Monday, August 8, 2016

Japan - QE cannot overcome demographics

The future is Japan! This is the nightmare that central bankers across developed economies are willing to do "whatever it takes" to avoid. The country's long period of economic weakness, when compared to its own long period of very high growth that set the stage for the region's growth itself, is the metric that has been anchored in the minds of opinion makers. It is also the justification for the Bank of Japan's extraordinary quantitative easing (QE) policies which has already seen the BoJ emerge as the single largest owner of Government bonds as well as the equity market.

But while output has been stagnant, the other indicators have been surprisingly healthy. Unemployment rate is easily among the lowest of any major economy and has fallen sharply since 2010
More interestingly, the country's GDP per capita has been growing no less slower than any others, including the US. In fact, it has had the fastest increase in real GDP per working age adult since the Great Recession. And this, despite the country's declining labor force participation rate. Clearly, despite its worsening demographics, Japan has been able to squeeze more out of its workforce
The answers to demographic problems lie outside QE - liberalize migration and encourage more female participation. If there are less people going around each successive year, it is only natural that there will be less people buying consumer durables, taking out mortgages, studying or getting treated, even generally shopping. Investment has to decline, or at least not rise much. Deflation is inevitable and there is nothing that quantitative easing can do to avert this. It is a stage which other countries too will also reach. 

This begs the question why the country should have QE? How can QE enhance output when the malaise is not so much declining per capita incomes, but declining numbers of consumers? How can QE overcome an accounting problem? In the circumstances, how can QE stoke inflation? Even assuming it can, is this such an extraordinarily bad situation, a deep crisis, that requires an extraordinary solution like QE? 

Instead of hankering after a bygone growth age, or even seeking to inflate, Japan should be happy that its economy is not as unhealthy as thought and its per capita income is among the fastest rising in developed world. It sure needs reforms, if only to even sustain the current growth trajectory. But QE and its variants are not those reforms. 

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