Japan that fell hard after its post-war boom.
Twenty-five years ago, our political class hectored America that our only hope was to become more like Japan. Today, they warn darkly – as did Hillary Clinton recently – that the U.S. is on the path to becoming more like Japan.
It may sound contradictory, but there is a common thread: the policy programs once proposed to resemble Japan and now proposed to avoid her fate are virtually identical – as well as unworkable, and counter-productive.
In the days of “stagflation,” John Kenneth Galbraith and others pointed across the Pacific to the tightly regulated Japanese economy and lauded the close relationship between big government and big business. Therein lay America’s salvation, we were told.
Except the United States found salvation elsewhere, within ourselves, in our own uniquely American entrepreneurial spirit. And – unhappily for those always pining for central planning – to the extent that our economy was saved by direct action, it wasn’t more interference that did the trick, but a conscious choice to have less. And other factors that made a difference were largely unplanned, unforeseen, and bottom-up.
Deregulation stimulated entrepreneurial activity across the economy, in virtually every sector, from the biggest corporations to the smallest start-ups. It had a particularly revolutionary impact on the financial markets. Michael Milken's innovative way of breaking apart huge underperforming conglomerate companies – much derided at the time – gave the entire capital market a jolt of energy that continues to this day. It also pushed issues of corporate governance and performing for shareholders front and center.
As to the happy accidents, a case in point is the Employee Retirement Income Security Act (ERISA), passed by Congress in 1974. This law, among other things, established individual pension vesting. Later amendments effectively created the venture capital industry. As the economy worsened, engineers and other creative workers found that they could leverage their pensions to take risks on new ventures. Needing partners, they found them in the form of a new kind of co-risk taker: the venture capitalist.
Another happy accident arose from the Bayh-Dole Act. This legislation – not intended to encourage economic recovery – ended up doing exactly that. By clarifying that the results of federally supported research would be the intellectual property of the inventor (or his employer) and not the government, it provided a huge boost to human capital innovation. The incentives for discovery this law created continue to pay off every day.
America did not emerge from stagflation by becoming more like Japan, but by returning to its entrepreneurial roots. Yet now, our politicians tell us, America must avoid becoming more like Japan by turning our backs on those roots.
The list of prescriptions is wearying: more government regulation of the credit markets, new oversight for investment banking, consolidate government control of the public equities markets, develop housing scores, force consumers to listen to lectures before they buy a house, create mortgage guaranty funds, and on and on.
It’s not exactly a solution in search of a problem – no one can doubt that America’s economy in general, and the financial markets especially, are in a rough patch. But it is the wrong solution, for a problem that is not nearly so dire as the central planners suppose.
Focus on the credit crunch alone and things look dire indeed. But consider some of the other fundamentals. Over the last 25 years, America has enjoyed a period of enormous growth in productivity. Employment has been stable and close to full – a far cry from the 10 percent unemployment at the low point of the stagflation era. Nor do we suffer anything like the annualized CPI inflation rate of 13 percent.
In addition, the U.S. today can boast something that it didn't have in 1980. Since then America has rediscovered entrepreneurial capitalism. Entrepreneurs are the bedrock of our growth. They are responsible for most innovations, and thereby for the creation of most new jobs and new wealth. In fact, since the early 1980s, during which time America weathered three recessions, nearly all net new jobs created came from firms less than five years old.
So, to bring a quick end to this recession, the best thing the United States can do is get out of the way of the entrepreneur. If government must act, it should make entrepreneurship more attractive and more viable for more Americans. It could relieve new start-up businesses of some of the tax burdens they face at the state and local level. It might relax labor rules for new firms for the first few years. It could create an expanded program of wage insurance for displaced workers. (Such a system would create a stronger incentive for finding work than the current system of unemployment benefits and, from the entrepreneur’s perspective, might boost the velocity of workers eager to augment their skills or learn new ones on the job.)
Finally, government could lower immigration barriers for highly skilled workers so that some of the brightest engineers and innovators in Japan and elsewhere could come to the U.S. and help us show the world that entrepreneurial capitalism – American style – is worth a second look.