Prevention And Crisis Management: Lessons For Asia From The 2008 Crisis

Lessons for Asia from the 2008 Crisis

Steven Rosefielde, Masaaki Kuboniwa, Satoshi Mizobata

• Publisher: WSPC
• Year: 2013
• ISBN:
  9789814483933
• Topic: Biological Sciences
• Subtopic: Science General
• Index: Biological Sciences

Four years have passed since the onset of the 2008 global crisis, and although some believe that there may be a second down draft soon, attention has shifted from crisis narration to assessing lessons essential for preventing or managing recurrences. The exercise is worthy, but there is always the danger of preparing for the last war when the next attack takes another form. Prevention and Crisis Management addresses this problem by highlighting the future threat to Asia from a broader perspective that takes account of the Japanese and Asian financial crises during the 1990s as well as the global crisis of 2008. The enlarged framework turns out to be illuminating for two distinct reasons. First, it reveals that Asian crises take many diverse forms, and second, the solutions devised to date have only been locally and not universally effective. Policymakers are accordingly advised to always plan for the element of surprise.

Contents:

• Crises 1990–2010:
  • Asian Currency and Financial Crises in the 1990s (Steven Rosefielde and Assaf Razin)
  • The 2008–2009 Global Crisis (Steven Rosefielde and Assaf Razin)
  • Crisis in Transitioning Countries (Yoji Koyama)
  • PIIGS (Steven Rosefielde and Assaf Razin)
  • Global Default (Steven Rosefielde and Daniel Quinn Mills)
• Prevention:
  • Prevention and Counter-Measures (Torbjörn Becker)
• Threats and Deterrents:
  • Global Imbalances (Huan Zhou and Steven Rosefielde)
  • Chinese Protectionism (Jonathan Leightner)
  • China's Economic Future (Akio Kawato)
  • Optimal Asian Dollar Surplus (Eric Fisher)
  • Toward an East Asian Economic Community (Yun Chen and Ken Morita)
  • Asian Union (Steven Rosefielde, Jong-Rong Chen and Masumi Hakogi)
  • Buddhist Crisis Prevention and Management (Teerana Bhongmakapat)

Readership: Researchers, academics, graduates and general public who are interested in Asian economies, globalization, macroeconomics and international economics.

PART I

CRISES 1990–2010

CHAPTER 1

ASIAN CURRENCY AND FINANCIAL
CRISES IN THE 1990S

STEVEN ROSEFIELDE AND ASSAF RAZIN

Asia was beset by three major economic crises during 1990–2010: (1) the Japanese financial crisis of 1989–1990; (2) the 1997 pan-Asian financial crisis; and (3) the global financial crisis in 2008–2010.

The first two were primarily caused by local and regional policies. Both could have been prevented by the Asian authorities and were ultimately resolved by them with some foreign assistance. The global financial crisis was an entirely different matter. Although Chinese dollar hoarding contributed to accumulating planetary disequilibrium, the epicenter of the crisis was Wall Street. The shock that followed devastated Asian exports but, with the exception of Japan, did not have long-lasting contractive Keynesian multiplier effects. This chapter recounts the Japanese and Asian financial crises, evaluates whether they could have been dealt with better at the time and assesses the adequacy of reforms designed to prevent and mitigate recurrences.

1.1. Japan’s Financial Crisis: The Lost 1990s and Beyond

Japan was hit by a speculative tornado during 1986–1991, commonly called the baburu keiki (bubble economy). It was localized, brief, and devastating, with allegedly paralytic consequences often described as ushiwanareta junen ( two lost decades). The phenomenon was an asset bubble within an otherwise healthy economy, distinguished by low inflation and robust growth. Speculation was particular rife in land and stocks, but also extended to Japanese antiques and collectibles (such as high-quality native ceramics and lacquer ware).

The Nikkei 225 (Neikei Heikin Kabuka) stock market index, which rose from below 7,000 in the early 1980s to 38,916 on December 29, 1989, plummeted to 30,000 seven months later, continuing to fall with fits and starts thereafter before reaching a 27-year low on March 10, 2009, at 7,055. It was approximately 8,600 mid may 2012. At its height, Japan’s stock market capitalization accounted for 60% of the planetary total, now it is a pale shadow of its former glory. The real estate story was similar. Condo prices increased 140% between 1987 and 1991, on top of already globally sky high values, then plummeted 40% by 1994.¹ At the bubble’s apex, the value of a parcel of land near the Emperor’s Tokyo Imperial Palace equaled that of the entire state of California. By 2004, prime “A” property in Tokyo’s financial district had slumped to less than 1% of its peak, with the total destruction of paper wealth mounting into the tens of trillions of dollars. The speculative frenzy predictably ended badly but also displayed uniquely Japanese characteristics.

The technical cause of the crisis was financial; an institutional willingness to accommodate domestic hard asset speculation in lieu of low, zero and even negative returns on business investment and consumer savings accounts. Corporations and households piled up immense idle cash balances during the miraculous “Golden Sixties,” and subsequent prosperity through 1985 (Johnson, 1982). They were encouraged to believe that the best was yet to come despite diminishing returns to industrial investment, and therefore seized on stock and real estate speculation as the next great investment frontier. They succumbed to what savvy Wall Street insiders called a “bigger pig” mentality, persuading themselves that fortunes were at their fingertips because whatever price little pigs paid today for stocks, real estate, and collectibles, there always would be bigger pigs tomorrow, willing to pay more. Banks capitulating to the frenzy began binge lending, rationalizing that clients always would be able to repay interest and principal from their capital gains, until one fine day when they ruefully discovered that there were no bigger pigs at the end of the rainbow. This epiphany, coupled with a panic-driven free fall in assets values and capitalization, left bankers both in a predicament and a quandary.

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¹ Bloomberg, Real Estate Economic Institute, Japan, Home Price Indices, as of March 18, 2009.

The predicament was that government regulation required them to write down the book value of their assets, contract loan activity, and pressure borrowers to meet interest and principal repayment obligations, even if this meant driving clients into bankruptcy. The quandary was that Japanese cultural ethics strongly discouraged maximizing bank profits at borrowers’ expense (Rosefielde, 2002, 2013). The Japanese are trained from birth to communally support each other through thick and thin, subordinating personal utility and profit-seeking to the group’s well being. Watching out first for number one is never the right thing to do, as it is in competitive, individualist societies. Tough love is not an option; burden sharing is the only viable course,² which in this instance meant refusing to “mark capitalizations to market,” seeking government assistance and stalling for time hoping that with patience, clients’ financial health ultimately would be restored.

The judgment was not wrong. Japanese corporations operating under the same cultural obligation immediately began earmarking revenues from current operations for debt reduction at the expense of new capital formation and refrained from new borrowings to cover the gap. Banks, for their part, not only maintained the fiction that outstanding loans were secure but also provided cash for current corporate operations and consumer loans at virtually no cost above the bare minimum for bank survival. Moreover, they kept their lending concentrated at home, instead of seeking higher returns abroad.

These actions averted the broader calamities that typically accompany financial crises. Japan did not swoon into hyper depression (GDP never fell, growing 1.7% per annum during 1990–1993),³ or experience mass involuntary unemployment. The country was not swept by a wave of bankruptcies. There was no capital flight, sustained yen depreciation, deterioration in consumer welfare (Sawada et al., 2010), or civil disorder. There was no need for temporary government deficit spending, long-term “structural deficits,” “quantitative easing,” comprehensive financial regulatory reforms, or high-profile criminal prosecutions. Interest rates already were low, and although the government did deficit spend, arguably it did not matter in a Keynesian universe because Japanese industrial workers in large companies were employed for life (shushin koyo). For pedestrians on hondori (Main Street) who blinked, it seemed as if nothing had happened at all beyond a moment of speculative insanity.

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² Westerners once knew this, but have forgotten. See Benedict (1946). cf. C. Douglas Lummis, C. Douglas, “Ruth Benedict’s Obituary for Japanese Culture,” 2007. Lummis contends that Benedict failed to comprehensively study culture among all social strata and, like Sigmund Freud, was inspired by literature and art. This is correct, but does not negate most of her insights. Available at: http://www.japanfocus.org/-C__Douglas-Lummis/2474.

³ A hyper depression is any depression greater than the Great American Depression of 1929. See Angust Maddison, The World Economy: Historical Statistics, Geneva: OECD, 2003, Table C3-b, p. 298.

However, matters look very differently to western macro-theorists and Japanese policymakers, particularly those who erroneously believe that structural deficits and loose monetary policy are the wellsprings of sustainable rapid aggregate economic growth (as distinct from recovery). Their prescription for Japan’s “toxic asset” problem was to bite the bullet, endure the pain, and move on swiftly to robust, ever-expanding prosperity. Given ideal assumptions, writing off nonperforming loans and shunning problematic loans is best because it does not sacrifice the greater good of maximizing long-term social welfare for the lesser benefits of short-term social protection. Advocates contend that the Japanese government fundamentally erred in condoning bank solicitude for endangered borrowers, and abetting banks with external assistance because these actions transformed otherwise healthy institutions into “ zombie banks” (the living dead),⁴ unable to play their crucial role in bankrolling investment, technology development and fast track economic growth.

Their claim has merit⁵ but also is seriously incomplete. It is true that Japanese growth has been impeded by “zombie banks,” deflation, the “ liquidity trap” conjectured by Paul Krugman in the 1990s,⁶ faulty banking policy (Akiyoshi and Kobayashi, 2008), and the aftermath of stock and real estate market speculation, but this not the whole story because other factors should have been stimulatory. Japan is more competitive vis-à-vis the rest of the world today on a real exchange rate base than it was in 1990. Japanese inflation during the 1990s and 2000s has been nonexistent, while it was in the mid single digits abroad. Moreover, the government has tenaciously pursued a zero interest, loose credit policy, in tandem with high deficit spending that has raised the national debt to 229% of GDP. If Japan’s growth retardation were really primarily due to insufficient “zombie bank” credit, government stimulus should have mitigated much of the problem.

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⁴ Caballero, Hoshi, and Kashyap contend the zombie banks crowd the market and the resulting congestion has real effects on the healthy firms in the country. They find the cumulative distortionary impact of investment and employment to be substantial. See Ricardo J. Caballero et al. (2006). cf. Akiyoshi and Kobayashi (2008). For a detailed historical review of the Japanese banking crisis see Kanaya and Woo (2000).

⁵ Miyajima and Yafeh (2007). The authors find that small, undercapitalized firms were the primary victims of the credit crunch. These firms contribute little to Japanese productivity growth, undercutting the claim that the financial crisis caused Japan’s two lost decades.

There is a better explanation for Japan’s two lost decades that has little to do with two concurrent and isolated speculative incidents, one in the stock market, the other in real estate with scant sustained effects on production and employment. The advantages of Japan’s postwar recovery and modernizing catch up diminished steadily in the 1980s and were fully depleted by 1990, when its per capita GDP hit 81% of the American level. Thereafter, Japan’s culturally imposed, anticompetitive restrictions on its domestic economic activities became increasing pronounced, causing its living standard to diminish to 73% of America’s norm.⁷ Japan, at the end of the 1980s, was poised to fall back, with or without a financial crisis, and it is in this sense that the two lost decades are being erroneously blamed on the bubble and its “zombie banking” aftermath.⁸ Yes, there were eye-popping speculative stock market and real estate price busts, but they were not the national economic debacles they are usually painted to be, either in the short or intermediate term.

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⁶ Paul Krugman contends that after Japan’s bubble burst savings rose (consumption collapsed) and the natural interest rate (needed for full employment general equilibrium) turned negative, the money interest rate reached the lower bound of zero, rendering monetary policy impotent. The actual real inte...

Table of contents

• Front Cover
• Half Title
• Title
• Copyright
• Dedication
• Contents
• Preface
• Acknowledgments
• List of Contributors
• Introduction
• Part I Crises 1990–2010
• Part II Prevention
• Part III Threats and Deterrents
• Prospects
• Index