Japan's Other Deficit: A Deficit in political leadership

A Leadership Void Amid Economic Hardship: In today's global economy, which is struggling to cope with several major crises simultaneously--Eurozone sovereign debt, ubiquitous deficits, and a possible double-dip recession--political leaders are elected by citizens to find ways of stabilizing the economy. Elected politicians possess the legal authority to administer fiscal, monetary, industrial, regulatory, and tax policies. They set the macro-framework within which private sector actors make a myriad of commercial decisions and capital markets function to allocate money and credit.

In times of economic hardship, leadership matters. Unfortunately, it is precisely during hard times that elected leaders most visibly mismanage the economy. They fail to provide adaptive, effective policy solutions. Grave problems metastasize into full-blown crises as leaders debate, tussle, and dither.

During economic hardship, the worst features of democratic politics spring into play: political posturing, partisan brinksmanship, policy demagoguery, and a higher priority placed on parochial interests than on the national interests. The outcome is policy gridlock and a failure to come to grips with urgent economic problems. Thus, at the very time when leadership is most urgently needed, industrial democracies have shown a distressing propensity to postpone painful policy decisions.

Massive Deficits, Excessive Spending: A Dead-End. Most industrial democracies have been stricken by a pandemic of massive public debt and excessive spending. While aging populations demand extensive social services, citizens are unwilling to pay the taxes needed to cover the soaring costs of the welfare state. The disparity between rising fiscal spending and declining tax revenues means that public debt is climbing to ever higher levels--levels that cannot be sustained.

Greece, the original cradle of democracy, is the most egregious example of profligate spending and pervasive tax evasion. Self-centered, opportunistic behavior is so pervasive that Greece can be called a "parasitic economy".

Outbreak of Sovereign Debt Problem. Greece is the earliest patient in a regional outbreak of sovereign debt crisis. Serious symptoms of the debt crisis have surfaced in the so-called "PIIGS"--Portugal, Ireland, Italy, Greece, and Spain. What is needed from a policy perspective is fairly clear; yet, European leaders are treating the Eurozone debt crisis more as a matter of supplying short-term liquidity than as a challenge of coming up with a longer-term solution to the danger of national insolvency. As long as European leaders continue to pursue such myopic policies, Europe's sovereign debt crisis will only worsen.

U.S. leaders have not handled America's economic problems any better. Take the recent deadline to raise America's debt ceiling. Here was a case of a crisis needlessly caused by partisan brinksmanship. Republican leaders in the U.S. Congress seized upon the August 2, 2011 deadline to hold the Democrats in the Senate and White House hostage to unyielding demands for deficit reduction. The hardline demands brought the country--and the global financial system--to the brink of another financial catastrophe.

The Republican deficit hawks have been determined, above all, to prevent Barack Obama from winning a second term. Defeating a Democratic President has taken priority over reviving the national economy, creating jobs, and stabilizing the financial sector. Many Republican lawmakers have signed a pledge never to compromise their ideological principles, even if their partisan agenda weakens the American economy and damages the wellbeing of the American people.

Fundamental Forces at Work: Viewed from the perspective of several thousand years of history, democracy is the best system of government ever devised. In terms of human rights, social justice, legal safeguards, and economic output, democracies clearly outperform dictatorships or authoritarian regimes. The mature democracies--the U.S., Europe, and Japan--have proven to be incomparably more efficient, adaptive, and dynamic than the Soviet Union, China under Mao, or Cuba. That's because democracies operate on the basis of laws, market incentives, and voluntary action. Not state coercion. Democracies permit the free flow of information. Not state censorship.

As economically dynamic as democracies are, however, there are a variety of intrinsic weaknesses built-into democratic systems. Power is divided, for example, in ways that often handcuff government's capacity to handle complex economic problems. While the separation of powers in the United States--between the executive, legislative, and judicial branches--has protected citizens against the danger of an excessive concentration of power, the separation has caused policy-making to be unwieldy, slow, and suboptimal. In Japan, divided control in the Lower and Upper Houses, dating back to 1989, has made the passage of bicameral legislation difficult, uncertain, and susceptible to partisan hijacking.

Rational Politics? Beyond the dispersion of power, there are other fundamental flaws. There is, for example, the false assumption that voters have access to full, accurate information and that citizens vote and behave "rationally" on the basis of that information. "Rational" here refers to the capacity of citizens to determine what lies in their best interests and to act in ways that bring about satisfactory outcomes. With millions of individuals pursuing their own rational interests, according to democratic theory, the vast aggregation of conflicting interests balance each other out, leading, presumably, to the collective good. This concept of democracy bears striking resemblance to Adam Smith's theory of market efficiency, which arises out of the complex interplay of individual consumers pursuing their own material interests within the stable framework of freely functioning markets.

Unfortunately, individuals are not "rational." They don't have access to objective and complete information. What they know about public policy choices comes from mass media sources that circulate incomplete and often biased information. In the deluge of information unleashed by the mass media, citizens tend to gravitate to the shelter of information sources that reflect and reinforce their own views, be they conservative or liberal.

Most citizens don't understand how public policy choices affect their economic and social interests. For example, low-income blue collar workers in the United States, who belong to conservative groups like the Tea Party, may oppose higher income taxes on the rich--even though a regressive income tax places a heavier tax burden on the poorer classes. Similarly, senior citizens might be in favor of major cuts in government expenditures in order to deal with the long-term task of deficit reduction, not realizing that deep spending cuts are apt to slash the entitlement benefits--such as Medicare and social security--on which they depend. Knowledge of complex public policy issues is shallow, fragmented, and muddled. Instead of acting on the basis of objective information, therefore, citizens are prone to vote on the basis of political party identification, simplistic slogans, and rigid ideology. Thus, in industrial democracies, power gravitates into the hands of political parties, powerful interest groups, and biased mass media outlets.

Political Passivity or Apathy. Not only are most citizens poorly informed; they are also prone to be politically passive, if not overtly apathetic. As Mancur Olson has pointed out, it is "rational" for individual citizens to let others spend the time and energy to participate in political and civic activities. (The Logic of Collective Action: Public Goods and the Theory of Groups, Harvard University Press, 1971). Let others vote, write to their elected representatives, and demonstrate in the streets. Let others mold policies that provide for the collective good. Because collective goods are available to everyone, whether individual citizens lift a finger or not, why use one's own time and energy?

Interest Group Parasites. In democratic states, where the majority of citizens are passive, well-organized interest groups, with deep pockets, arrogate control over the policy-making processes. Powerful lobbyist groups capture key issue-areas, such as the financial services, health care, transportation, construction, energy, agriculture, and the retail sector.

Most business associations, such as banking, have an incentive to contribute big sums of money to elected leaders in exchange for influence over key legislative, regulatory, fiscal, monetary, and industrial policies. Construction companies in Japan, for example, have donated huge sums of money to the ruling LDP in exchange for lucrative pork-barrel construction contracts.

Over time, well-organized vested interest groups burrow themselves, like parasites, deeply into the nation's body politic, where they suck out vital, life-giving resources in the form of subsidies, low taxes, procurements, and favorable regulatory treatment. Gradually, as the swarm of interest-group parasites feast on the nation's economic carcass, the economy loses its vitality. Growth rates slow. It becomes harder to bring about adaptive changes even in the face of economic crisis.

Path Dependency. The structural flaws inherent in all democracies have been magnified in the case of Japan by its distinctive evolution as a centralized, pro-producer economy, governed by a single political party in power--the LDP--working closely with the central bureaucracy and supported by a sweeping coalition of entrenched interests, including farmers, big business, bankers, doctors, and postal workers.

The LDP-bureaucracy-business triad implemented policies that generated high rates of economic growth for more than three decades from 1955-1990. By 1975, Japan had risen to the position of the world's second largest economy. Japan's postwar economy--export-oriented, capital-investment driven, pro-producer--became a new paradigm of development, structurally different from the older Anglo-American model of laissez-faire, consumer-oriented capitalist democracy.

During the decades of pace-setting economic growth and political stability, the core configuration of institutions--the LDP, bureaucracies, and powerful producer groups--became deeply embedded. There were several notable features of that system:

• truncated competition between political parties;
• weak "semi-permanent" opposition parties;
• dispersion of power both within (factions) and between political parties;
• poor transparency and accountability;
• shallow popular roots of ruling political parties (LDP & DPJ)
• powerful coalition of interest groups, which extracted high rents from the economy, making it increasingly inefficient and resistant to change
• pervasive norms of consensus;
• unusual staying power of the status quo; built-in resistance to change
• sterile policy discussions;
• pronounced risk aversion;
• reliance on the policymaking expertise of the central bureaucracies
• underdeveloped infrastructure of policy research and analysis
• muted voice of ordinary citizens and consumer groups relative to the power of producer groups;

Coming off decades of soaring success, Japan's postwar system evolved steadily into a deeply-entrenched system of routinized policy-making, risk-aversion, piece-meal reforms, and procrastination in the face of economic crisis.

Japan's extraordinary successes over more than a quarter century, thus, has created a political economy geared to maintaining the status quo rather than adapting flexibly to fundamental shifts in the domestic economy and the international system.

Even though Japan has been caught in a deflationary spiral for more than a decade, its political system continues to churn out old, conventional policies that fail to address the economy's debilitating problems, namely:

1. sluggish private sector spending;
2. output gap (between potential and actual economic output);
3. climbing fiscal deficits;
4. soaring cumulative public debt;
5. zero-interest rates (leading to capital outflows through carry trades);
6. globally misaligned currency exchange rates;
7. misallocation of labor and capital;
8. excessive regulations, which stifle innovation, risk-taking, and entrepreneurship;
9. a shrinking, aging work force and population;
10. unsustainability of Japan's welfare sector;
11. declining comparative advantage in traditional export-oriented sectors of manufacturing and assembly.

Voter Forbearance. Given the sluggish state of the Japanese economy since 1991, it is surprising that the LDP was able to cling to power until 2009. Standard economic indicators were bad: stagnant wages, a sharp rise in the number of temporary workers, growing gaps in the distribution of income and wealth, and a devastating plunge in Japan's equity, credit, and real asset markets. From 1991-2009, Japanese households took a terrible beating.

Why didn't Japanese voters hold the ruling LDP responsible and throw the LDP out of power long before 2009, as disgruntled voters in Western democracies would have?

One reason is because of the LDP's long and successful record of economic growth from 1955-1990. Japanese voters were willing to give the LDP a long leash to get Japan's struggling economy back on track, particularly since none of the opposition parties had actual experience as the governing party. Furthermore, although Japan's economy fell into a prolonged slump, the pain inflicted on most Japanese households was not intolerable. Japanese voters did not feel compelled to "throw the rascals (LDP) out." Call it voter forbearance.

Another, more tangible reason is that Japan's electoral districting system has been heavily skewed in favor of the ruling party, giving rural and semi-urban districts a disproportionate share of parliamentary seats relative to the number of voters in those districts. The rural and semi-urban districts happen to be where the LDP enjoys its strongest base of support. Thus, the gerrymandered electoral system has kept the LDP in power longer than the aggregate number of votes cast ought to have dictated.

Direct Voter Support. From 2001-2006, Prime Minister Koizumi Junichiro developed a base of support directly from the public. He did not derive his power from control over the traditional LDP sources--a large faction, pork barrel spending, and interest group donations.

With direct support from the mass public, Koizumi was able to take bold reform measures that subsequent heads of state have not attempted. Not only did Koizumi eschew traditional LDP politics; he even had the temerity to craft reforms aimed at neutralizing the LDP's traditional base of power, such as the privatization of Japan's postal system. If Prime Minister Noda dares to initiate sweeping reforms or to pass difficult legislation, he will have to establish strong connections with the mass public, just as Koizumi did.

Once Koizumi resigned in 2006, his successors wasted little time in back-tracking on the reforms that Koizumi had pushed through. A merry-go-round of short-lived Prime Ministers ensued with Abe Shinzo's election in 2006 and ended with Aso Taro's resignation in 2009. The parade of short-lived Prime Ministers continues today with the DPJ. Noda Yoshihiko's election in 2011 is the third DPJ Prime Minister in three years, Japan's sixth head-of-state in five years. The merry-go-round reflects the persistent inability of Japanese political leaders to revive Japan's ailing economy.

It won't be easy for Prime Minister Noda. Japan's economic problems have metastasized. Time is running out. Japan cannot muddle along for another two decades. If the economic crisis isn't addressed soon, Japan faces an unthinkable day of reckoning: namely, possible national insolvency.

Needed: A Coherent Strategy. To revive Japan's ailing economy, Japanese leaders must come up with a set of far-sighted policy measures designed to overcome deflationary headwinds; upgrade and export the energy and transportation infrastructure; stimulate consumer spending; prune back restrictive regulations that stifle innovation; shrink excess capacity; cut inefficient spending; generate steady growth--and by so doing, steadily scale back the massive overhang of national debt.

Politicians lack the knowledge and experience to formulate a coherent economic strategy by themselves. They must draw on the insights of outside sources: bureaucrats, academics, research specialists, business executives, business associations, opinion leaders, labor unions, consumer groups, and citizens.

Moreover, the opposition parties may have perverse incentives to do whatever is deemed necessary to topple the DPJ regime, even if it comes at the high cost of failing to restore the health of the national economy. By refusing to cooperate on key legislative issues, the parties out of power--including defiant factions within the DPJ--may think that they can come to power.

Poor Policy Discourse. In Japan, where there are neither primaries nor presidential elections, the level of policy discourse is neither extensive nor thorough. It is often not clear where a new Japanese Prime Minister stands on such basic issues as taxes, budgets, monetary policy, regulatory oversight, international security, and foreign diplomacy. The low visibility and low salience of policy discourse is a glaring deficiency.

LDP leaders used to rely on Japan's mandarin bureaucrats for policy input. But because DPJ leaders have tried to reduce their reliance on elite bureaucrats, they will have to compensate for the bureaucratic void by upgrading the policy-making capabilities of individual Diet members' offices, the administrative organs of the Prime Minister and Cabinet, and the DPJ organization. It will also be desirable to strengthen Japan's overall policy-making infrastructure--including think tanks, research institutes, university-based centers, non-government organizations, and policy forums organized by the mass media.

Conclusions: At a time when the world faces grave problems--staggering deficits, unsustainable debt, financial volatility, stagnant demand, double-digit unemployment, and possible sovereign defaults--the advanced industrial economies are looking to their elected leaders for responsive, decisive, far-sighted, non-partisan leadership. But instead of flexible, effective leadership, what the citizens of industrial democracies are getting is rigid, partisan, timid, fragmentary, and myopic leadership. Politics has become so dysfunctional that the situation can be described as a grave "leadership deficit".

In Japan, this "leadership deficit" has lasted longer than in any other major industrial democracy. It has sapped the vigor of Japan's once-high-flying economy.

Leadership matters. When leadership is missing, as it has been in Japan, the economy will continue stumbling along a windy passage towards national decline. Muddling along will lead to the downgrading of Japan's international credit rating, a much lower net value of household assets, and ultimately, perhaps to financial insolvency. If such a scenario isn't sufficiently scary to prompt Japanese leaders to come up with a bold strategy of economic revival, then Japanese voters should hold leaders accountable to a higher standard of performance.

Will Japanese politicians rise above partisan bickering, policy dithering, and political gridlock? Will the disaster of March 11, 2011 finally awaken political leaders to the gravity of the economic crisis at hand? The answer is not clear. The only thing clear is that for the past two decades, Japan's elected leaders have failed to restore Japan's ailing economy to health. The deficit in political leadership matches, and has given rise to, the cumulative size of the unsustainable budgetary deficit.