Saving Uncle Sam

I have been reading Saving the Sun lately, a book that seeks to explain Japan's decade-long economic woes since the 1990s, with a focus on their flailing banking industry. For me, there is an uncanny resemblance between Japan and present-day America.

Act1 Scene 1: The beginning of Japan's problems was marked by the massive loans made by banks to corporations that turned out to be almost all bad. In Japan's case, the heavy borrowing was for real estate and stock speculation, causing their prices to soar. In America, after a near collapse of the economy in 2001, the unexpected boom was due to excessive investments in real estate via mortgage securities.

Act 1 Scene 2: Then, when a credit crisis looms as lenders become wary of the situation, instead of getting banks to own up to the problems and tackle them head-on, Bank of Japan reduced interest rates and pumped liquidity to prevent the problem from exarcebating. However, this very act perpetuates irresponsible lending by failing to punish the wrong behaviour. Also, it cultivates the moral hazard problem since banks go away believing that they will always be saved because they are too big and important to be let to fail. This is already being played out in Corporate America now, with markets already moving up in anticipationg of interest rate cuts way in advance.

Act2 Scene 1: Because Goverment actions were too little and too late, Japan finally went into the now infamous "liquidity trap" where monetary policy is no longer a possible tool to boost the economy. I think they failed because they could not force a re-allocation of resources to the productive areas where it could provide a boost. Instead, Government used public funds and poured more resources into unproductive expeditions in the hope that things will turn for the better.

America is gettering there soon, so let us sit back and watch the re-run of the show.