The Lessons From Japan

Correction Appended: March 12, 2009

Wandering the streets of Tokyo’s Roppongi district on a wet night, you know where film director Ridley Scott got the inspiration for his dystopian Los Angeles in Blade Runner. Multicolored neon; disembodied voices from video screens; a freeway over your head; the smells and sounds of bars and noodle shops; fake fur everywhere. Then, the next morning, you look out a window and see another Japan: a hedge in which each leaf seems to have been clipped by hand; a couple of rocks placed, in some Zen way, just so.

In many years of visiting Japan, I’ve learned not to be surprised by the juxtaposition of modernity and tradition, by an embrace of high-technology that coexists with a reverence for an older nation of cherry blossoms, hot springs and snow on maple trees. In an enigmatic way, this duality has not torn Japanese society apart but given it a remarkable stability.

The question facing Japan now, however — and the issue that should dominate elections to the lower house of the Diet, which could come as early as May and in which the ruling Liberal Democratic Party looks vulnerable — is whether stability is enough. The nation faces enormous challenges: a rapidly aging population, the rise of China as a regional superpower and the breakdown of the economic system responsible for Japan’s postwar economic success, as international trade collapses and with it Japan’s markets for its goods. (See pictures of Japan and the world.)

Japan’s ability to meet these challenges is of more than local interest. The nation is the world’s second largest economy and the U.S.’s key ally in Asia. And given Japan’s recent economic history, the way in which it copes with the current crisis could provide some insights into how the rest of the world can get through it as well.

In the late 1980s, after banking laws were relaxed, Japan went on a credit binge that made the modern U.S. look prudent. The stock market took off into the stratosphere, and property prices got so out of control that it was said the land on which the Imperial Palace sat in the center of Tokyo was worth more than the whole of California. Then the bubble burst, banks found that their balance sheets were full of bad loans, and Japan entered a lost decade of stagnant economic growth. Nearly 20 years after its peak in December 1989, when the Nikkei index nearly hit 39,000, the stock market has never come close to recovering. The Nikkei recently touched its lowest point since 1982.

So what lessons can the U.S. learn from Japan? Here are three:

1. Act Early, Act Often
After the bubble burst, Japan’s powerful bureaucrats, who had earned a reputation for brilliance in the 1980s, dithered for years. In the face of slumping demand and price deflation, they cut interest rates too slowly, delayed a fiscal stimulus and failed to restructure so-called zombie banks, whose bad loans made them dead in all but name.

You can criticize the details of the U.S. response to the collapse of credit markets, but in comparison to Tokyo, Washington has acted at warp speed. As Japan watcher Richard Katz points out in the latest Foreign Affairs, it took the Bank of Japan nine years to bring the interest rate that banks pay on overnight money to 0%; the U.S. Fed managed that in 16 months following the beginning of the credit crisis in the summer of 2007. Japan — in desperate denial about the plight of proud companies — long delayed using public money to recapitalize banks. The U.S. starting doing so within a year of the crisis’s start.

See pictures of the global financial crisis.

See 25 people to blame for the financial crisis.

2. Stick with the Program
Early action, however, is just the beginning. Japanese policymakers have learned the hard way that it takes years to leach toxic assets out of a financial system and restore confidence so that consumers shop rather than stash their money in safe-deposit boxes. While domestic demand remains sluggish, government spending has to take up the slack and keep at it. In Japan, a recovery was aborted in the late 1990s when, at the first sight of green shoots, the government raised taxes. President Barack Obama is committed to reducing this year’s federal budget deficit of $1.3 trillion by half in four years. That’s a laudable goal — as long as private-sector demand has picked up by then.

In Japan, there’s a clear recognition of the economic link between feeling safe and feeling confident. In a March 7 interview with TIME in Tokyo, Ichiro Ozawa, the leader of the opposition Democratic Party of Japan and the front runner to be Japan’s next Prime Minister (if he can avoid the fallout from a scandal over political fundraising), said “giving a sense of security to the population” was key to economic recovery. Ozawa argues that only if families feel that their basic needs have been taken care of — needs like health care and provision for retirement — will they go out and spend money on new cars and clothes. There’s a lesson for the U.S. there too. Health-care reform in the States isn’t just an egalitarian goal; it’s also a way of providing confidence so that families feel able to go out and enjoy themselves again.

3. We’re All in This Together
After a decade in the tank, Japan’s economy started to recover around 2003, buoyed by spectacular growth in China and the U.S. This year’s slump is correlated with the collapse of external demand; in January, Japan’s exports were down an astonishing 46% compared with the previous year’s.

The U.S. economy is not nearly as dependent on trade as Japan’s. Nonetheless, the contraction of world trade is hitting the U.S. too. This is a global recession — the World Bank has forecast that the global economy will shrink this year for the first time since 1945 — and it needs global solutions. When world leaders meet in London in April, they will be trying to coordinate a tide that lifts all boats.

Japan can play a key part in getting growth going again. But that will require it to change, to expand its domestic economy rather than rely, as it has long done, on its exports.

That’s where Japan’s duality comes in. It is a nation that does not always find it easy to change, to embrace the future. In Tokyo’s Ota Memorial Museum of Art this month, there is an exquisite exhibition of ukiyo-e woodblock prints displaying Japan during the Meiji Restoration in the late 19th century, when Western habits — European music and military uniforms, crinolines — were beginning to replace the old ways. In one print, a woman in traditional kimono and lacquered hair watches wistfully as a young girl, hair flying behind her, joyfully rides a bicycle.

Will today’s Japan now pedal off to meet the future with confidence? At least in part, the prospects for a global economic recovery depend on it.

The original version of this story misidentified Japan’s LiberalDemocratic party as just the Democratic party.

Read “How to Know When the Economy Is Turning Up.”

Read business stories about Japan.