Believe those who are seeking the truth. Doubt those who find it. Andre Gide

Sunday, May 18, 2014

G and I in Europe and Japan

Izabella Kaminska reports here on a Credit Suisse comparison of Japan and the Euro area (h/t Scott Sumner). Here is an interesting diagram from that report:

According to Kaminska:
As the analysts note, a powerful fiscal stimulus in Japan helped to counter the demand shortfall. That caused personal consumption to continue to grow until 1997 and investment to rebound almost to its previous peak in just six years — something which isn’t slated for Europe any time soon.

Well, the increase in G counteracting an unexplained decline in I is one interpretation. This is the "deficient demand" interpretation that so many like to portray as obvious. But in fact, it's difficult to ascertain the direction of causality from just a picture.

The Japanese data above corresponds to what I posted some time ago here: What's Up with Japan? In response to that post, Mark Sadowski alerted me to the fact that the Japanese investment series plotted above includes both private and government spending. Here's what things look like when we decompose this aggregate (I discuss in more detail here: Another look at the Koizumi boom):

So it seems that there was a boom in private investment during the Koizumi years (something that Krugman gets wrong here, and something I'm not sure he's acknowledged). Moreover, this boom coincided with a slowing or outright contraction in government purchases. And in a liquidity trap era, I might add! What do our conventional "deficient demand" theories have to say about this? Maybe there is something more complicated than a simple IS-LM+liquidity trap story going on? I'm just asking. Humbly yours, DA.


  1. This is a related post you might find interesting:

  2. I think the world was booming from 2002 - 2007 just the period where Japan private investment boomed.
    Have you eliminated the possibility of an effect where global demand had an impact here through exports etc. so non-Japan demand spurred investment?
    It would be nice to see the data.

    1. Exports rose from 10.2% of GDP in 2001Q4 to 19.3% of GDP in 2008Q3. Imports rose from 9.4% of GDP in 2001Q4 to 19.5% of GDP in 2008Q3. From 2002Q1 to 2008Q3 real (adjusted by the GDP implicit price deflator) grew at an average annual rate of 11.0%. Real imports grew at an average annual rate of 12.1%.

      So there was boom in both exports and imports. But imports grew faster than exports, and net exports actually moved from surplus (0.8% of GDP) to deficit (-0.2% of GDP) between 2002Q1 and 2008Q1.

      In fact you can see that here, in a graph from the first of the two posts that David Andolfatto refers to above:

      So Krugman was clearly wrong when he claimed the Koizumi Boom can be explained by net exports.

      And my opinion there's strong evidence that exchange rates played a role in the export boom.

      When comparing changes in relative exchange rates one obviously wants to take into account different rates of inflation. This is especially the case with a country as unusual as Japan, where there has been virtually persistent deflation since 1995 as measured by the GDP implicit price deflator, as this almost guarantees that the yen will appreciate in nominal terms over time relative to other currencies. The following is a graph of the BOJ’s estimate of Japan’s real effective exchange rate which is trade weighted with respect to 16 different currencies and takes into account their relative inflation rates:

      Note that the real effective exchange rate increased sharply from the second half of 1998 through 1999. It plateaued in 2000 and began to noticeably drop in December 2000. Japan’s original ryōteki kin’yū kanwa (QE) was officially announced in March 2001, although there wasn’t a noticeable increase in the monetary base until December 2001.

      There was also a foreign exchange intervention that involved only U.S. dollars and ran from January 2003 through March 2004. The real effective exchange rate (which has a 25.82% dollar weight) actually rose from 104.75 in December 2002 to 106.77 in March 2004. Although the 35 trillion yen that the Ministry of Finance, (through the BOJ) spent buying dollars (and which were subsequently converted to U.S. Treasuries) was an extremely large foreign currency intervention in absolute terms (Japan is an important economy after all), it was approximately 40% unsterilized, and so was also effectively an important part of the 48 trillion yen expansion of Japan’s monetary base from March 2001 and January 2006 under QE. For those interested in the interrelationship between Japan’s QE and what John Taylor has termed the “Great Intervention” I recommend reading Tsutomu Watanabe and Tomoyoshi Yabu’s “The great intervention and massive money injection: The Japanese experience 2003-2004” (Journal of International Money and Finance, Vol. 32, February 2013, pp. 428–443) who conclude, among other things, that the unsterilized interventions during this time period had a greater effect on the yen-dollar rate than the sterilized ones.

      In any case the real effective exchange rate fell from 116.25 in February 2001 to 91.09 by March 2006, when the BOJ announced the completion of QE, a decline of 21.6%. Although the monetary base was reduced by about 24.4% between January and November 2006, the real effective exchange rate continued to fall until July 2007, but later surged dramatically towards the end of 2008 as the global Great Recession set in.

    2. But Mark, the question is not a boom in GDP but a boom in private investment.
      How exactly do you think exports rose so rapidly if there wasn't strong private investment? It is not clear to me that the net number is germane to the question.

    3. Dan,
      Increased exports may have caused the increase in private investment. But then what caused the increase in Japanese exports?

      World exports only increased slightly faster than GDP according to World Bank figures, rising from 25.0% to 30.4% of global GDP between 2002 and 2008. A similar thing is true of East Asia in particular, with exports only rising from 26.5% to 35.8% of GDP:

      Japan's doubling of exports as a percent of GDP from 2002 to 2008 was, to say the least, extremely unusual.

    4. Wouldn't the question be why Japan lost share?
      World Nominal GDP increased by 10.5%/year during those years and with exports rising over 5%/year as a percent of gdp on your numbers Presumably Japan's exports should have grown faster than the 11% /year they grew if they were to keep their market share given that they had essentially zero or negligible inflation in that period.

      But, I thought the question was why did private investment boom, the answer is quite satisfactory if indeed exports explain that, even if there is a further question about what caused the exports to boom.
      Though both investment and exports are quite cyclical and I don't think five year runs of 10% changes for either one would be an outlier or extremely unusual?

    5. "Wouldn't the question be why Japan lost share?"

      In general, countries that grow faster than average do not see their shares of global exports decline, and countries that grow slower than average do not see their shares of global exports increase. So no, that's not how things work in reality.

      "But, I thought the question was why did private investment boom, the answer is quite satisfactory if indeed exports explain that, even if there is a further question about what caused the exports to boom."

      I think it's an open question whether the increase in private investment was caused by the boom in exports. But I'm reasonably confident that the boom in exports from 2002 to 2008 was not caused by a boom in world trade, otherwise why did exports as a percent of GDP double in Japan and in no other advanced country?

      "Though both investment and exports are quite cyclical and I don't think five year runs of 10% changes for either one would be an outlier or extremely unusual?"

      The last time that Japanese private investment increased by over 25% in a six year period was 1987-93. The last time that exports increased by over 80% in a six year period was 1975-1981. So it depends on whether you think if once every quarter century is unusual.

    6. Mark, at no point during the time shown in this chart was private investment as high as a percent of GDP as it was at the beginning of the period shown.

      At the beginning of the period in question private investment had declined by 80% while gdp had grown over 10% from the start of what is shown here.

      At the end of the period of rapid growth private investment had not even recovered all of the decline, and thus was still a smaller share of GDP than at the beginning of this chart.

      So there was a period of rapid growth from a depressed level both absolute and relative to historical ratios of GDP. This occurred during a period of strong export growth.

      I doubt this provides the whole explanation, but, it is very difficult for me to see a picture here that is strikingly unusual or mysterious in direction or timing although you can ask about the magnitude - and no doubt Koizumi economic policy was a good tailwind as well.

      We can't see exports in this chart and Japan likely lost global share of exports during the period shown? and they grew more slowly than the world so that would be consistent with your dictum.

      Deficient demand from deleveraging or an otherwise subdued household and corporate sector can be offset by either fiscal or export stimulus - and either would plausibly have a nice multiplier.

      oh well...

  3. Do monetarists believe fiscal policy never contributes to growth because of crowding out? Or is there some middle ground where under some circumstances spending does contribute to growth?

    1. *I think* that market monetarists (MMists) say fiscal policy never contributes due to monetary offset. But I know nothing about "crowding out" so maybe I'm not adding information there. I found this recent post interesting in that it attempts to explain monetarist assumptions vs Keynesian assumptions about the relative direction of the fiscal and monetary ... er... vectors (gradients?), but with a model that makes no assumptions about them being parallel or orthogonal, but rather lets the data determine their orientation. Or at least that's what the Author says!:

      It's the same post I link to above actually.

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  5. Hmmm. And here I thought that the Japanese economy had been stagnant for the last couple of decades. Damn misleading pundits. ;-)

    Funny how the popular American 'growth junkie' view shapes how language is used.

    I like liquidity trap better as a metaphor for alcoholism.