Friday, February 6, 2009

The NYT turns into ridiculoustown

Will over at the Ambrosini Critique quotes the Gray Lady:

Among ordinary Japanese, the spending is widely disparaged for having turned the nation into a public-works-based welfare state and making regional economies dependent on Tokyo for jobs.


Will then asks, is it true?

The short answer is yes. And, yet, the New York Times is profoundly wrong to warn us that "Japan's Big-Works Stimulus is Lesson". They tell us how much Japan spent since 1991 on infrastructure, but what they do not tell us is how much Japan spent on infrastructure in the 1970s and 1980s. Japan didn't so much as turn to Keynesian infrastructure spending as the economy melted as they did just continue on autopilot on the same utterly wasteful rural infrastructure projects they'd always done. When the economy was growing at 8% a year, they could increase infrastructure by 8%. Once their economy was growing at -1.5%, they could not continue fast infrastructure growth. If anything, spending growth on infrastructure in Japan actually slowed in the 1990s, and total spending decreased after 1995! Japan's debt increased after 1990 due to slowing tax revenue, not b/c of spending increases. It's important to remember than up until the end of the 1980s, Japan had been growing like wildfire. What put an end to that was the 1985 Plaza Accords, which resulted in an appreciation of the Yen.

Hence, Japan, year on year, spends something like 40 times as much as America per square inch of territory on roads, tetrapods, and just flat out dumping concrete across the countryside… in rural areas, construction is often the biggest employer… And a lot of these rural areas are rottonboroughs, places which are over-represented in the Diet, much like the US Senate, so these rural areas where nobody lives get huge amounts in construction. It’s been really contentious from an environmental standpoint, as environmentalists decry damming every river in japan at 14 places… It also sucks to go to what used to be a beautiful beach and find it loaded with ugly concrete tetrapods, and massive layers of concrete sea walls… There's one village in Kyushu which used to be famous for it's beautiful beach. Some local construction company won a contract to put in a sea wall and tetrapods, and then to build a museum on top of the sea wall with ... pictures of how beautiful the beach used to be before the sea wall and tetrapods were put on it! These rural construction projects are how the conservative LDP has managed to hold on to power for all but a few years since 1955... Actually, the Japanese system works like this: the bureaucrats run the country, and so the politicians don't interfere, the bureaucrats buy them off with the construction spending, much of which goes back to the LDP in the form of political donations and other kickbacks. Anytime a politician challenges the system, suddenly they'll be investigated for corruption... And since they've all taken money, they become easy to control...

The real lessons from Japan are fourfold: First, once you're in a deflationary trap, it looks like it can be difficult to get out of, so don't let deflation happen! So, what is not needed is to merely to slow the pace of infrastructure spending (while tax receipts are falling) and thereby run a huge deficit, waste billions on useless infrastructure, and do nothing about the deflation. What they needed was bold action at the beginning. Also, as a long-term development strategy, it makes no sense to tax cities in order to subsidize rural areas. Japan also spends billions on subsidies to agriculture, the other big industry in rural japan... It would be much better to just encourage people in the rural areas to move to cities, where there are higher wages. The 4th lesson is that policymakers should not allow a country to have deflation for half a decade. Why not? Well, the solution is actually quite simple: to get out of a liquidity trap, all you need to do, really, is print money. Kills two birds with one stone -- reduces debt, allows you to invest in public works at no cost, and it also reduces deflation, which, after all, is the goal. In normal times, you don't want to print money because it debauches the currency. Now, that's the whole goal. A third plus is that it should also reduce the value of the currency, making your exporters more competitive. In Japan a 4th plus was that it's banks held lots of dollar-denominated assets but yen-denominated liabilities, meaning that any yen devaluation would actually have improved banks' balance sheets... Another thing is that Japan's schools aren't even that nice -- certainly not as nice as schools in Korea. Japan's infrastructure spending was ineffective, in part, b/c it was corrupt and b/c it subsidized inefficient rural areas.

As I see it, Japan did not do that (or rather, waited way to long to do that) because of overly cautious policy, and perhaps a few conservative policy makers confusing 'strong yen' with 'strong country'. I actually wrote my undergraduate thesis on this... I forget all of my conclusions now, but I do remember quipping that, 100 years ago, Japanese rallied around the phrase 'strong army, strong country', but that Japan's strong army actually is what led to its downfall. In the 1990s, it was Japan's strong yen that did it... Part of the difficulty probably stemmed from the fact that once deflationary expectations set in, it's difficult to undo them. Wasteful public works spending definitely predated the 1990s collapse, however... If anything, due to public outrage, it has gotten better over time.

As far as I've seen, a disproportionate amount of the US stimulus will go to places like Montana and South Dakota, each of which have two senators, and more urban states, like California, which has about 50 times as many people as South Dakota, will get shafted on a stimulus-to-GDP ratio. The Fed is not printing money, of course, it's just creating it -- poof -- out of thin air. Some $2 trillion already. And it's been buying assets other than US Treasuries. So the stimulus, at $300 billion for the next 12 months or so, is tiny in comparison. Let's hope it's all enough...

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