November 1, 2011

Japan’s Economy: Hope After Disaster

Professor Hugh Patrick says that Japan’s economy will grow even faster than expected next year.

On March 11, 2011, Hugh Patrick was in his 35th-floor hotel room in downtown Tokyo when the building began to shake. He didn’t know then that he was experiencing the 9.0 Tohoku earthquake — what would be Japan’s worst natural disaster since World War II. Although the earthquake was the largest in Japan’s recorded history, the enormous tsunami that followed caused the most devastation, largely in northeastern Japan. At least 23,000 people were reported dead or missing. The threat of nuclear radiation loomed large as power companies and the government worked to ensure the safety of the country’s damaged nuclear reactors, which made it qualitatively different from other natural disasters.

A longtime expert on Japan’s economy (and director of the School’s Center on Japanese Economy and Business), Patrick talked to Hermes about which industries were hit hardest, what the recovery looks like, and the challenges that lie ahead.

Do you think the media exaggerated the economic effects of the earthquake and tsunami in Japan?

The problem was that the American media, in particular, but also the European media, really didn’t know very much about Japan and couldn’t provide the context required to truly understand the economic effects. Clearly this was a major regional disaster, but only a very small share of the total Japanese economy — about 5 percent of the GDP — was directly affected. It’s regional, not national, in terms of its impact.

Like any disaster-hit area, you have to rebuild and find jobs for the people who lost their jobs and houses in the tsunami. Hurricane Katrina is not comparable, but it gives us a sense of the scope of a regional disaster because it didn’t directly affect people who weren’t in that region.

Are there certain industries or sectors that took a bigger economic hit than others as a result of the catastrophe?

One indirect effect that I don’t think people anticipated was the supply-chain interruptions, not just in the tsunami-hit area, but in the broader northeastern part of Japan. Factories that produced highly specialized components for cars or electrical equipment, such as consumer electronics, were damaged. One of the semi-conductor chips, called a microprocessor, is custom-designed for individual car models. For instance, microprocessors for certain Toyota models were only made in this one factory that was heavily damaged. That specific component is not easy to produce somewhere else, and certainly not quickly.

The electric power industry has also been significantly affected because of what I call the triple-disaster: first was the earthquake damage itself; secondly, and more importantly, was the tsunami; but the third and qualitatively different disaster was the damage to the Fukushima Daiichi plant.

What economic effects, if any, have resulted from the damage to the Fukushima Daiichi Nuclear Power Plant?

Nuclear power has provided a little under 30 percent of Japan’s total electric power. Nuclear reactor plants close down every 13 months or so for routine maintenance, reopening a few months later. The decision to reopen is not simply that of the company, but also of the prefecture and the national government. The governor of a prefecture, like a state governor, has to worry about the larger population and doesn’t want to see a repeat of the disaster that’s happened in Fukushima.

So what looked to be an electrical power shortage in Tokyo and the northern part of Japan has become a national concern because electric power companies are not yet able to reopen their nuclear reactors that have been closed for routine maintenance. If they stay closed for too long, transportation and business will be affected. Some factories might not have enough electricity to keep producing goods. This is the situation that people are worried about right now, especially in the urban areas.

Rural areas are also affected. Most of these nuclear reactors are in small communities near the ocean and rivers so they have ready access to water. The local people, in order to get them to accept the reactor in the first place, were given all kinds of tax benefits, subsidies, and jobs, making these communities dependent on the continuing operation of these nuclear plants.

How has Japan recovered from these economic repercussions?

The surprising thing is that the supply interruptions, which people thought might take six to nine months to clear up, have been taken care of in three to six months. It has demonstrated the resilience of the Japanese economy and the flexibility of companies to solve problems.

There was a significant dip in the Japanese economy following the disaster; it’s now on the way up again. This fall, the economy will grow quite rapidly because a lot of government and other money is being spent in the recovery process. This means the economy will probably grow even faster than expected next year. Japan was recovering quite well from the Great Recession of 2008 prior to the quake, but wasn’t back completely. The Japanese have made huge efforts to conserve electricity this summer, and successfully avoided blackouts. The voluntary public spiritedness of Japanese households is really impressive.

What is Japan’s biggest economic challenge moving forward?

The fundamental problems that Japan faces have been there for some years now. Unlike many other industrialized countries, Japan has been in a period of mild deflation — almost continual declines in the consumer price index. That deflationary impact hasn’t been overcome yet and is related to the lack of aggregate demand in the economy. So its economy is growing but not as fast as it could.

Japan also has a huge budget deficit—it makes the US debt look modest. Government debt relative to GDP is much higher than American debt relative to GDP. What makes this all more difficult to solve is the fact that Japanese politics are gridlocked because the party in power doesn’t control both houses of the legislature, so they haven’t been able to get legislation through to tackle these things. One of Japan’s other major concerns in the next year or two is whether the American economy will slow down.

But frankly, because the Japanese save a lot, and almost all Japanese debt is bought by Japanese, I think the nation’s situation is more manageable than the US predicament. Personally, I would like to see Japan stimulate the economy more and get back to full employment and growth. Then it can go through the sort of fiscal tightening that all countries are going to have to do.

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