Tough Love

Two weeks ahead of a crucial election, Junichiro Koizumi stands on a stage in Tokyo’s bustling Ginza shopping district before a crowd of 3,500. Despite the afternoon’s oven-like 35C heat, Japan’s Prime Minister wears the white gloves favored by old-time politicians on the stump. But it’s his only nod to tradition: nothing about his speech is typical of a Japanese politician seeking votes. “I will carry out reforms that no other parties have dared to touch,” Koizumi shouts, the wind whipping his famous locks, helicopters with TV crews whirring overhead. “We will march onward knowing we must better our future, though surely we will feel pain.”

Pain? Until fairly recently, a politician talking about hard times ahead in an election speech could just as well hang up his gloves. But this is Japan 2001and this is Koizumi, who has turned bad news into political capital. He swept into power in April by telling Japanese voters what they already knew but rarely heard from their leaders: that their country was an economic mess. Yes, he pledged to clean it upby getting rid of bad bank loans, privatizing government-run behemoths like the postal service and killing useless public-works projects. But he also warned that it would hurt at first: salaries would shrink, jobs disappear. Now, he’s retelling that tale of gloom on the eve of the July 29 election to the upper house of parliament. His Liberal Democratic Party needs to retain a majority of seats for Koizumi to remain in office. But unlike his predecessorsJapan has had nine Prime Ministers in the past 10 yearsKoizumi isn’t trying to sway the electorate with populist rhetoric. And they love him for telling it like it is.

It’s a love borne of desperation. Since Japan’s bubble economy kerploded in the early ’90s, every indicator has plunged relentlessly downward. The stock market hit a 16-year low earlier this year. Real estate prices have plunged so far that many homeowners are stuck in houses they bought at four times what they’re worth today. Unemployment hit a post-war high of 4.9% last month, more than twice the rate in the 1980s. Terrified of losing their jobs, people are saving more and spending less, thus tightening the screws on retail businesses. City parks are haunted by homeless people. Suicides recently reached an all-time high.

And so Japan has pinned its hopes on Koizumi. He’ll need all the support he can muster. His proposals for reform range from updating securities laws to overhauling the judicial system. He wants to eradicate bad bank debts in under three years and create 5 million jobs in five years. Some economists accuse him being vague on specifics but credit him for having the right ideas. His fiercest opposition comes from within his own party. LDP bureaucrats fear losing access to government funds from which they’ve long doled out political patronage. Koizumi needs a big election victory to quiet his critics.

Ordinary taxpayers acknowledge that economic reform is the only way out of Japan’s bind, a view the West has pushed all along. “It’s like you’re in the final stages of a fatal disease and someone comes along with a potential cure,” says Bill Wilder, head of the Japanese arm of Fidelity Investments. “You don’t know if it’ll work or if it won’t, but you’ve got no choice.” Some worry Koizumi is trying too much, too soon. “He’s promised structural reforms, along with clearing up bank loans and cutting government debtall at once,” says Richard Jerram, chief economist at ING Barings in Tokyo. “But as companies restructure, more people lose jobs and tax revenue goes down, increasing government debt. Unemployed people also spend less money, forcing more companies to fail. That increases banks’ nonperforming loans. It’s S&M economics.”

Still, Koizumi’s critics and supporters both agree on one thing: to lurch out of its coma, Japan needs to tackle its irretrievable bank loans. Estimates vary wildly on just how much is at stake: of $3.8 trillion in total loans, banks may have to kiss goodbye to anything from $250 billion to $1.2 trillion. “To wipe out the debt,” Koizumi said recently, “we must be firm.”

The biggest shock would come in the form of unemployment. Calling in those loans would force the loan-takers to sell off assets, resulting in many cases in bankruptcy. Already, bankruptcies are at a record high. In the 12 months through June 19, 194 companies went belly-up according to bankruptcy trackers Teikoku Databank. Among those were national institutions like the Sogo chain of department stores and giant insurance company Tokyo Mutual Life.

With bankruptcies come unemployment, a much dreaded prospect in Japan, where being jobless is regarded as profoundly shameful. Experts say that with Koizumi’s reforms, joblessness could soar to double its current rate in no time. Heizo Takenakathe academic Koizumi appointed to head up economic policyis well aware that his boss’s political life may hinge on unemployment figures: jobless people make angry voters. That is why, he recently told TIME, reforms must not take longer than two to three years; that is how long his administration figures people are willing to endure the suffering. Takenaka says the economy could grow at less than 1% over that period, mainly due to banks disposing of bad debts.

What could help is a flood of foreign investment. Japan has been notoriously resistant to outsiders and their bucks, but recently it has even allowed American vulture capital firms like Ripplewood to swoop in and pick apart its failed institutions. The next step, say investors, is legislation that insists local companies hew to greater accounting transparency. In Japan, corporations don’t have to air all their dirty financial laundry to shareholders, as they do in the U.S.; a money-losing division can be hidden away as a “subsidiary” and assets can be listed at inflated values. A hint of change in that direction could spark a stock-market rally as it did in 1999, when corporations finally began to restructurethe Nikkei soared 36.8% and smaller stocks doubled.

Getting that sort of rise out of the marketor from Japanese consumerstoday would take a little magic. What’s certain is that Koizumi cannot depend on the smoke and mirrors favored by his predecessors. For most of the past decade, Japan has stuck like rust to its failed formula for growth, shoveling public funds into ludicrous projects like unneeded dams and highways to nowhere. Not only did the government tap tax revenues for these projects, but also pensions and the $10 trillion in personal savings kept in accounts at the post office. Japanese have had enough of that. A citizens group in Shizuoka, 200-km south of Tokyo, recently collected 270,000 signatures on a petition against a $1.6 billion new airport, forcing the government to call a referendum on halting the project, already in mid-construction.

Just how much are Japanese willing to suffer? Yukinobu Karasawa, a 27-year-old salaryman, mulls over the question as he shops for Koizumi goodsposters, T-shirts, cell-phone strapsat the Tokyo LDP headquarters. “I support his reforms,” he says, “but if they begin to hurt me, I might have to reconsider.” Then it will be the Prime Minister who feels the pain.