The Japanese Experiment

NEWPORT BEACH – After years of tweaks, Japan has now initiated a major shift in its policy paradigm, with reactions ranging from great optimism that the country may finally be lifted out of a quarter-century of economic stagnation, to concerns that the authorities’ dramatic change of course may in fact end up making things worse. But, while debate naturally focuses on Japan’s economic, financial, and political maneuvers, the tipping point could well lie abroad.

Prime Minister Shinzo Abe’s new government has embraced a revolutionary (rather than evolutionary) economic-policy approach that engages several initiatives, some of which were once deemed implausible, unthinkable, or even undesirable. From the doubling of the money supply to additional fiscal stimulus and wide-ranging structural reforms, the new policy paradigm is nothing less than one of the boldest economic-policy experiments in Japan’s post-war history.

To demonstrate their seriousness, Japanese officials moved quickly to commit to measurable metrics. On the policy input side, they have specified and begun to implement purchases of securities totaling $75 billion per month (three times as much, in relative terms, as the US Federal Reserve currently purchases under its unconventional monetary-policy regime). On the output side, and after many years of persistent deflation (prices fell 0.5% last month), Japan is now targeting a 2% inflation rate within two years, thus underscoring its commitment to avoid a pre-mature withdrawal of monetary support for growth.

Already, financial markets have responded with alacrity. The Japanese equity market is up an impressive 55% since hints of the paradigm shift started hitting investors’ radar screens. At the same time, the Japanese yen has depreciated sharply, including by more than 20% against the struggling euro.