Japan's dying market economy: why Tokyo desperately needs to adopt the South Korean model.

• Author: Kanno, Masaaki
• Position: Japan

With concerns about a retreat of economic globalization stemming from the Iraq war, the market economy in Japan increasingly appears to be suffering setbacks. One of the fears is that the growing economic role of the public sector, including the Bank of Japan, being promoted as part of the government'-s efforts to tackle deflation, may lead to a paralysis of the market mechanism. What is urgently called for now is liberalization of the public services on par with the breakup of the chaebol in South Korea.

The difficulties of applying the lessons of history are keenly apparent in the recent debate on how Japan should tackle deflation. The only time of deflation in the 20th century was the Great Depression of the 1930s. The decline in prices at the time was in the double digits, well beyond acceptable levels, and monetary policy failures in the United States only made the situation worse. It is not so simple, however, to assess the fiscal policies in those years. President Roosevelt's New Deal and Japan Finance Minister Korekiyo Takahashi's aggressive policies helped pull their respective economies out of their bottomless quagmire. From 1930, immediately after the Great Depression began, to 1933, U.S. prices--as measured by the consumer price index (CPI)--fell by 6.6 percent per year and real economic growth contracted by 7.4 percent per year. Then from 1934 to 1936, real economic growth registered more than 10 percent per year and the price trend turned inflationary. Prices declined again in 1938-39, and GDP growth turned negative in 1938. It is widely viewed in the United States that the U.S. economy did not fully recover until World War II (that is, around 1941). Thanks to the aggressive fiscal policies of Korekiyo Takahashi (who served as prime minister as well as finance minister), Japan came out of deflation earlier than the United States did. In 1930-31, the CPI registered a total 25 percent decline and national income dropped by 20 percent. Starting around 1932, when Takahashi's policies started to have an impact, consumer prices and national income both quickly started to increase.

However, military spending as a proportion of general account expenditures ballooned during this time, purportedly as part of the expansionary fiscal policy efforts. Takahashi opposed the increase in military spending, but ended up being assassinated in the so-called 2-26 incident of 1936. Thereafter, Japan moved onward on the path to war. Unfortunately...