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The world’s second-largest economy is officially in deflation now. The price level is falling primarily because of overproduction (partly due to weak exports) and Japanese consumers expecting a further decrease in prices, therefore delaying  purchases and saving even more.

The problem is the Bank of Japan can’t really do much about it because the Japanese central bank’s key interest rate is already close to 0%.  To avoid such a difficult situation, the U.S. Federal Reserve not only lowered interest rates but also injected huge amounts of cash into the economy.

Throughout the 90s and early 2000s deflation persisted in Japan after the real estate and the stock market bubbles popped in 1989/90. Asset prices had been falling for more than a decade, banks had to write off many loans to insolvent companies and real estate investors, thus reducing lending and weakening the economy. Cheap consumer goods imported from China further reduced the general price level and Japanese consumers increased their savings. These developments led to what is called Japan’s “Lost Decade”.  Japan’s economy had stagnated for more than one and a half decades before it fell into recession after a short period of moderate economic growth. Government measures aimed at tackling the crises have raised Japan’s debt to a  stunning 200% of GDP. Much of the government injections went into infrastructure projects. Even in the remotest areas of the country, high-speed railroad tracks, highways and bridges dominate the landscape. These huge concrete structures in newly developed city centers or industrial estates caught my attention when I traveled around Japan in June this year. While Tokyo is notoriously crowded, cities like Fukuoka, Nagoya and Kobe have plenty of new urban developments that appear to be lifeless.

On June 6th, I spent a day in the south-Japanese city of Fukuoka. While on sunny summer days the vast beaches tend to be rather crowded, I was one of the very few people who wandered around in the district of the city which is called “New Fukuoaka City”. Right on the beach was a futuristic but half-empty office skycraper, an oversized hotel operated by JAL and a gigantic baseball stadium. A group of young Japanese girls was practicing a dance in front of the skyscraper as they could watch themselves in the reflective facade. Beneath a palm tree, a freshly married couple was waiting for a photographer to take a picture of them. A women was practicing Tai Chi at the water line. The beach was nice and the water warm enough to swim, palm trees lined the corner of the square in front of the skyscraper, however, the whole scenery was somehow dull and artificial. I spent the rest of the day in a robot museum which was nearby.

Fukuoka, Japan

Now it looks like the financial crisis finally turned Japan’s lost decade in two lost decades. Even though the country climbed out of recession in the second quarter, growth will remain sluggish for years to come.

Two lost decades… So far, so bad. But Japan is still one of the wealthiest countries in the world. Unemployment is relatively low,  the only city I can think of that is cleaner than an average Japanese city is Singapore and crime rates are as low as usual for Japan.

Although two lost decades and more than 16 years of stagnation sound like consumers had scaled back their spending dramatically, a visit to Tokyo proves the opposite.

It is true that consumption has stagnated for almost two decades, but at an extraordinary  high level!! Several times I passed a Forever 21 store in the trendy Tokyo neighborhood of Harajuku and whenever I went past that store within several weeks, there was a long line of Japanese girls who were eager to get into that store. Once I even watched two police officers taking care of the line because the shopaholics were about to rush the store. I witnessed similar scenes not only in Tokyo and not only in front of Forever 21 stores, but in multiple places all around Japan.

Japanese consumers  continue spending a fortune on fashion, luxury items and all kinds of electronic gadgets. If you doubt it, go for a walk through the Tokyo neighborhood of Akihabara which is also known as “Electric City”. There you can become a part of the hunt for the latest gadgets that will hit the markets in Europe or the U.S.A. 10 years later if ever.

The bottom line is that while prices may be falling and demand is not yet picking up again, the general price level in Japan is still high and Japanese consumers are shopping addicts. Tokyo is the most expensive city in the world and this won’t change anytime soon. For this frugal convenience store breakfast consisting of mango juice, an apple yogurt, a chocolate pancake wrapped in plastic and a Japanese pastry filled with Azuki - a paste of sweet Azuki beans - I paid $16!

Japan as it pulls out of recession is debt-laden, unemployment is still managable but many full-time jobs were replaced with part-time jobs. The new government under Prime Minister Hatoyama is more progressive than the previous one of the LDP (Liberal Democratic Party of Japan) which had been in power for almost 54 years.

The cabinet is pushing the central bank to purchase more government bonds to provide more liquidity and halt deflation by pushing up price expectations. Besides, the government could need a moderate inflation to bring down the out-of-control debt burden which has grown to twice the size of Japan’s economy.

When it comes to fighting deflation consumer’s price expectations are key. As long as consumers expect falling prices, they will postpone spending and make the situation even worse. Conversely, once the majority of consumers expects prices to climb, they will increase their spending and stabilize the economy.

More about my trip to Japan:

Category Japan

http://www.whatmattersweblog.com/category/japan/

This entry was posted on Saturday, November 21st, 2009 at 11:05 AM and is filed under Economy, Japan. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.