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Us japan bubble { October 2 2002 } Original Source Link: (May no longer be active)
http://www.naplesnews.com/02/10/business/d826888a.htmhttp://www.naplesnews.com/02/10/business/d826888a.htm
Japan and U.S.: Bubble, bubble, toil and trouble
Wednesday, October 2, 2002
By DAVID LEONHARDT, New York Times News Service
With the U.S. economy still sputtering and the Federal Reserve divided over whether to cut interest rates again, foreboding comparisons between the United States and Japan are gaining a renewed currency.
Japan's stock market and real estate bubbles began losing air in 1990, almost exactly a decade before stocks in the United States peaked, and the country has still failed to recover fully. The Japanese market remains near an 18-year low, consumer prices are falling and the central bank has already cut interest rates to near zero, limiting its ability to lift the economy.
Few policy-makers or economists expect the United States to fall into the same trap, largely because the U.S. bubble never reached the same size as Japan's and U.S. financial and political systems appear more flexible. Still, numerous signs suggest that the United States could suffer a postbubble hangover that lingers for at least a few years.
Although stocks rallied Tuesday, the overall market is still likely to decline this year for the third consecutive year, its longest losing streak since 1939-41.
None of the U.S. economy's three engines — consumers, businesses or the government — appears poised to propel the nation sharply ahead in the near future. After the economy grew at a moderate pace this summer, business spending on new factories and equipment has weakened again in recent weeks, and large retailers warned this week that their September sales were lower than expected.
"It takes more than a bubble to become Japan," said Adam Posen, a former Fed staff member and a senior fellow at the Institute for International Economics in Washington. "But there's no question that the props for keeping up growth are going away."
The Fed is clearly concerned that it is flirting with danger. The risk remains small that the economy will remain in the doldrums for years, but the weak demand for new goods has caused prices nearly to stop growing and presented perhaps the single biggest economic threat: deflation.
If the U.S. economy grows less than many forecasters expect, prices could begin falling and set off a dangerous chain of events similar to the one afflicting Japan. Consumers there have cut their spending, waiting for future bargains, and some are unable to pay off debts that are effectively growing more burdensome by the month.
Reflecting the seriousness of the debate in the United States, two top Fed officials dissented last week from Alan Greenspan, the chairman, and voted to reduce interest rates again. Having cut rates 11 times last year to lower the cost of borrowing, the Fed has helped prop up the economy but has yet to end the downturn altogether.
"I don't know at what point welcome disinflation might morph into unwelcome deflation," Robert D. McTeer, the president of the Dallas Federal Reserve and one of the two dissenters, said in a speech on Monday. "I don't think we're there yet."
"But that really doesn't much matter," McTeer added, "because I do believe faster real growth is essential." Promoting faster growth will also ward off deflation, he said.
In a study of the lessons to be learned from Japan's decade-long slump, Fed economists said this summer that governments should take extraordinary steps to support prices — like deep rate cuts or new spending — when falling prices become a serious risk. Deflation is often difficult to anticipate and far harder to end once it has started than it is to prevent in the first place, the study said.
Greenspan and most economists say the economy is growing quickly enough to avoid deflation. "Despite the draining impact of a loss of $8 trillion of stock market wealth, a sharp contraction in capital investment and, of course, the tragic events of September 11, 2001, our economy held firm," Greenspan said last week in a speech in London.
Although both countries have huge capitalist economies, Japan and the United States also differ in important ways.
Equity markets, which tend to pull their money quickly from failing companies, dominate corporate finance in this country, while banks, which often must make concessions to avoid foreclosures, dominate in Japan. The United States also has a two-party political system that, by design or happenstance, has injected much more money into the economy recently than Japan's ruling party did at the start of its slump.
Meanwhile, the Fed has cut interest rates more quickly than Japan's central bank did. Unlike the Bank of Japan, the Fed can still significantly cut its benchmark interest rate, now at 1.75 percent.
The biggest similarity may be that many people in both countries came to see their own economy as recession-proof at the height of the respective booms and sent stocks to unsustainable prices as a result.
"In both cases, people had decided that the structure of the economy had changed fundamentally," said Jeffrey A. Frankel, an economist at Harvard and a former adviser to President Bill Clinton. "People thought they found the secret to eternal youth."
The troublesome signs of the last few weeks have increased worries that the U.S. economy could follow a similar, if perhaps less harsh, path to Japan on the downside of the boom, too.
Investors have sent the interest rate on 10-year Treasury notes to about 3.7 percent, near a 40-year low. The level suggests that the economy will either dip into a new recession soon or grow only mildly for the next few years.
"The U.S. economy has become the big growth engine that won't," said Edward F. McKelvey, a senior economist at Goldman Sachs.
Consumers have continued to increase spending throughout the downturn, however, and Americans' optimism and willingness to take on debt make them unlikely to curtail their shopping to the degree that Japanese have, economists say. But with stocks and incomes both down, consumers here have begun to hold onto more of their money, increasing their savings rate to just 4 percent in recent months, up from less than 3 percent at the end of the boom, according to the Commerce Department.
Given that the savings rate usually hovered between 8 and 10 percent in the 1970s and '80s, it could rise further.
"There is a slow change taking place in consumers," said David A. Levy, a longtime bear and the chairman of the Jerome Levy Forecasting Center in Mount Kisco, N.Y. "Consumers are going to lose the idea that they can count on their stock-market portfolios to save for them."
The government has also helped growth over the last year, with federal agencies creating new security programs and states continuing projects begun during the boom years. Now, however, many states face budget deficits and are required by their constitutions to close them through spending cuts or tax increases.
Businesses have been cutting their spending and payrolls for almost two years and yet remain saddled with too much capacity.
With a glut of goods in many industries, inflation has now fallen low enough that an unexpected economic shock could cause a broad range of companies to cut prices in order to sell their goods, economists say. In the last year, consumer prices have increased about 1 percent, one of the smallest annual growth rates since the early 1960s, according to the Commerce Department.
One possible shock would be a new wave of corporate scandals that further unnerved investors and froze both business and consumer spending. "The most worrisome parallel" between Japan and the United States, Posen said, "is the lack of control that boards and outside investors had over companies."
In Japan, many individual investors have simply given up on stocks. The Nikkei 225 Stock Average closed Tuesday at less than 25 percent of its peak, which came on Dec. 29, 1989. Here, many investors have grown nervous and taken some of their money out of stocks, but remain confident enough that stocks are still more expensive than they were for much of this century, based on the ratio of their values to corporate earnings.
Another shock would be a sharp rise in mortgage defaults — caused by a spike in oil prices, for example, or another hit to consumers' budgets — that could lead banks to cut back on lending and lead home prices to fall. Since 2000, the rise in real-estate values, while still mild compared with the sharp increases during the 1980s in Japan, has allowed many households to take out larger mortgages and then spend the new cash.
The most likely outcome, however, is an economy that grows more quickly than Japan's but more slowly than the U.S. economy of the mid to late '90s, many forecasters say.
"In Japan, the entirety of balance sheets collapsed," said Robert J. Barbera, the chief economist at ITG/Hoenig, a technology and investment company. "From stocks to land to gold-club memberships, everything fell 70 to 90 percent."
"We have a very defensible system, but we got too giddy, and we had a bubble," he added. "The immediate future is pretty pedestrian."
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