The simplest way to tackle the topic would be to say we should do what Heizo Takenaka did when he was the responsible minister in Japan in 2001–2005, and things will be okay. Unfortunately, we are unlikely, with the current vetting process, to get Takenaka-Sensei to become head of the National Economic Council. So I will try to drag out in a little more detail what should and should not be done. I think there are about seven major lessons to be taken.
The first point is that—as much as Prime Minister Junichiro Koizumi and Minister Takenaka were heros—Japan did not have to lose the decade of the 1990s the way it did. And I think we have to start from that point. There are people—such as Richard Koo, Stephen Roach—well-known to all of you who talk about “balance-sheet recessions,” and the idea that you have such a huge loss of asset values on household and business balance sheets. They seem to say that the private sector and thus the economy just cannot sustainably recover until that overhang is worked through. And there was that counsel of despair influential at times in Japan and to a lesser degree there is that now here. So I just want to stress that I think what Takenaka and his colleagues did, and what the Obama administration and the Federal Reserve are now doing, in essence, is right. Policy activism to support the economy is the right response.
I firmly believe that Japan would have recovered in 1995 had there not been bad fiscal and monetary policies and neglect of the banking system. I firmly believe Japan could have still recovered in 1998, had there not been neglect of the banking system and then reversals by the Bank of Japan. And, therefore, it takes nothing away from the credit to the Koizumi team that Japan did eventually recover in 2002 when the right policy measures were undertaken. So I think that’s the first point—that the bias towards activism, while it does have its costs, while we have to think about it, is the right one. That bumper-sticker from Japan, is correct.
The second lesson, which is the big ticket right now, is the question of spending money on stimulus versus spending money on the banks. And several of us have noted that the reason we have this convoluted public-private partnership, non-bank, bad-bank, pseudo-bank, aggregator-bank thing coming out of the Treasury to rescue the banks is because the Treasury feels that must do everything to avoid going to Congress asking for money for banks appropriated on-budget. I feel the Obama Administration’s pain on this. But if you take a broader historical perspective, that essentially hesitation to finally fix the banks is what kept Japan from doing the right thing, in a sense, throughout the 1990s.