Can Japan's old hands pull it off?

News Analysis: Prime Minister Obuchi is like `a bald man trying to pull himself out of a morass by his hair'
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The Independent Online
By Stephen Vines

OUTSIDERS find Japanese jokes hard to appreciate. Yet even the most obtuse foreigner can understand the wags at the Tokyo stock exchange who describe the new government led by Keizo Obuchi as being like a "bald man trying to pull himself out of a morass by clutching his hair."

The task facing the new prime minister is so vast and the chances of success so low that it is surprising that there were any contestants for the post, let alone the three who stepped forward.

Before being installed as prime minister by a vote in the lower house, the House of Representatives (although he was rejected by the upper house), market-makers had been trumpeting the belief that Japan did not want a prime minister who was drawn from the mould of the 24 other prime ministers who have run the country since the war.

However Mr Obuchi, 61, is every bit an old-style machine politician who has risen steadily through the ranks and, in these times of economic woes, has little economic experience.

Once the new prime minister was installed last Thursday, these very same financial markets players were performing a turnabout, suggesting that a steady hand on the rudder was just what Japan needed, and that appointment of 78-year-old Kiichi Miyazawa as finance minister sent out a reassuring signal.

Mr Miyazawa, a former prime minister, has been around so long that everyone knows him, including key American economic policy-makers such as the Alan Greenspan, chairman of the Federal Reserve. They feel comfortable with him even though he had made it clear he was reluctant to take the job.

His disciple Koichi Kato, the outgoing secretary-general of the ruling Liberal Democratic Party, had already turned down the post because he aspires to the premiership and knows the pitfalls of being finance minister. Nevertheless he will do most of the legwork for Mr Miyazawa. The the Obuchi-Miyazawa team faces the worst recession for half a century. Moreover all indicators indicate that it has not bottomed out.

The outgoing government had suggested that the economy could recover and expand by 1.9 per cent in the current fiscal year. Taichi Sakaiya, the new head of the Economic Planning Agency, firmly laid such optimism to rest at the end of last week saying: "I think it's impossible", and adding, "I myself foresee a major minus".

The day after Mr Obuchi took office, new unemployment figures recorded a post-war high of 4.3 per cent, which is extremely high by Japanese standards. A report from the Dai Ichi Research and Management Institute, however, says that the true figure is 10-13.5 per cent if companies' in-house unemployment is taken into account.

Hovering over the economic gloom is a mountain of bad debts pulling the banking sector to its knees. Officially bad debt is estimated to have reached 700bn yen, a recently revised figure up from the previous estimate of 550bn yen. However private sector estimates put the figure at closer to 100,000bn yen (pounds 435 million).

To remedy the bad debt problem, banks are trying to call in bad or dubious loans, causing a ripple effect of corporate failures and redundancies. At a time of recession the banks are cutting lending, thus making increased borrowing hard for even export-led companies with growth potential.

Meanwhile, the yen keeps depreciating, in part because Japanese interest rates at are record lows, and more generally because confidence in the once mighty yen has evaporated.

The Japanese currency suffered another sharp fall last Friday, sliding to under 144 yen to the US dollar, after Mr Miyazawa made it clear that he would not be intervening in the markets to support the currency. "The market is cleverer than the government and things can be left to the market," he said.

So what is the new team's strategy for getting out of this mess? "The most effective way is to throw money at consumption," said Mr Miyazawa. This is precisely the strategy being urged on the Japanese by the United States and practically everyone else worried that Japan will pull down the rest of the global economy.

In concrete terms it means that the government will try to implement a six trillion yen (pounds 26bn) tax cut. Government spending is set to rise sharply with a further pounds 44bn being thrown into the kitty, which in turn will add to domestic consumption.

Old ideas about reducing the budget deficit have been thrown out of the window and the government now accepts that it will need to issue deficit- covering bonds to finance this expenditure and the tax cutting measures.

However, an increasing flow of government paper poses the risk of further lowering Japanese credit ratings, which in turn means that even government debt would carry very high rates of interest.

The state of the commercial banking sector is so weak that even government optimists are not planning a solution.

The strategy is simply: To try to achieve a soft landing by creating officially sponsored "bridge banks" which will protect depositors of banks in difficulties. Some 266 billion yen (pounds 1.16bn) is being set aside for bridging loans, representing less than a third of the bad debt total, if more pessimistic estimates of that total are used.

The solutions proposed by the new government do not inspire much confidence. Some believe far more brutal measures are required which involve allowing more banks and other financial institutions to close alongside companies who cannot repay their debts.

This short, sharp shock treatment is seen as preferable to a drawn-out period of economic pain, holding out the hope of recovery in a shorter period.

Japanese government and corporate culture makes it hard to accept the short, sharp shock solution. Indeed it is hard to see how this could be implemented. Besides which, mass closures of companies and a sharp reduction in the size of the financial sector may knock away some of the strong foundations which created the Japanese economic miracle - a miracle now only dimly remembered.