Abe’s Bullseye

TOKYO – Japanese Prime Minister Shinzo Abe has unveiled his long-awaited growth strategy – the so-called “third arrow” of what has come to be known as “Abenomics.” A preliminary version of the plan, announced to Japan’s Diet last year, was met with disappointment in international financial markets, which had expected a bolder approach. The new version is far more robust – and has received a far more positive global response.

Over the last 18 months, the first and second arrows of Abenomics – consisting of expansionary monetary and fiscal policies – have achieved considerable success in spurring Japan’s economic renewal. For starters, they have fueled price growth, with the GDP price deflator declining from 3% to nearly zero.

Moreover, the ratio of job openings to applicants, which fell to 0.4 under Japan’s last government, led by the Democratic Party of Japan, is now approaching 1.1. Indeed, Japan is beginning to show signs of a labor shortage.

But the limits of Abenomics’ first two arrows will soon be reached. With employment rising as Japan’s economy moves toward realizing potential output, monetary stimulus will create inflationary pressures and public expenditure will yield sharply diminishing returns. At that point, significant growth can be achieved only by increasing the economy’s real productive capacity. That is what Abe’s new growth strategy aims to achieve.