The Eurozone’s (and Japan’s) deflation problem

I tend to be bullish on Europe – partly as a corrective to the mass of commentators who too early wrote off the crisis in the Eurozone as irresolvable. This optimism has been justified by the recent run-up in European equities, with developed European countries (Germany, Ireland, Finland…) constituting four of the five best-performing stock markets of 2013, when measured in US dollar terms. That said, a spectre is now haunting Europe – the spectre of deflation. The problem with deflation is that it makes the value of savings grow, which encourages people to spend less. If prices are falling, a penny saved is more than a penny earned, because, if you do not buy that TV set (for instance), not only will you have saved your penny, but the TV set will be cheaper in a few months, so you are actually getting a return on your patience. Hence deflation encourages people to save, which reduces demand. The TV shops in response reduce the prices of TVs even further, in an effort to get you to buy. Which implies yet more deflation. A few rounds of this, and you have the dreaded “deflationary spiral”, producing not only deflation but a serious contraction in consumer spending and hence real economic activity. Scenarios run by Oxford Economics on the potential impact of sustained deflation in the Eurozone are not pretty, suggesting the economic bloc would be pushed back into recession. In response to such concerns, Germany’s Bundesbank has recently softened its opposition to quantitative easing, suggesting that radical measures to combat the threat of deflation may be forthcoming. This announcement has widely...

Japan’s Economically Challenged Pols

As Prime Minister Yoshiro Mori struggles through his term in office, it is tempting to say that Japan’s political leadership doesn’t matter. After all, authority over the country’s most important economic policies has traditionally rested in the hands of bureaucrats. The markets hardly registered former Prime Minister Keizo Obuchi’s illness and the announcement of his replacement. Perhaps the world can safely ignore Japan’s upcoming lower-house elections, scheduled for June 25. But today, it does matter who takes office in Japan. Power has shifted dramatically in the past few years. In 1994, politicians wrote only 18 of the 75 bills submitted during the ordinary Diet session (24% of the bills). Last year, politicians wrote 60 of 124 bills (48%). This year, the right of politicians to call on bureaucrats for help in answering difficult policy questions on the floor of the Diet was abolished. The government also introduced regular parliamentary debates between the prime minister and opposition leaders, modeled on “Question Time” in the British parliament. Both symbolically and in fact, Japan’s politicians are gaining authority over policymaking. These changes are desirable, because they increase the democratic accountability of Japan’s policymakers. But the timing is unfortunate. The shifts in authority have hobbled the country’s macroeconomic policymaking at a time when decisive action is most needed. Now that Japan’s politicians are gaining control of economic policy, the question is: Are they up to the job? The extent of bureaucratic domination of Japan’s economic policymaking gradually diminished during the decades following World War II. Politicians from the long-ruling Liberal Democratic Party asserted themselves by becoming specialists in certain policy issues. In the...