2011/05/29

The Welfare State in the Making (For the History of Economic Society at the Univ. of Notre Dame, June 2011)

(For the History of Economic Society at the Univ. of Notre Dame,


June 2011)

                                                          



The Welfare State in the Making


─ Beveridge and Keynes ─



Toshiaki Hirai (Sophia University, Tokyo)


The social system of the postwar UK is often referred to as ‘Keynes=Beveridge System’1 after Keynes, who brought on the ‘Keynesian Revolution’ in the field of economic theory and policy with his General Theory, and Beveridge, who laid the foundations of the social security system with the Beveridge Report. As will be seen, Keynes and Beveridge endeavored in close collaboration to see their ideals implemented in the 1940s2, earning the whole-hearted support of young economists and officials.

In this paper we will examine the Beveridge Report in the making and thereafter, paying special attention to how Keynes and others contributed to the completion and realization of the Beveridge Plan.

The paper runs as follows. Firstly, we briefly examine how Keynes evaluated the market society. The direction in which anyone might hope to see the market society transformed (if at all) will depend upon his/her social philosophy. Secondly, we take a look at a number of social security acts passed in the inter-war period that paved the way, after which, thirdly, we consider the Beveridge Report in the making. Finally, we come to the Beveridge Report (December 1942), and the [White Paper] on Social Security (September 1944) — a modified version of the Beveridge Report.



1. Social Philosophy



A. Keynes’s New Liberalism

  Keynes’s view of the market society3 is referred to as the ‘New Liberalism’. This is a social philosophy which maintains that the state can and must play a positive role in market economy performance, in antithesis to (classical) liberalism, which insists on laissez-faire, attributing poverty to individuals’ responsibility.

It should be noted that the New Liberalism had not been advocated or entertained by Keynes alone: — indeed, it was prevalent among views of the market economy, although Keynes was a leader of this current of thought in the inter-war Britain, as can be seen by his activities in the ‘Liberal Summer School’.

Confining our attention to the main economists in Cambridge, we can definitely state that all of them lined up on the side of the New Liberalism (Keynes, Robertson, and Henderson), or at any rate quite close to it (Hawtrey and Pigou), as far as social philosophy is concerned.4

It is widely known a heated controversy arose over economic theory between Keynes and his fellow-economists, and in particular Pigou, who came under fire as representative of the ‘classical school’ in the General Theory, Robertson, who increasingly showed theoretical antagonism towards Keynes after the Treatise, Hawtrey, famous for the ‘Treasury View’ which Keynes attacked, Henderson, who crossed swords with Keynes over the employment policy in the 1940s, and so forth.

Theoretically speaking, these differences between the scholars concerned are clearly recognizable, although we should stress at the same time how greatly Keynes was influenced by, among others, Robertson and Hawtrey in the course of theoretical development from A Tract on Monetary Reform, through the Treatise, to the General Theory.5

The ‘Keynesian Revolution’ left the theories of Keynes’s contemporaries quite in the shade, and their social philosophies have remained in virtual oblivion to this day.

The Keynesian Revolution opened the right path to the development of macroeconomics, but it also caused two misunderstandings. One is that Keynes’s contemporaries’ theories were regarded as pertaining to classical economics, although in actual fact some of them such as Robertson and Hawtrey, did pioneer a new way to macroeconomics. In this respect, in extending our investigation beyond the Cambridge School we need to ascertain just how much Wicksell’s theory of cumulative process influenced Keynes and his contemporaries, including Mises, Hayek, Lindahl, Myrdal and others.6 The second misconception is that the social philosophies of Keynes’s contemporaries were considered to be in contradiction to Keynes’s. This is far from the truth. As far as theories of Keynes’s contemporaries are concerned, several, if not many, studies have been continuously made. Social philosophies of Keynes’s contemporaries have, however, been completely neglected, so it is hardly surprising if it is widely but mistakenly believe that Keynes’s fellow-economists held to the laissez-faire philosophy.



As for Keynes7, he was critical of the view that the market society should be left to the market itself (Laissez-Faire), although he appreciated the efficiency afforded by the market society. He welcomed the growth of semi-autonomous organizations ─ those occupying a position between individuals and the state ─ within the market society, and allowing for state intervention, if necessary, to an extent that does not sacrifice the freedom of individuals. His stance was a halfway house between ‘a complete laissez-faire system’ and ‘a socialist system run by the direction of the state’.

It should be noted that as compared with his position in the 1920s, the 1930-40s saw Keynes showing more sympathy with the ethical aspect of the market society, stressing the importance of social security and social justice. Above all, Keynes was an economist who contributed to the theoretical analysis of unemployment, and pursued an economic policy designed to alleviate the problem.



B. Beveridge’s Changed Stance

As for Beveridge, his stance changed several times throughout his life. In the 1900-1910s he was greatly involved with the problem of poverty and unemployment, empirically analyzing it, and greatly contributed, as will be seen below, to several social insurance laws. At that time he considered the government as composed of ‘an impartial, benevolent, educated élite’.

But in the 1920s he put less and less confidence on the ‘government-inspired social reforms. Harris (1977) summed up Beveridge’s stance as follows:



“As his faith in the processes of government waned, he turned more and more to … economics … as the tool that would solve the problems of society, and for a time in the late 1920s and early 1930s a belief in the laws of the ‘free market’ seems to have at least partially displaced his earlier belief in a benevolent administrative state. This faith in free market economics was in turn shattered by certain historical events of the 1930s, and Beveridge went through a period of prolonged political uncertainty --- during which he once again began to think in terms of central government planning for comprehensive social reform” (pp.311-312).



It should be noted, therefore, that Beveridge lost his interest in social welfare, so the development of social reform which has been made in the 1920s had nothing to do with Beveridge. This is of crucial importance. What he tried to master was economics advocated by Robbins who was greatly influenced by Hayek. Although it is Austrian economics based on free market mechanism, it is difficult to regard it as orthodox economics, for it was the most sophisticated economics based on Austrian theory of roundabout production together with Wicksellian theory of cumulative process.

It was Beveridge as a believer in free market system who vehemently opposed Keynes’s advocate for protectionism in 1932.

The catastrophic events which attacked the capitalist economy in the 1930s shattered Beveridge’s belief in free market system. “Beveridge’s vacillation between rival systems persisted for several years.” He was greatly influenced by the Webbs who insisted the superiority of the Soviet Russia over the capitalistic systems, though he disliked its political system. “By 1935 Beveridge had clearly moved a long way from the rather extreme free market position that he had adopted some years before. Moreover, in purely economic terms he seemed more inclined to favour a socialist model of planning than the mixture of state control and free enterprise prescribed by Roosevelt and Keynes” (p.328).



The publication both of Soviet Communism and of the General Theory intensified Beveridge’s sense of estrangement from current economic and political thought. Politically he sympathized with the Keynesian liberals, but found their economic policies not merely objectionable but virtually incomprehensible. … Conversely, he was impressed by the economic policies favoured by the Webbs, but found their politics totally unacceptable (331-332).



In 1937 Beveridge left LSE, and went to Oxford in “a mood of almost total pessimism about the possibility and even the desirability of radical social reform” (p.332).

Beveridge was unexpectedly able to enjoy a happy life at Oxford. As the war was approaching, however, his activities were greatly to change.



“Beveridge’s transformation from critic of welfare capitalism in the mid-1930s to its most archetypal exponent in the early 1940s must be directly related to the context of war” (p.365).



“From the start of the war Beveridge hoped that he himself would be recalled to Whitehall to take part in wartime government; and, in particular, he hoped that he might be placed in charge of either distribution of manpower or economic planning. For a long time, however, his hopes were doomed to disappointment. During the early months of war he bombarded government departments with offers of assistance, but all these offers were politely but firmly rejected” (pp.366-367).



“In July 1940 Ernest Bevin asked him to carry out a brief survey of the government’s wartime manpower requirements, and two months later Beveridge was appointed chairman of the Manpower Requirements committee of the Production Council. Neither of these posts was particularly important and neither of them carried executive responsibility, but they gave Beveridge a foothold in his chosen area of policy” (p.370).



Due to personal conflicts with Bevin, however, Beveridge was driven out of the Ministry of Labour, and was forced to accept to be “chairman to an interdepartmental inquiry that was about to be set up on co-ordination of social insurance” (p.376)



This was a devastating thing for Beveridge.



“He gradually became convinced that an inquiry into the social insurance system was potentially far more significant thatn it had seemed at first sight” (p.377).



For several months, he was still concerned with a plan of allocating manpower in the Army. “He put forward a system of ‘general enlistment’ by which men would enter the Army and then be allotted to regiments that had a special need for their skills” (p.377).



This plan met harsh criticism of the public and was finally dropped. “It was not until this stage --- May 1942--- that Beveridge turned his undivided attention to the problems of social insurance --- and, indirectly, to the much wider question of post-war social reform” (p.377).



Looking at Beveridge’s changed stance, it is very difficult to identify his social philosophy. But it is true that he, who started his carrier as social reformer, and was converted to be free market believer, again came to appear as a planner of the whole society. It is also true that he, who aspired to become planner of allocating manpower in the Central Government in the war economy, was forced to accept the post which he did not want. It is absolutely true, then, that he was to put the whole energy on drawing out the social insurance system in the committee he was to work as chairman far beyond the authorities permitted to the committee.



Beveridge’s social philosophy around this period is clearly expressed in “Reconstruction Problems: Five Giants on the Road” (June 1942), which will be explained later as an important manuscript leading up to the Beveridge Report.



Thus Keynes and Beveridge came to share a keen awareness of the issues, responding to the needs of the times and society. Working in close collaboration, they were to make a great contribution to the shaping of post-war society.8

Having said as much, we must also recognize a difference in the 1940s (it should be noted that Beveridge had been a free market believer in the 1920s and early 1930s) between the two in their degree of confidence in the market economy. This is clear from the difference in their stances on [the White Paper on] Employment Policy (1944), although both held it highly: Keynes thought it somewhat a pity that the role which private firms should play was not emphasized, while Beveridge complained that trust in the market economy was placed too much in relation to the conquest of ‘Filthiness’ and ‘Idleness’.9









2. Social Security Acts in the Inter-War Period



The Beveridge Report as well as [the White Paper on] Employment Policy (1944) played an epoch-making role in constructing the welfare state system (or the Keynes=Beveridge system) in the post-war UK. The essence of the Beveridge Report lies in unifying and systematizing social security acts which had been implemented step by step as from the beginning of the 20th century. Thus we need to look back to how the social security system evolved in the inter-war period.10



Prior to the first world war, ‘the Old Pension Act’ (1908) and ‘the National Insurance Act’ (1911, comprising health insurance and unemployment insurance) were brought into effect. Beveridge, the first director of the Labour Exchange (1909-1916), drafted the unemployment insurance system. Under ‘the Unemployment Insurance Act’ implemented in 1920, the number of insured persons increased from 3.75 to 11.10 million. The conditions rendering eligible for benefits were as follows:



(i) contributions for, at least, twelve weeks.

(ii) one week’s benefits against six weeks’ contributions.

(iii) fifteen weeks’ benefits, at most, in a year.



Beveridge also played an essential role in the constitution of this act. In February 1918, as chairperson of the sub-committee of war-time civil workers, the Ministry of Reconstruction, he recommended generalization of unemployment insurance, while in 1919, as a member of a Ministry of Labor committee, he collaborated on a plan to generalize unemployment insurance.

The above conditions for benefits were not, in fact, fully implemented due to a rapid increase in the number of unemployed persons as a result of deterioration in the British economy from 1921 on, but were either were either waived or mitigated up to 1931. A large amount of public financial aid to the unemployed was given in the form of ‘prolonged’ unemployment benefits throughout the 1920s, as a result of which the ratio which the New Poor Law occupies was to decrease rapidly.11

As unemployment rapidly increased the unemployment insurance fund dwindled equally fast. The measures taken to deal with this situation were the ‘Unemployment Insurance (National Thrift) Decree’ No.1 and No.2. In No.1 it was decided that the contributions should increase by 50 percent, while the benefits should decrease by 10 percent, and that the benefits should be provided up to a maximum of 26 weeks. In No.2 ‘transitory benefits’, to be provided by the State, were introduced with the aim of alleviating the impact of No.1. Thus public pecuniary aid to the unemployed was made up of the unemployment insurance benefits, transitory benefits, and the public assistance (by the New Poor Law).

The ‘transitory benefits’, however, provided for would-be beneficiaries to take a ‘need test’, which roused strong resistance from the general public. In order to deal with this situation the ‘Unemployment Act’ was enacted in 1934. The Act is composed of Section 1, ‘Unemployment’ and Section 2, ‘Unemployment Assistance’. In Section 1, managerial regulations for the Unemployment Fund by the ‘Unemployment Insurance Act Committee’ are stipulated (Beveridge was appointed as a chairman), and the conditions rendering eligible for benefits made somewhat less stringent. In Section 2, the ‘Unemployment Assistance Committee’ is instituted. Unemployment assistance is provided by the State, and requires the family applying for it to take a ‘family’ means test. This increasing recourse to assessment in unemployment assistance, however, met with a fiercely angry reaction from the public, and in 1935 the ‘Suspension Act’ −which allowed beneficiaries to choose the higher between transitory benefits and unemployment assistance −came to be instituted. Furthermore with the ‘Need Decision Act’ introduced in 1941 the ‘family’ means test gave way to an ‘individual’ means test.

Such was the background to the creation of the ‘Beveridge Committee’.





3. ‘The Beveridge Report’ in the Making12

― Support from Keynes and His Circle



In June 1941 the Portfolio Secretary Greenwood declared in the House of Commons that an inter-departmental committee was to be set up, having Beveridge as a chairman (hereafter the Beveridge Committee), in response to pressure from the TUC and a number of MPs. The aim of the Beveridge Committee was to look into the situation of social insurance and allied services in the UK, and to recommend some administrative improvements.

The Committee had finished its investigations by September, and Beveridge, set about taking serious steps towards drawing up a comprehensive social security plan. However, this put the civil servants brought in from various departments to sit on the Committee in an awkward position, for it meant going far beyond the task assigned them. The ultimate solution, reached on the initiative of the Treasury, was to reorganize the Committee in such a way that the final report should be signed only by the chairman while the members should work cooperatively as technical advisers.

In December 1941 Beveridge drew up an outline of the proposal, ‘Some Fundamental Problems of the Social Security’. He asked the Economic Section for advice concerning its economic aspects, including, among others, the employers’ contributions.

The Economic Section13 is an economic advisory department, which came to play a leading role in the reconstruction of the post-war economic system, with Meade playing the pivotal role. In response to a request by Jukes, the (first) director of the Economic Section in February 1941, Meade addressed four crucial problems ─ unemployment, social security, the industrial structure, and world trade and finance ─ which the post-war Britain had to tackle. Thereafter Meade with the support of Lionel Robbins14, the (second) director, was to make an outstanding contribution to policy making in the Economic Section. And many policy proposals by the Economic Section were to be adopted as official policies of the British government, exerting a great influence on the direction in which the post-war British economy and society should be moving.15

Of the four problems mentioned above, it is the social security problem that we are concerned with this paper. For this problematic area, and for unemployment, Keynes, who had worked as an adviser to the Chancellor of Exchequer since 1940, provided the Economic Section with economic theory and policy, together with his committed support.

In March 1942 Beveridge sent Keynes two memoranda ‘outlining the heads of a possible scheme and the problems it would solve and his list of principal questions’ (JMK.XXVII, p.203), while also asking for advice, especially on their financial aspect ─ and these, indeed, are the first documents to show the backbone of the Beveridge Report: ‘Several Fundamental Problems of the Social Security’ (11 Dec. 1941) and ‘The Social Security Standard and the Poverty Problem’ (16 Jan. 1942).16

Keynes, as will be seen from a letter dated 17 March, earnestly endorsed the Beveridge Plan from the outset.17



I have read your Memoranda, which leave me in a state of wild enthusiasm for your general scheme. I think it a vast constructive reform of real importance and am relieved to find that it is so financially possible (JMK.27, p.204).18



Keynes had the opportunity to read a document on the economic aspect of the Beveridge Plan by Meade of the Economic Section. His comments in a letter (dated 8 May) to Meade can be summarized as follows:



(1) Although I agree to your view that the contributory system is theoretically inferior to the tax system, it is still important, at this early stage of the Plan, as a method of avoiding a heavy burden on the budget.

(2) I am doubtful of the effect of your policy of promoting consumption as a means of conquering the depression.

(3) I am in complete agreement with the ‘dismissal tax’19 which Beveridge advocates.

(4) Although I recognize a theoretical advantage in your proposal to the effect that contributions should be varied accordingly as the economic situation changes, I am doubtful of its effect.



In response, on 12 May Robbins and Meade met with Keynes for lengthy discussion of Beveridge’s Social Policy Plan. As a result, the Economic Section’s Plan was revised. On reading it, Keynes now came round to approving Meade’s idea of changing contributions20 with the changing economic situation. Meade sent Keynes a letter (dated 17 June) together with the final version of the Economic Section Document on the economic aspect of the Social Security Plan, developing further his idea of variable contributions.

In June Beveridge wrote an important document, ‘The Reconstruction Problems: Five Giants on the Road’, which was submitted to Jowitt’s ‘Advisory Council on the Internal Problems’. Here Beveridge argued that, of the Five Giants, ‘Pauperism’, ‘Disease’ and ‘Ignorance’ were now to be conquered, while ‘Filthiness’ and ‘Idleness’ could not be conquered in the market economy context, so that ‘Planning by the State’ including the nationalization of land and certain key industries, would be necessitated.21 Here the social philosophy peculiar to Beveridge emerges in all evidence.22

On 24 June the Beveridge Committee discussed the final version of the Economic Section document. Meade wrote a letter to Keynes, asking for comments. The main subject concerned the budget, revealing the difference between Meade and the Treasury.

Meade’s main argument runs as follows:



(i) While the Treasury is pessimistic on the prospective revenues and is critical of the Meade plan from this point of view, its reasoning is not entirely sound (among other things, the Treasury misses the point that an increase in gross national expenditure brings about an autonomous increase in indirect tax through the increase in individual consumption).

(ii) There is a good case for highly progressive income tax and somewhat modestly progressive capital levy.

(iii) Priority should go to the ‘socialization of property’23 (e.g. the confiscation of national debt, and the nationalization of the railways, the agricultural lands and the public utilities) aimed at securing the revenues required for the large-scale public expenditure.



In his letter to Hopkins (dated 30 June), Keynes refers to an estimate of the postwar national income: on the optimistic side Keynes=Stone, forecasted a national income of 6500 ∓200 million pounds for 1946 with an increase of 100 million pounds every year subsequently,24 while Henderson, on the pessimistic side, estimated even 6300 million pounds to be too high.

The estimated national income was thereafter a major divisive issue, for it made a big difference to the estimated revenue and, therefore, to the resources available to the social security area.

On the Beveridge Plan Keynes commented as follows:



From among the total budget of 680 million pounds, 310 million pounds comes from the contributions of the employer and employed, 270 million pounds from the state contribution (from which the family allowances are to be provided), so that, on balance, 100 million pounds run short. Therefore, if pensions could be saved by the same amount, the burden on the Revenue is confined only to the family allowances, and the Beveridge Plan would find itself very persuasive.



As for the variable contributions plan mentioned above, Meade worked out an even more detailed version which he sent to Keynes together with his plan for using ‘deferred income tax credits’ for the post-war period (this is also conceived as a demand-stabilizing policy).25 Following Hopkins’ suggestion, however, the former plan came to be separated from the Beveridge Plan.

On 30 June Hopkins asked Beveridge to check the wider fiscal implications of the Beveridge Plan in relation to the Recovery. There followed a discussion between Beveridge and Keynes, the result of which Keynes reported to Hopkins in a letter (dated 7 July). The points worth noting are as follows:



(i) Beveridge agrees to set up an un-official committee on the ‘social security budget’ (which was to be the fourth section of the Beveridge Report) with the purpose of making the whole plan financially feasible.

(ii) Beveridge does not object to confining children allowances to those after the first child.

(iii) Beveridge does not object to making pensions (which occupy two thirds of the Beveridge Plan) much lower.

(iv) Beveridge agrees to the ‘funding principle’, to the effect that pensions should not be provided to those who have made no contributions, and/or need no pensions.



Beveridge then wrote a letter to Hopkins saying that he would like to revise the fourth section of his plan, and in fact he sent a revised version to various ministries concerned.  

At this point, however, Hopkins circulated a memorandum to the effect that the resources should come from the general taxation rather than the ‘funding principle’ as a fiction.

Responding to Hopkins’ motion, on 20 July Keynes tried to persuade Hopkins with a letter. As already seen in discussion with Meade, Keynes agreed with Hopkins about the ‘contributions versus taxation’ problem. He admitted that the contributory system was a fiction, and since it was a poll tax in nature there was a possibility that the revenue thus procured might not suffice. Nevertheless, argued Keynes, it had some advantageous points as a fiction ― (i) it should be naturally regarded as production costs; (ii) we should value the established fact that the public has accepted it as reasonable.

Keynes went on to hammer out an idea, the ‘Extra-Budget Fund’ either managed or supported by the State. He emphasized that the Fund should be financially self-sufficient and would be needed accordingly as the socialization of the economy proceeded.26 He also put forward an idea that the budget should be divided into the ‘ordinary budget’ which should be kept balanced, and the ‘capital budget’ which should be variable depending on the employment situation, and that the social security budget should pertain to one item in the capital budget.

In his letter to Hopkins, furthermore, Keynes went as far as mentioning a reform plan for the income tax, and concluded with the remark that if this was not accepted, “we had better keep the current contributory system”.

Surprised at Keynes’s income tax reform plan, Hopkins eventually returned to the ‘contributory principle’.27 

 The above-mentioned un-official committee for discussion of the financial aspect of the Beveridge Plan was to be composed of Keynes, Robbins and Epps (the director, the Actuarial Statistical Bureau), and the letters conserved by Keynes show the course the discussion took among the committee members for two weeks, the first meeting being held on 10 August.

For the first meeting Keynes worked out the proposal, ‘the Social Security Plan’, the purpose of which was to examine to what extent the Beveridge Plan could be split so as to be financially feasible until net national income had sufficiently increased. According to Keynes, it was possible to save 350 million pounds by: (a) postponing immediate application to those who do not belong to the employed class; (b) holding back immediate increase in insurance benefits and unemployment benefits; (c) restraining immediate increase in pensions; and (d) reducing children’s allowances. The contributions by the Treasury would then amount to no more than 111 million pounds (or, adding 100 million pounds as the cost of services for non-contributions [additional pensions, unemployment assistance and children’s allowances], 211 million pounds).

Beveridge’s response in the first meeting was as follows:



He opposed (a), arguing that immediate application should be made beyond the current insured persons. With regard to (b), he agreed to a ceiling of 25 shillings. Coming to (c), he found the Keynes proposal too low, but agreed to a reduction in pensions. Finally, in response to (d), he agreed with excluding the first child, but opposed a reduction in the rate of benefits, insisting, rather, on an increase.

Beveridge, furthermore, proposed the contributions of eight shillings rather than Keynes’s proposal of six shillings. The unofficial committee argued that the contributions of eight shillings would be extremely difficult to implement, and cause political unpopularity. In response, Beveridge argued that higher benefits should be made dependent on higher contributions, and that the rights of those who have not so far contributed should be reasonably restricted.

Although the unofficial committee argued that excluding the first child would bring about political instability, Beveridge insisted on the exclusion.

It was on the pensions plan that most of the discussion. The unofficial committee judged that the Beveridge plan would mean maximum expenditure and minimum national satisfaction: the plan made no provision for those who did not pay contributions, which would create a sense of unfairness between those who paid the contributions at present and those who would be paying the contributions in the future. Thus it became an important point between the two sides to examine what the future level of pensions for those who had paid the contributions should be.

Taking the above into account, Beveridge wrote ‘Several Problems of Pensions’ (19 August). This document is valued as showing ‘Beveridge’s idea of pensions, which comes to occupy an essential place in the final report, is almost established around this period.’28

On 21 August Keynes had a talk with Beveridge, who had added various changes to his plan in order to lighten the initial financial cost. Keynes thought that further revision would be required, but Beveridge would not change his mind as to the following four points:



(1) immediate incorporation of the whole population

(2) a high level for children’s allowances

(3) contractual rights to a level of pensions increasing with time

(4) a retirement clause29



24 August saw further talk between the unofficial committee and Beveridge. Keynes judged the concessions that had by now been made in modification of the initial Beveridge truly appreciable, and anticipated no great difficulty in terms of finance.

Having made these points, Keynes’s principal criticisms run as follows:



(i) The plan that a person who becomes eligible for pensions will get the first year’s pension over his entire life is politically unstable.

(ii)Eight shillings was too much for children’s allowances: by reducing the sum, they could also be applied to the first child.



  The final discussion between Keynes and Beveridge with Robbins present was held on 12 October, with three main points:



(i) Calculations were based on the lower forecast price level (25 percent higher than that in 1938. Keynes estimates 35 percent higher). 25 percent should not be emphasized.

(ii) The rate at which the pension increases every two years should not be stated. (Beveridge agreed on this point, remarking that “the essence of my proposal lies in clearly distinguishing the benefits which comes from the contributions made so far and the temporary benefits which do not”.

(iii) Eight shillings were too much for children’s allowances.



 Keynes went on to make the following comments on the additional cost which the Beveridge Plan incurred for the Treasury. On the one hand, he observed, certain factors could help reduce it, namely:



(i) An increase in the income tax.

(ii) Five-shillings children’s allowances.

(iii) Socialization of the medical professionals, and the impossibility of the immediate implementation of the health services for the whole population.



On the other hand, the factors he saw as contributing to increase it were:

 

(iv) Restriction of the Plan to the class who are currently making contributions, due to the administrative and legislative reasons.

(iv) Deletion of the ‘retirement clause’.



 Keynes’s overall evaluation of the financial aspect of the Beveridge Plan ran thus: although the finance of the Plan essentially depends on an increased rate of the contributions as socially acceptable, the proposed rates (four shillings for the employed, and three shillings and three pence for the employer) are very reasonable, and make the Plan which covers such a wide area feasible with a very modest financial burden to the Treasury.

Having remarked that the Beveridge Plan, covering such a vast wide area, was so beautifully worked out that the public would be persuaded, Keynes recommended the following practical measures:



It is desirable for the quite new characteristics of this Plan to be postponed: (i) the benefits and contributions are extended not only the class currently paying but to the whole nation; (ii) immediate socialization of the medical professionals.

For the moment efforts had better be concentrated on a wide-scale simplification of the ordinary business, which is the easier option, and yet important.

 

On 14 October Keynes wrote to Beveridge in warmly approving tones:



After reading this further installment of your Report, I feel confirmed in the feeling I expressed the other day, that it is a grand document. You can scarcely expect it will be adopted just as it stands, but is seems to me that you have got it into an extremely workable shape, and I should hope that the major and more essential parts of it might be adopted substantially as you have conceived them (JMK.27, p.255).



As is clear from the above, Keynes appreciated the Beveridge Plan very highly, and spared no effort to persuade the Treasury. He suggested various ideas to Beveridge that could help implementation of the Plan on a stand-alone basis, and summed up the financial aspect of the final version of the Plan thus: there is no other plan which can be more cheaply run than the Beveridge Plan over the two decades from now on, so that it is of great help to the government budget, which is placed under stringent conditions. Although the cost of the Beveridge Plan will be on the increase thereafter, it will not be so burdensome because the national economy will certainly grow.



On 1 December 1942, after several revisions through the above discussions, the Beveridge Report was announced.





4. The Beveridge Report and

Social Insurance (Cmd 6550. September 1944)



A. The Beveridge Report

The main feature of the Beveridge Report is evident from Paragraph 17, which deals with social insurance against the discontinuity of earnings, and special expenditure on the occasions of birth, weddings, and death. This social insurance is stated to be founded on the following principles.



(i) equal minimum living cost benefits

(ii) equal contribution

(iii) unification of administrative responsibility

(iv) sufficient benefits (‘sufficiency principle’)

(v) comprehensiveness (exhaustiveness as to persons and necessity)

(vi) classification of the insured



The main purpose of the Beveridge Report is to eradicate ‘Pauperism’ by means of this social insurance as a principal tool, with ‘public assistance’ and ‘voluntary insurance’ as subordinate means. Thus it aimed at securing the ‘national minimum’ (the national minimum living standard) for the whole nation.30

The Beveridge Report’s main pillar is not relief by the State but ‘social insurance’ based on the ‘contributory principle’ (an equal contribution and an equal benefit). In fact ‘public assistance’ by the State is considered a special case, concerning those who cannot help themselves. In this case, therefore, the ‘Means Test’ based on the ‘inferior treatment principle’ is required.

 Turning to the administrative organization, the Beveridge Plan is run on the stand-alone basis of the ‘Social Security Budget’. Its revenues come from the contributions by the employed, the employers and the State, while its expenditure is on various pensions and benefits. This point is stipulated in detail in Section 4, ‘The Social Security Budget’ and Appendix A, ‘The Finance of the Plan on the Social Insurance and Security Benefits’ (Memorandum by Epps, the Actuarial Statistics Bureau).31

Stating that ‘freedom from poverty is no more than one of the essential liberties of mankind and that any social security plan in the narrow meaning … takes for granted common social policies in many areas’ (Paragraph 409), the Beveridge Report emphasizes, as a precondition of social security, the implementation of children’s allowances, comprehensive health services and rehabilitation services, and the maintenance of employment (= the prevention of mass unemployment), the latter point receiving the greatest emphasis. The point is detailed in Section 6, ‘Social Security and Social Policy’.

Children’s allowances are paid to the parents for bringing up their children. The grounds for the necessity and importance of children’s allowances are mentioned as follows:



(i) No national minimum is guaranteed by the wage system alone.

(ii) In order to clarify the difference between the earnings got when a person is employed and those got when unemployed, they should be paid irrespective of when the parents are employed or unemployed.

(iii) They are important from the point of view of maintaining the population.



 The Report declares that children’s allowances should be financed by tax, and 8 shillings should be provided for any child except for the first child.

Coming to comprehensive health services, a compulsory social insurance scheme that sets no limit on the income level is proposed (Paragraph 431). As to rehabilitation services, they should be provided until earning power be restored — at the maximum, from the medical to the rehabilitation stage.

For the maintenance of employment, Beveridge Report mentions the following reasons (Paragraph 440).



(i)The social security plan provides for unemployment benefits for a short period only.

(ii)With mass unemployment there is no longer any room for creating vacancies as the only satisfactory countermove against unemployment.

(iii)Labor accident, disease and the employment of the disabled depend on the state of the labor market.

(iv) As the income guaranteed by the social security plan is insufficient in amount, it is very important that the State should endeavor to give its nation reasonable opportunities for employment.

(v) If ‘extravagance’ is added, there is a danger that the cost of the social security plan will be too huge to sustain. Unemployment is the worst form of ‘extravagance’.



Here it point (iv) that receives the major emphasis in the Beveridge Report.

Finally, it should be noted that Meade’s idea of the variable contribution rate aimed at maintaining employment appears in Paragraph 442, and the ‘retirement clause’ in Paragraphs 244-249.



B. The White Paper on Social Insurance (1944b)

The Beveridge Report was enthusiastically welcomed by the public, as the sale of 100 thousand copies in a month and 256 thousand copies in a year amply demonstrates. By contrast, however, the government took a negative stance. The debate in the House of Commons on 16-18 February 1943 reached a high state of confusion as votes went both in favor of the government and against it.

It was in this state of affairs that Keynes wrote the draft for his speech in the House of Lords on 24 February. He stated that the debate was going on in the House of Commons without any alternative plan which did not put a heavier burden on the State than did the Beveridge Plan being proposed, and stressed that for the initial post-war period there existed no cheaper plan.



That the [Beveridge] Plan achieves its results at a low budgetary cost follows from one of its fundamental principles, namely that we collect to-day’s pension contributions from a working population larger than corresponds to the number of today’s pensioners (JMK.27, p.259).



On the other hand, the Plan would entail heavy financial costs in the future. Here, however, Keynes responded with his long-standing optimistic forecast: there was no problem, for the national income would then be growing at several times the rate of growth in the cost.32

Due to Treasury interference, however, the planned speech was never made.



An important point to note here is that the discussions on the social security system proceeded simultaneously and interactively with those on employment policy.33

Over the two issues, controversy waxed strong between the two camps, with Keynes, the Economic Section (Meade, Robbins, Stone, Chester), the cabinet ministers and high officials who supported them (Morrison [the Home Office], Dalton and Gaiteskill [the Board of Trade]) and Beveridge on one side, and the Treasury ministers and high officials (Wood, Hopkins and Eady) and Henderson on the other.

As for the employment policy, the former camp eventually won the battle in terms of Employment Policy.34

With regard to social security policy, the Treasury, which continually complained of the proceedings of the Beveridge Committee, was naturally critical of the Beveridge Report.35



The Treasury tried to conceal the Beveridge Committee discussions from the outset, and sought to postpone announcement of the Beveridge Report until the end of the war. It is even said that the first draft of the Beveridge Report (July 1942) caused a kind of panic within the Treasury. It is also well-known that publication of the Beveridge Report, which was completed in September, was postponed until December because of the antagonism of a number of Conservative cabinet members who regarded it as ‘too revolutionary’ (Mouri, 1990, p.239).36



From this confusion, however, there emerged a government committee, constituted to examine the Beveridge Report with T. Phillips as a chairperson (hereafter the Phillips Committee), which was eventually to announce the White Paper on Social Insurance (1944b). Let us take a look at the proceedings of the Committee.



Most members of the Phillips Committee opposed ‘the minimum living cost insurance principle’, and the estimated cost given in the White Paper on Social Insurance came to 25 percent above the cost anticipated in the Beveridge Report. It was Chester of the Economic Section who, supporting the principle, argued that a divergence from it would incur a great cost to the government.

The Economic Section tried to give preference to the young over the pensioners. The majority of the members in the Committee, however, opposed this stance, as a result of which the White Paper on Social Insurance proposed a lower figure for children’s allowances (5 shillings), while higher pensions were recommended for those who had not paid sufficient contributions than in the Beveridge Report. Moreover, the ‘maintenance of employment’, which was emphasized in the Beveridge Report, was overlooked in the Committee.37

Nevertheless, the Phillips Committee adopted many other principles contained in the Beveridge Report (‘universalism’, ‘equal contribution principle’, ‘equal benefits principle’, ‘the establishment of the Social Security Ministry’, to mention but a few), which were to be incorporated in the White Paper on Social Insurance.

In the process of drafting Social Insurance (1944b), the above-mentioned choices ― rejection of the contributory principle, generous pension benefits, low children’s allowances, and so forth) ― were repeated. This is clear from Keynes’s letter to Gilbert and Hopkins (dated 15 May 1944), in which Keynes referred to a conversation with Chester who had worked as one of several secretaries for the Beveridge Committee. Keynes expressed his view as follows:



My own feeling is that so great a concession on pensions is lamentable. But I do not think it would prove easy for Beveridge or anyone else to criticise them on the ground that they go beyond the original Beveridge proposals. On the other hand I do feel that the inconsistency between the lavishness on pensions and the meanness on children’s allowances would prove very difficult indeed to defend. I also agree with him [Chester] that what amounts to the abandonment of the contributory principle leads us into uncharted seas (JMK.27, p.263).





1) It is also referred to as the ‘Postwar Consensus’ or ‘Butskellism’, after Butler (the Conservative Party) and Gaitskell (the Labor Party) who made great efforts to implement the ‘Keynes=Beveridge Sytem’. See Kavanagh, D. and Morris, P. (1994).

2) Prior to this period, however, they were hostile on three points: an overpopulation debate; a tariff problem; and the General Theory. See Dimand (1999).

3) See Hirai(1997-1999, Chapter 5).

4) This is the main theme of Hirai (2004). It should be noted that Robertson and Henderson, both of whom took part in the Liberal Summer School and the writing of Britain’s Industrial Future (1928), were in the same camp as Keynes as far as social or political philosophy is concerned. For this, see Freeden (1986, pp. 172-173). Furthermore, Hawtrey’s social philosophy is to a considerable degree similar to Keynes’s. For this, see Hawtrey (1926, p.216; 1944, pp. v-vi).

4) I dealt with this in Hirai (1997-1999, Chs.6-16).

5) Prior to Beveridge (1944), he regarded unemployment as a frictional and structural problem. He was recognized as an authority on it in pre-Keynesian British academic, popular and policy thinking. See Dimand (1999, p.236).

6) This is the main theme of Hirai (1997-1999, Ch.3).

7) On Keynes’s New Liberalism, see Clarke (1988, pp. 13-14, 78-80) who takes Keynes as a New Liberalist succeeding the New Liberalism of the Edwardian period; Freeden (1986) and Cranston (in Thirlwall ed., 1978) both of whom see Keynes as a ‘Centrist Liberalist’ who, differing from a New (or Left) Liberalist as placing no great faith in the State as the disinterested agent of the community, emphasizes the ideological difference between liberalism socialist/trade-unionist Labor party, and has less reflective, philosophical and synthetic mind’ (see Freeden, 1986, pp. 128-129, 12-14, and 171-172); and Skidelsky (1992, Chapter 7) who supports Freeden and Cranston subject to several qualifications. See also Fitzgibbons (1988, Chapter 9). Moggridge (1992, Chapter 18) maintains that Keynes’s political thought evolved from the New Liberalism in the 1920s to ‘Liberal Socialism’ in the 1930s and later. Peacock (in Crabtree and Thirlwall eds., 1993) describes Keynes as an ‘end-state’ liberalist, in contrast with the ‘contractarian (or ‘procedural’) liberal. Peacock seems to take Keynes in the context of the classical liberalism rather than that of the ‘New Liberalism’. See also Maloney (1985, pp. 159-161) in relation to Freeden’s (1978) evaluation of Hobson as the leader of the new liberal movement.

Concerning the New Liberalists of the Edwardian Period such as Hobson and Hobhouse, see Hobson(1938), Mouri(1990, Ch.2).

8) V. George refers to Keynes and Beveridge as ‘reluctant collectivists’. See Mouri (1990, p.219).

9) Robbins’ criticism of Beveridge (1944) has something to do with this point. Interestingly enough, Robbins worked as a research assistant for Beveridge (1909), and was later was one of several supervisors and examiners of Beveridge’s thesis (1930).

In terms of the political spectrum, we can array Beveridge, Keynes and Robbins from the left to the right. It should be noted that Robbins, too, was no traditional liberalist. See Robbins (1954) and Hirai (2003, note 21).

See also Dimand (Pasinetti and Shefold, 1999, p.232):“Where Beveridge chiefly differed from the Webbs was in his belief that full employment could be maintained without massive coercion; where he differed from [G.D.H.] Cole was in his rejection of the view that it would require no coercion at all.”

Although ‘the maintenance of employment’ was a point Beveridge held to for many years, he expressed his allegiance to Keynes’s theory in Beveridge (1944) ─ which was greatly assisted by Kaldor. It is acknowledged that his conversion to Keynesianism can be found in the memorandum dated 8 September 1943, which was minuted by E. Shumacher (see Mouri (1990, p.279)). This should be a sudden change, judging from the fact that Beveridge (1909; 1930; 1937) had maintained that unemployment is, for the most part, frictional, seasonal and structural.

Incidentally, Hayek (1994) said that Beveridge was an amateur economist, always asking Robins and Hayek for advice on economic problems.

10) For the related description in the inter-war period, see Ohsawa(1990, the final chapter).

11) In passing, the ‘Contributory Pension Act’ was enacted in 1925.

12) This section is exclusively based on the material contained in JMK.27, Chapter 4, ‘The Beveridge Report’.

13) It was set up in December 1939. The ‘Stamp Survey’ (the principal members were Stamp, Henderson and Clay), which was organized in July 1939, split up into two institutions: the Economic Section and the ‘Central Statistical Office’. Both belonged to the War-time Cabinet Office. Concerning the Economic Section, the first director was Jukes (1939-41), the second Robbins (1941-45), and the third Meade (1946-47). For details, see Cairncross=Watts (1989).

14) Robbins described his duty in the Economic Section as showing a diplomatic presentation to the public, ministers and bureaucrats, and as expiating his wrong recommendations which he had made [this might indicate Robbins (1934)]. See Robbins (1971, pp.186-188).

15) To mention a few examples, Meade’s plan for employment policy was to occupy a central place in the White Paper on Employment Policy (1944), for which see Hirai (2003, Appendix 2); and his plan for commercial policy was to be adopted as an official plan of the Board of Trade in the fall of 1941. Meade was, moreover, a leading promoter of the ‘World Trade Organization’.

16) For the two memoranda, see Mouri (1990, pp.202-203) and Moggridge (1992, p.706).

17) As will be seen from the argument in How to Pay for the War (Keynes, 1940), Keynes was beginning to think of this point in time as a good opportunity for social reform (improvement in social justice). His proposal, under the principle of the ‘maintenance of sufficient minimum standard’, was the provision of ‘family allowances’ (5 shillings per week per child) and ‘a rationing of necessaries. This consideration was shared by Beveridge. For Keynes (1944), see Hirai (2003, Section 1 of Appendix 2).

 A similar view can be recognized in ‘Prof. Keynes’s Memorandum on War Purpose’ (dated 13 January 1941), in which social security is mentioned as a top priority, and ‘Note on the Budget’ (JMK.27, pp.355-367) written in November 1941, in which Keynes expressed the view that the 1942 Budget should be compiled so that it could be termed the ‘Social Policy Budget’.

18) In this letter Keynes said that industrial insurance should be owed by the State (Beveridge, in contrast, maintained that it should be voluntary insurance).

19) Contributions charged to an employer who fired an employee. See JMK.27, p.205.

20) See Meade, “Variations in the Rate of Social Security Contributions as a Means of Stabilising the Demand for Labour” (Howson=Moggridge eds., 1988, pp.184-192) and “The Effect on Employment of a Change in the Employer’s Social Security Contribution (op. cit., pp.193-198).

21) See Mouri(1990, pp.204-205).

22) Beveridge valued the White Paper on Employment Policy highly, describing it as an epoch-making event in economic and political history. He showed some dissatisfaction, however, complaining that it underrated the pathology of unemployment caused by the ‘unplanned market economy’. This underestimation, said Beveridge, derived from an erroneous value judgment, regarding private firms as saintly, and from adherence to a balanced budget.

23) Although we see no reply from Keynes concerning this, he is surely critical of it. He recognized the significance of trusts and cartels, but clearly opposed nationalization per se. See Hirai (2003, pp.181-183).

24) For these estimates, see JMK.27, pp.280-298. Thereafter Keynes made an even more optimistic estimate. See JMK.27, pp.334-345.

25) This is an idea similar to the ‘deferred payments’ in Keynes (1940). See Hirai (2003, Section 1, Appendix 2).

26) Social Security together with the transport system and the Central Electricity Agency and so forth are considered among the experiments for the ‘socialisation of the economy’. Keynes had cherished the ‘socialisation of the economy’ and the necessity of its promotion since, at the latest, the 1920s.

27) The above correspondence between Hopkins and Keynes is also described in Cairncross=Watts(1989, p.90).

28) See Mouri(1990, p.206).

29) This is the rule to the effect that if a person who reaches the age eligible for pensions retires, a half of the pension which will increase thereafter should be deducted, while if he postpones retirement, he will get the amount in full.

30) The Beveridge Report mentions 23 items in Section 2, ‘Principal Points of Change Proposed and Their Reasons’.

31) As is evident from the argument in the previous section, this is where Keynes was most involved.

32) The manuscript of this speech concludes by pointing out ‘the deep moral and social problem of how we should organize the material affluence for yielding the fruits of good life’ (my italics).

33) On this, see Hirai (2003, Appendix 2).

34) The policy of varying social security contributions is approved there. Incidentally the former camp is on the Labor Party side, the latter on that of the Conservative Party.

35) Henderson argued against an imbalance of the ‘Social Security Fund’.

36) This is a statement by Harris.

37) This is pointed out in Mouri (1990, p.248).





References



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Beveridge, W., Causes and Cures of Unemployment, Longmans, Green, 1931.

Beveridge, W. ed., Planning under Socialism, Longmans & Co., 1936.

Beveridge, W., ‘Reconstruction Problems: Five Giants on the Road’, Beveridge Papers, VIII 45.

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Beveridge, W., “The Place of the Social Sciences in Human Knowledge”, Politica, 2(9) September, 459-79, 1937a.

Beveridge, W., Social Insurance and Allied Services, HMSO, Macmillan, 1942.

Beveridge, W., Full Employment in a Free Society, Allen & Unwin, 1944.

Booth, A., British Economic Policy 1931―49, Harvester Wheatsheaf, 1989.

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Cairncross, A. and Watts, N., The Economic Section 1939―1961, Routledge, 1989.

Clarke, P., The Keynesian Revolution in the Making1924-1936, Clarendon Press, 1988.

Crabtree, D. and Thirlwall, A. eds., Keynes and the Role of the State, Macmillan, 1993.

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Freeden, M., The New Liberalism, Clarendon Press, 1978.

Freeden, M. , Liberalism Divided, Clarendon Press, 1986.

Harris, J., William Beveridge: A Biography, Oxford University Press, 1977.

Howson, S. ed., The Collected Papers of James Meade - Vol.1: Employment and Inflation, Unwin Hyman, 1988.

Hawtrey, R., Economic Problem, Longmans, Green and Co., 1926.

Hawtrey, R., Economic Destiny, Longmans, Green and Co., 1944.

Hayek, F., Hayek on Hayek, Bartley Institute, 1994.

Henderson, H., The Inter―War Years and Other Papers (ed. by Clay, H.), Clarendon Press, 1955.

Hirai, T., ‘A Study of Keynes’s Economics’, I-IV, Sophia Economic Review, 43-1 [67-136], 2 [13-121]; 44-1 [35-127], 2 [29-96], 1997-99.

Hirai, T., ‘Social Philosophy in the Inter-war Cambridge’, Sophia Economic Review, 49, No.1-2, pp.45-89, March 2004.

Hobson, J., Confessions of an Economic Heretic, George Allen and Unwin, 1938.

Howson, S. and Moggridge, D., eds., The Wartime Diaries of Lionel Robbins and James Meade, 1943―45, Macmillan, 1990.

Kavanagh, D. and Morris, P., Consensus Politics:From Attlee to Major, Blackwell, 1994.

Keynes, J.M., A Tract on Monetary Reform, Macmillan, 1923.

Keynes, J.M., A Treatise on Money, I, II, Macmillan, 1930.

Keynes, J.M., The General Theory of Employment, Interest and Money, Macmillan, 1936.

Keynes, J.M., How to Pay for the War, Hogarth Press, 1940.

Keynes, J.M., Activities 1940-1946: Shaping the Post-War World: Employment and Commodities (JMK.XXVII), Macmillan, 1980.

Liberal Party, Britain’s Industrial Future, Ernest Benn, 1928.

Maloney, J., Marshall, Orthodoxy and the Professionalisation of Economics, Cambridge University Press, 1985.

Meade, J.E., Consumers Credits and Unemployment, Oxford University Press, 1938.

Meade, J.E. and Stone, R., ‘The Construction of Tables of National Income, Expenditure, Savings and Investment’, Economic Journal, Vol.51 (1941), pp. 216-233.

Meade, J.E., Planning and the Price Mechanism ─The Liberal-Socialist Solution, George Allen & Unwin, 1948.

Meade, J.E., ‘Planning without Prices’, Economica, Vol.15 (1948), pp.28-35.

Ministry of Reconstruction, Employment Policy, Cmd 6527, 1944a.

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Moggridge, D., Maynard Keynes, Routledge, 1992.

Mouri, K., A Study of the British Welfare State, University of Tokyo, 1990.

Ohsawa, M., British History of Social Policy: the Poor Law and the Welfare State, University of Tokyo Press, 1990.

Pasinetti, L. and Schefold, B. eds., The Impact of Keynes on Economics in the 20th Century, Edward Elgar, 1999.

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Salter, A., Stamp, J., Keynes, J., Blackett, B., Clay, H. and Beveridge, W., Halley Stewart Lecture 1931: The World’s Economic Crisis and the Way of Escape, George Allen & Unwin, 1932.

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The 2nd Lecture for the University of Solento, Lecce, Italy, May 6, 2011

(Draft)

The Self-Trapped Japanese Economy



– An Overview





Toshiaki Hirai (Sophia University, Tokyo)





1. Introduction



Up until 1990 Japan as the most successful nation was struck with awe and consternation. While throughout the 1980s the US, the UK and European countries suffered from stagflation, Japan maintained high economic performances. Thus much attention was paid to the clue to the success of the Japanese economy, and the “Industrial Policy” by the MITI and the “Japanese Way of Doing Business” were lionized like hot cakes.

In the late 80s there emerged great cracks in the Socialist Bloc which played a part of the Cold War System. In Eastern Europe the civil movement became more and more active, having Poland at the top, which would escape from the yoke of the Soviet Union and try to introduce some capitalistic system. The Soviet Union, leaving no power to oppress the movement, finally fell down in 1991.

Since then twenty years has passed, and we are here in 2011. During this period the world experienced great transformation and turbulence. The US attained some economic growth due to the IT revolution and the financial globalization, while the UK due to the financial globalization. More than that, what was unexpected and surprising was miraculous economic growth of China, India and Brazil, which came to have some influences on the world economy.

It was Japan which was left out in the cold. Japan tumbled by its own and remained stagnant - the so-called “Lost Decade” (or the “Lost Two Decades”).

It became an everyday affair to speak of Japan as the country which can still find no way out of the stagnation, or as the one of which one should learn something from the lesson. It was an emblematic event that Obama stated at the Presidential Inaugural Speech two years ago that he would implement any resolute policy for the recovery of the US economy from the crisis, referring to the Lost Decade.

The present paper will see the actuality of the Lost Decade by examining the path along which the Japanese economy proceeded over the three decades.





2. The Misstep from the Supreme Reign



2.1 The Plaza Accord (1985)

In the 1970s the world economy has seen the collapse of the Breton Woods System and the flexible exchange rate system as a new currency system.

After yen was fixed at 1 dollar = 308 yen at the Smithsonian Agreement (December 1971), Japan came to adopt a flexible exchange rate system in February 1973. Immediately after that, yen appreciated to 1 dollar = 260 yen, but it remained stable at around 300 yen thereafter. Then a rapid appreciation of yen occurred since October 1977, arriving at 175 yen in October 1979.

Beside the change in the monetary system, the world economy saw the US-Japan trade conflict.

The Japanese firms, producing high-quality goods due to highly developed technology, rapidly expanded the sales abroad and came to dominate the world market. In consequence the balance of trade of Japan continued to have a surplus, and there arose trade conflicts with the US. As huge exports to the US forced the American firms to go bankrupt, the US came to criticize Japan from a point of view of unfair trade. This US-Japan trade conflict was to continue over the long period, starting with synthetic fiber, followed by steel products, colored TV, and cars. Japan usually responded to the US by means of self-imposed restraint. According as the surplus in the balance of trade, however, rapidly increased from 1983 on, the US’s complaint became stronger and stronger.

At that time the US economy suffered from stagflation. Volcker, who became chairperson for the Fed in August 1979, implemented tight monetary policy (“New Adjustment Finance Method”), causing the FF rate to rise to 20 % (“Volcker Shock”). In consequence, albeit the price level attained rapid stability, the unemployment rate rose further, reaching 11 %. Due to the high rate of interest, huge amount of dollars poured into the US, which caused large appreciation of dollar (from 200 yen in October 1981 to 275 yen in October 1983). Then the exchange rate remained at around 250 yen, which meant some depreciation of yen, resulting in a rapid increase in the surplus of the balance of trade. The balance of trade in relation to the US also recorded the huge surplus, which heightened the trade conflict.

It was the “Plaza Accord” (September 1985) which was concluded with the strong initiative of the US Administration under these situations. This was a pact among the G5 for cooperatively intervening in the foreign exchange market. Its kernel was to appreciate yen (depreciate dollar) through selling dollar and buying yen.

In consequence, the exchange rate rose from 1 dollar=255 yen in October 1987 to 150 yen in October 1987. Thereafter yen went on appreciating until it reached 125 yen in October 1988. Then it continued to depreciate for a while, and again appreciated until it reached 79 yen in April 1995 (see Chart 1).

In spite of this appreciation, a large surplus in the balance of trade of Japan continued throughout the 90s.



(Chart 1) The Record of the Yen/Dollar or Euro Exchange Rates

 





2.2 The Bubble Period

Speaking of recent bubble economy we can mention real estate bubbles of the US, Ireland and Spain in the early 2000s. In advance of them we can mention the real estate bubble in Japan. It continued from December 1986 to February 1991, and its collapse continued from the spring of 1991 to that of 1993.



2.2.1. The Upward Phase (December 1986 - February 1991)

The Conquest of Worries over the Depression Induced by the Yen Appreciation – As Japan’s economic growth has been led by exports, there spread worries that the steep yen appreciation due to the Plaza Accord might cause serious depression if the government does nothing. The surplus, in fact, in the balance of trade from 1987 to 1990 continued to decrease.

Then the Nakasone Cabinet implemented fiscal and monetary policies aiming at stimulating domestic demand. For fiscal policy it put forward “Emergency Economic Measures” (May 1987) and for monetary policy it lowered the discount rate to 2.5 % (February 1987 - May 1989). In consequence, public investment as well as private investment tremendously increased. Besides them, the nation-wide project of developing the resort area was worked out as a means of stimulating domestic demand (“The Resort Act” [1987]).

The Japanese exporting firms adopted two methods for tackling the yen appreciation. One was to reduce production cost through a rise in labor productivity. The use of robots in production process was an emblem of this method, which amazed the world.

Another method was to transfer production base abroad for cheaper labor cost. This was extensively carried out to such a degree that it might induce de-industrialization. The ratio of production abroad to total production in the manufacturing sector, in fact, showed a rapid rise from 3.0 % in 1985 to 6.4 % in 1990 (the main location was the South Eastern Asia1).

And yet the balance of trade of Japan was in large surplus, albeit it continuously decreased until 1991. Japan did not see the worrisome depression, but maintained the boom thanks to the fiscal and monetary policies.



(Chart 2) The Trend of the Balance of Trade







The Abode of Demons : The Change in the Financial Structure – There proceeded the state of affairs, under these situations, which was to lead to big policy failures – a shift from indirect finance to direct finance (or self finance) in the Japanese financial structure. As a result of steep increase in exports, there emerged many firms which came to possess huge amount of money (the phrase, “Toyota Bank” was an emblem), and felt less necessity of depending on the banking institution for procurement of capital.

On top of that, the stock market came to gain popularity, so there emerged the situation in which firms could easily procure capital through it. The stock price continued to go up, with the Nikkei Average Stock Price from 1,300 yen in 1986 to 38,900 yen in 1989 (see Chart 3). Around that time there emerged a social atmosphere in which more and more housewives became keen in investing their money into equities and other financial assets (the so-called “Zai-Tech Boom”).



(Chart 3) The Process of the Nikkei Average Stock Price





These states of affairs were serious to the banks. So far the Japanese economy continued to attain a high economic rate of growth, and firms were eager to get a vast amount of capital. Under the circumstances in which the stock market was underdeveloped2, firms had no means of procuring capital other than borrowing it from banks. The people deposited a large proportion of their increased incomes at banks (or the post-offices), and yet this was not sufficient to meet the demand by firms. As the loan rate, moreover, was fixed above the deposit rate, banks were able to finance capital safely by means of rationing.

Then, due to a large shift to the direct finance and self-finance this traditional method came to be out of order. In addition to this, due to the huge surplus in the balance of trade the foreign exchange reserves rose abruptly (Table 1), which made money supply rapidly flowing into the banks. Thus the banks, different from hitherto, were forced to develop new customers.



(Table 1) Japan’s Foreign Exchange Reserves (in one million dollars)



1985  26,510  

1986  42,239  

1987  81,479  

1988  97,662  

1989  84,895  

1990  77,053  

  1991 68,980

1992  68,685

1993  95,589

1994  122,845

1995  182,820

1996  217,867



Thus the banks came to expand their business, including mortgage loans, stock loans, and free loans (usable for any purpose). Individuals and firms, who were able to get loans, purchased immobile properties, stocks and other financial assets.

According as the property price and the stock price start to go up rapidly, more and more people were eager to get loans, believing that the prices will instantaneously rise. When the prices actually go up within a short period, the demand for loans will further increase, which, in turn, cause the property price and the stock price to rise further.

Gradually the persons who make transaction for the sake of pure speculation, dreaming of get-rich-quick, come to occupy a large weight in the markets. In consequence, the land value within the Yamanote Line became reportedly equal to the land value of the entire America (See Table 2). The objects of the speculatively borrowed money were not confined to properties and stocks, but went to membership cards of golf, great pictures, and even foreign fancy cars. And the prices of these items, in fact, continued to go up rapidly.

These speculative activities seriously affected the manufacturing industry. There emerged many manufacturing firms which came to be devoted to speculation to such a degree that they almost forgot their primary business. There were firms which even prided larger profit in the “Zai-Tech” than that in the primary business.

The speculative activities extended beyond the domestic to the world market. Speculative investment in properties, stocks, and other financial assets, pictures3 increased at an accelerated pace. The purchase of the Rockefeller Center by the Mitsubishi Jisho Company in 1989 was an emblematic dealing.



(Table 2)The Rate of Change in the Land Value in the Three Metropolitan Areas



    Residential Area Commercial Area  

1987 13.7 30.1   

1988 46.6 46.6   

1989 11.0 14.1

1990 22.0 18.6

       1991 8.0 8.1



2.2.2. The Burst (February 1991- March 1993)

According as the price of immobile property went up, the unlawful activity in connection with it (that is, “Jiage”) became a big social problem. On the top of it, the unlawful loan by financial institutions (e.g., the counterfeiting of the deposit account by bankers) came to the surface. Then there arose harsh criticism by the mass media and the public of property speculation and the loan stance of the banks.

In response to it, the Treasury embarked on “the Regulation of the Total Sum concerning the Property Loan” (March 1990). It was an administrative directive aiming at restraining the rate of growth of the property loan below that of the total loan. This became a direct trigger for the burst of the bubble.

It was rather the stock market which was initially affected. The Nikkei Average Stock Price, which was record-high at 38,000 yen in December 1989, plunged into 15,000 yen in 1992. Then the price of property, which saw only decrease in the rate of increase even in 1991, sharply dropped. Many firms and individuals, who developed speculative activities, were suddenly refused to get loans by banks. They were forced to rush to sell their properties and equities, which caused further decline in the price of the stock and the properties. The burst of the bubble was there.

This, in turn, worsened the balance sheets of the banks and security companies which made a loan to these firms and individuals. It turned out to be difficult to retrieve loaned money, for more and more firms and individuals were pushed into default, and the value of the collateral possessed by the financial institutions plunged. In a word, the loaned money turned into the bad debts.

The banks, which initially held an optimistic view that the property value as well as the stock price will soon rise, tried to prevent the bad assets from coming to the surface. Under the system of acquisition cost basis accounting, they were able to do so unless the bad assets are disposed of. However, this behavior was soon to be denounced by the mass media as the so-called “bad asset concealment”.









3. Recovery, Stagnation, and Recovery



When the bubble economy turned into the depression, what kind of economic measures would the government implement? The phrase, “the Lost Decade” is quite often used as featuring the Japanese economy in this period. However, it is not true to say that all were doomed to failure from the start, for there was a period in which policy effect was evidently recognizable. It is premature to call it, in a lump, “the Lost Decade”. Let us see the period in order.



3.1. Economic Stimulus Measures and Economic Recovery (1993- 1996)

While the property value and the stock price were abruptly deteriorating, the government implemented the following economic stimulus measures which had fiscal policy for increasing effective demand as top priority.



(1) “The Overall Economic Measures” (August 1992. 10.7 trillion yen) by the Miyazawa Cabinet (November 1991 – August 1993).

(2) “On the Promotion of the Overall Economic Measures” (April 1993. 13.2 trillion yen) by the Miyazawa Cabinet.

(3) “Emergent Economic Measures” (September 1993. 6 trillion yen) by the Hosokawa Cabinet (August 1993 – April 1994).

(4) “The Overall Economic Measures” (February 1994. 15.25 trillion yen) by the Hosokawa Cabinet.

(5) “Economic Measures” (September 1995. 14.22 trillion yen) by the Murayama Cabinet (June 1994 – August 1995) together with a lowering of the official discount rate to 0.5 %.



Thanks to these measures, personal consumption and capital investment increased. The Japanese economy was able to accomplish an economic rate of growth at 3.1 % in 1995 (as compared with the last year), and 4.7% in 1996, and fear over the bad debt decreased. The effect of fiscal policy was recognizable around this period.



3.2. Fiscal Structural Reform and the Financial Crisis (1996-1998)

Seeing the economically favorable situation, the Hashimoto Cabinet (January 1996 - July 1998) set its primary policy objective on the fiscal structural reform. The cabinet raised the consumption tax by 2%, the abolition of special tax break (2 trillion yen), an increase in the burden on the public through medical system reform (2 trillion yen), expecting to increase the tax revenue by the total sum of 9 trillion yen.

Contrary to the expectation, however, the economy which showed an upward trend, was to plunge again due to this policy. In 1997 the stock price sharply dropped and the bad debt problem came to the surface. At the G10 summit in July 1998, moreover, it was decided to require an international bank to maintain 8 % plus as the capital-to-asset ratio (the BIS regulation). The banks concerned widely carried out credit crunch and credit withdrawal.

Thus the Japanese economy again deteriorated, and, additionally, took on a financial crisis (the following bankruptcies occurred in succession: the Hokkaido Takushoku Bank and the Yamaichi Security Company [November 1997]; the Long-Term Credit Bank of Japan [October 1998]; the Nippon Credit Bank [December 1998]4. The asset prices rapidly went down, and the number of bankrupt firms and individuals rapidly increased, which, in turn, worsened the balance sheet of the financial institutions5. The value of the bad debts possessed by the banks, which was worth 40 trillion yen in August 1995, jumped to 79 trillion yen in December 1997.

The Hashimoto Cabinet, which faced a serious depression, suspended the fiscal structural reform and implemented the “Overall Economic Measures” (16.7 trillion yen) in April 1998. However, the effect was not favorable. This should not be attributable to the fiscal policy, but rather to the fiscal structural reform, which is, in nature, a deflation policy. The rate of economic growth in 1997 was 0.2 %, and -0.6 % in 1998.

The megabanks, which suffered from a continuous decline in the asset prices, finally asked the government for public funding. In consequence, the following bailout was carried out: (i) (February 1998) 18 trillion yen for the 21 large banks including the Long-Term Credit Bank of Japan and the Nippon Credit Bank; (ii) (March 1999) 7.5 trillion yen for the 15 large banks6. The mass media and the public opinion denounced it as a continuation of the so-called “Convoy System”.

Through the 90s, after all, 18.6 trillion yen for the bankrupt financial institutions, 9.6 trillion yen for buying up the assets from the financial institutions, 12.3 trillion yen for capital infusion into the almost bankrupt financial institutions were spent7.



The Line of Financial Liberalization - The collapse of the financial system in the latter half of the 90s gave the government a big inducement to leave the traditional “Convoy System”8, and to promote the financial liberalization (the “Japan-Version of the Big Bang”. This was carried out mainly by the Hashimoto Cabinet.

The plan was composed of two pillars. One pillar was the liberalization of securities, finance, and insurance.

In November 1996 the Hashimoto Cabinet put forward an idea for the financial system reform, advocating “the three principles” (Freedom, Fairness and Globalization). The idea was realized as the “Financial System Reform Act” (June 1998), which advocated: (i) deregulation of brokerage commissions; (ii) promotion of new entry into the banking sector, the security sector, and the insurance sector; (iii) shakedown of the investment trust; (iv) complete lifting of the ban of the OTC derivatives; (iv) abolition of the obligation of concentrating the exchange business; (v) enhancement of disclosure; (vi) upgrading of the rule of transaction.

This movement was closely tied to the financial liberalization carried out in the US, where the Glass-Steagall Act (1933) was mutilated and eventually taken over by the Gramm-Leach-Briley Act (1999). The US strongly urged Japan to adopt the same approach.

Another pillar was the reorganization of the bureaucratic machine. In June 1998 the Hashimoto Cabinet separated the Bureau of Check and Oversight from the Treasury according to the“policy of separating fiscal matter from monetary matter”, and set up the “Financial Supervisory Agency”. In July 2000, moreover, the Mori Cabinet founded the“Financial Services Agency”, integrating the Financial Supervisory Agency with the Financial Planning Bureau of the Treasury. It is important to know that this reorganization brought about the weakening of the Treasury which had so far flaunted absolute powers.



3.3. Economic Measures and the Economic Recovery (1998 –2000) 

The Obuchi Cabinet (1998–2000) which was established in July 1998 when the Japanese economy spiraled downward and the financial system was in crisis, advocated the recovery of the economy as the top priority: (i) for fiscal policy, the “Emergent Economic Measures” (November 1998. 23.9 trillion yen) and the “Economic Renovation Measures” (November 1999); (ii) for monetary policy, the zero interest rate policy (February 1999). Thanks to these policies the Japanese economy clearly showed some recovery (November 2000).

Then the Bank of Japan lifted the zero interest rate policy (August 2000) although the Obuchi Cabinet opposed it. At that point the so-called “Dot Com Bubble” busted in the US, and the Japanese economy again showed a decline due to the decline in exports. The Bank of Japan again implemented the zero interest rate policy (together with the Quantitative Easing policy. March 2001. This was maintained up until July 2006).

As compared with fiscal policy, however, to what degree monetary policy worked for alleviating the economy is doubtful (see Table 3).



   (Table 3)Monetary Base and Money Supply(%. Compared with the Average Balance of the Previous Year)



Monetary Base Money Supply

97 8.2 3.5

98 7.4 3.7

99 9.8 3.2

00 3.8 2.2

01 14.7 3.1

November 02 21.8 3.2



According to this table, monetary base (the account current balance of the banks on the BOJ) showed a big increase in 2001 and 2002, while the rate of increase in money supply (the deposit balance of individuals and firms on the banks) was incredibly low. At that time the credit crunch was in vogue and the financial institutions were not willing to make a loan to the real economy. Rather they usually purchased the national debt with money obtainable.

  

3.4.The Structural Reform and the “Izanami” Boom

It is the Structural Reform and the “Izanami Boom” (February 2002–October 2007) which featured the Koizumi Cabinet era.

The Structural Reform was a succession of the Hashimoto Cabinet as well as an explicit approval of the “Market Fundamentalism” (or the Washington Consensus). The Koizumu Cabinet, which advocated small government and the balanced budget, persistently adopted a deflationary policy.

The zero interest rate policy by the BOJ attracted the US investors who borrowed yen and exchanged it into dollar, which was carried over to the US and used for consumption and investment (the “Yen Carry Trade”), which further boosted the US economy which had shown an upward trend. The Yen Carry Trade brought about an depreciation in Yen, which induced a rapid increase in exports, due to which the Japanese economy was able to get on a modestly upward curve.

This situation continued from February 2002 to October 2007. Due to the long boom it was dubbed the “Izanami Boom”, contrasting it with the “Izanagi Boom” (November 1965 – July 1970). However, this boom’s beneficiaries were confined to the exporting firms and the financial institutions. At the same time restructuring proceeded in the whole industry; the employment of labor was greatly shifted to temporary employment; the level of income remained stagnant; and the income disparity has been widened. Thus the general public did not know as much about the actuality and the benefit of the boom. And the economic growth in this period was, in fact, very modest. No wonder it is also dubbed “Kagerou (or Air Turbulence) Boom”.



3.4.1. The Structural Reform

The Koizumi Cabinet took a critical stance of the counter-cyclical measures and put its main concern on the structural reform, for which the Cabinet put forward the following: (i) the privatization of the Postal Services, which was the only and main point of dispute in the general election in September 2005; (ii) the privatization of the Highway Public Corporation; (iii) the Structural Special Zone; (iii) the Divine Trinity Reform; (iv) the reorganization of the bureaucratic machine.

It is doubtful, however, to what degree these reforms (some of which were not carried out) effectively contributed to revitalizing the Japanese economy. Many reforms were watered down and privatization was no more than nominal change. Albeit the bureaucratic machine was vertiginously changed, the restructuring of public officials was not touched at all. Although the Koizumi Cabinet emphasized the private economy (the market economy) and the reduction of the activities by the state, the administrative reform reduced to be all bark and no bite.

The structural reform by Mr. Koizumi was carried out with the support of the general public. Although he was a maverick, he had an ability to resort to populism, which was very unique in the Japanese political scene. When the mass media did not show interest to a reform, it came to an end without any substantial change as a result of power struggles behind the scene. Then another plan for structural reform was put forward to attract the general public.



3.4.2. The “Izanami Boom” (February 2002 – October 2007) 

Cavalcade of Deflatinary Policy - To repeat, the Koizumi Cabinet took a critical stance of the counter-cyclical measures. It implemented, in fact, a series of deflationary policy as follows: (i) a rise in the consumption tax rate; (ii) the abolition of income tax credit; (iii) an increase in health insurance premium; (iv) a hike of the age at which pension is eligible.

The grounds for them are based on a microscopic idea of normalization (or equilibrium) of each account: (i) In order to solve a budget deficit, a rise in the consumption tax rate, and the abolition of income tax credit was advocated; (ii) In order to deal with the medical insurance fund deficit, an increase in health insurance premium was advocated; (iii) In order to work out the national pension fund deficit, a hike of the age at which pension is eligible was advocated.

Among them the medical insurance and the national pension problems are closely related to the aging problem with which Japan is faced, so this is a serious problem to deal with by all means. But they were implemented at bad timing. In the situation in which the economic conditions were not improved to the general public, these measures, in fact, made them feel uneasy toward the future, which led to fall in consumption (rise in the propensity to save).

What was really problematic was the stance of the budget deficit which the Koizumi Cabinet took. A rise in the consumption tax rate, the abolition of income tax credit and a reduction of budget expenditure put heavy deflationary pressure on the Japanese economy9.

 

The Izanami Boom - What has been said above, however, does not describe

the Japanese economy sufficiently in the Koizumi Cabinet period, for the boom

dubbed the Izanami continued.

The Izanami Boom was brought about mainly as a side effect of the zero interest rate policy implemented in March 2001 (which was maintained until July 2006), for it induced the Yen Carry Trade on a huge scale. The US economy was beginning to recover itself, mainly, in the housing market, from the 9.11 shock. It was American investors who paid attention to yen with zero interest rate. Borrowing yen and exchanging it into dollar in Japan, they used them for buying properties and financial assets.

The Yen Carry Trade induced a depreciation in yen, so the Japanese exporting firms were able to make huge profits. The contribution ratio of the exports to the economic growth in this period, in fact, reached almost 60 %. Due to increased exports, capital investment rapidly increased as well.

And yet, the annual rate of economic growth in terms of GDP was relatively low (2%). This was greatly affected by stagnation in consumption which was due to a deterioration of the labor conditions (among them, a large shift from normal employment to temporary employment and little or no increase in wages) and the widening of income disparity. The general public chose a life style to save (not to consume). The sales of the retail trade including the department houses, and the supermarkets, continued to decline over a long period.

The Izanami Boom was largely dependent on the exports, and lacked in domestic effective demand. Although the exporting firms and the financial institutions made huge profits, there spread a sort of social uneasiness, again, due to the restructuring, the predominance of temporary employment10, little or no rise in wages. To the eyes of the general public who could not get beneficence the Izanami Boom was Kagerou (Air Turbulence) Boom.



3.5. After the Lehman Shock

The Lehman Shock, which took place in September 2008, caused the collapse of not only the US economy but also the rest of the world economy. Far from Japan being an exception, it got a serious damage.

Japan, as already noted, experienced the financial system crisis in the latter half of the 90s. During the Izanami Boom, however, the bad debt problem was finally able to be worked out, and the financial institutions made unprecedented huge profits. Different from the US and European financial institutions, the Japanese financial institutes was not involved with the financial bubble in connection with the securitized papers, for they were preoccupied with the bad debt problem.

The root cause of the deterioration of the Japanese economy was due to a sharp drop in exports which was caused by the crisis of the US real economy. Almost all the exporting firms (including the car industry and the electronic industry) racked up huge loss, followed by massive restructuring and stoppage of investment. Consumption, which had remained stagnant over a long period, showed further decline. Thus the Japanese economy was abruptly spiraled downward. The stock price sharply dropped as well. Then there occurred a speculative buying of yen. As the Japanese government did not intervene in the foreign exchange market, yen reached the highest level (76 yen) in March 2011.

Facing these critical conditions, however, the Japanese government is too much worried about the huge budget deficit to implement counter-cyclical economic measures. Far from it, bashing of“public investment”is in an abnormal situation. The featured policy of the Democratic Party was composed of Child Benefit, Agricultural Individual Income Compensation, and Free Tuition for Senior High School, all of which have nothing to do with counter-cyclical measures. The government did not intervene in the foreign exchange market, fearing international reaction. The only measure which was implemented as counter-cyclical measures was the zero interest rate policy by the BOJ (October 2010. This was the third time) and the Quantity Easing policy. Even if money flows, however, to the financial institutions through the QE (by buying the national debt), the purpose cannot work well, because of the credit crunch and the credit withdrawal by the financial institutions on the one hand, and the feeble credit demand by the firms on the other.

During this period consumption has remained stagnant. Due to a rapid increase in unemployment the general public is uneasy about living and try to restrain consumption and save money, so there occurs the saving paradox. In the case of firms, they are endeavoring to move their factories abroad because of the yen appreciation, so there is occurring de-industrialization. Thus investment remains low as well. Taking the stagnation in exports into account, all in all, the aggregate effective demand is very low. The Japanese economy, in which the deflationary situation persisted, encountered March 11, 2011, finding no definitive solution for tackling the depression.





4. Looking Back the Two Decades



4.1. Japan on the International Scene

Throughout the 80s the US economy suffered from serious stagflation. It was Japan and the West Germany that economically led the world, and Japan incessantly had trade conflicts with the US. Albeit militarily and politically weak, Japan was outstanding in creating the highest quality manufactured goods through the endeavor of the firms (such as the QC activities, and innovative technology). Economically speaking, Japan was top-drawer without doubt.

With abundant money supply at its zenith, however, the Japanese economy ran in the bubble, and there occurred a high rise in the property price, the sock price and other asset price. And because of the failure in tackling the bubble, the Japan economy was to experience the Lost Decade. Then, helped by the Yen Carry Trade, it was able to maintain the “Izanami (or Kagerou) Boom”. Being afflicted by the Lehman Shock, however, it again plunged into the bottomless depression. Now harsh instability are imposed both on the firms which had high reputation for the “Japanese-style Management”, and on the laborers and salaried men who were regarded as the “corporate warriors” with awe.

The US in the 80s saw liberalization (above all, financial liberalization) proceed on a large scale. In this process the Shadow Banking System (SBS) was enlarged, and the US came to financially lead the world. This, together with the innovative IT industry, made the US economy go up in the 90s. The people enjoyed consumption while the firms regained self-confidence.

An excessive financial liberalization, however, was to force the US economy, which laughed at Japan’s Lost Decade, walk on, ironically, the same but the more serious path, influencing the world economy.

In 1991 the Soviet Union collapsed, and there emerged a political situation in which the US showed, in military terms as well, an overwhelming presence in the world. This, however, did not last long. The US was to be deeply involved in endless wars under the name of Terrorism.

In the same period, there developed the phenomenon which was to transform the economy and politics of the world. China, Brazil and India, which had been in the state of underdevelopment over a long period, continued to attain surprisingly high economic growth. China, among others, continued to grow at, on average, 8 % plus over the three decades, as a result of which it became No.2 in terms of GDP, and No.1 in terms of the foreign currency reserves (2 trillion dollars).

Thus the economic and political structure of the world dramatically changed to such a degree nobody was not able to foresee twenty years ago. As compared with the two decades ago, the presence of the Japanese economy in the world economy is manifestly in decline. While the Japanese economy was continuously stagnant, the US and the UK led the world in the financial area, and the BRICS and the Southeastern Asian countries heightened their position in the area of the real economy.

Twenty years ago it was said that Tokyo was soon to become the world financial center together with New York and London. Now there remains no shadow to show it. The Japanese manufacturing industry, which was proud of its overwhelming productive efficiency through introduction of robots twenty years ago, lags behind the US industry in the IT area. It is, moreover, followed up by Korean and Chinese firms, and is put in a harsh condition. On top of it, while Korea and China built up the strong backup system by government, the Japanese firms evidently lack in it.

The deterioration of the Japanese political system in recent years, and the weak position in the world politics are outstanding. We can say, ironically enough, that there is no country such as Japan which observe the Principle of Laissez-Faire. While the US, the UK, China and Russia move based on its “national interest”, only Japan seems to leave everything to the market fundamentalism. The restructuring of the Japanese political system is indispensable to the resurgence of the position of Japan in the world economy.



4.2. The Main Cause of the Lost Decade

There is an argument that the root cause for the Lost Decade should be ascribed to the line of cooperation with the US, starting with the Plaza Accord. The real responsibility, however, should be sought in the failure of the government of adjusting policies to the changed conditions.

The appreciation of yen rapidly ran its course according to the Plaza Accord. Soon there spread worries over the coming of depression. Then the government implemented easy money policy (the low interest rate policy) and fiscal policy which includes public investment. Thanks to these measures, the Japanese economy, far from falling into depression, was able to maintain an upward trend. So far, so good.

During the same period there proceeded a great shift from indirect to direct finance (and self-finance) in the financial structure. Due to maladjustment to this change, the Japanese economy gradually dashed to the bubble phase. Above all, without implementing tight monetary policy the government allowed the bubble to run its course.

Then, a series of drastic tight money policy such as “the Regulation of the Total Sum concerning the Property Loan” was implemented in order to prevent this process. But because the government allowed the deflationary process to proceed so long that the economy plunged into depression beyond the halt of the bubble. The government should have lifted this tight money policy earlier. Thus a series of asset deflation, starting with a sharp decline in the price of property and the price of stock, followed suit. Then the Japanese economy saw the collapse of the financial system. It seems to have been, as it were, self-trapped by the inappropriate timing of economic policy.

These policy failures have been further worsened bye the Structural Reformers’ inconsistent policy. They stand on, in nature, the basic idea that the economy should be left to the workings of the market as much as possible, and should be made efficient through de-regulation. So far, so good. However, because they lost sight of macroeconomic policy, rational economic policy was nowhere11. The refusal of fiscal policy (abnormal reaction to public investment), and the implementation of the de facto deflationary policy in the deflationary phase are emblematic examples.



4.3. Chaos and Lost Confidence

Turning our eyes to the domestic side, the Japanese as a whole seem to fall into lost confidence from the state of impatience.

In the 90s Japan saw political whirlwind. In addition to that, in recent years government changed like an eye of a cat. The Democratic Party, which organized the cabinet in October 2009, did not implement any policy measures to tackle the economic crisis which attacked Japan immediately after the Lehman Shock. The featured measures advocated by the Party are Child Benefit, Agricultural Individual Income Compensation, and Free Tuition for Senior High School, all of which are not aimed at tackling the economic crisis. The government has no definite policy vision of how to manage the economy, consequently leaving to the working of the market economy. Fiscal policy is regarded as a sort of taboo, while monetary policy (zero rate of interest) has no effect on the recovery of the stagnant economy. The government seldom intervenes in the foreign exchange market, allowing yen (to dollar) to appreciate abruptly. In these respects the Japanese government is in sharp contrast with foreign governments (such as China, the US, Russia, and the EU) which deliberately defended their national interests.

Consequently, even in the theater of international economy the presence of Japan dwindled. The State of the Union Address by President Obama this February was an emblematic event, in which he very often referred to Korea and China without mentioning Japan. In the sphere of foreign policy, the presence of Japan was meaningless. In the redeployment problem of the US military base in Okinawa, and the conflict of the Senkaku Islands, the government voluntarily abandoned responsibility, almost losing the raison d’etre.

The firms – the driving forces of the Japanese economy - need to survive on their own in the world market, given the incompetence of the government. Japanese firms continue to be exposed to severe competition from Korean and Chinese firms. Given the persistent shrinkage of the domestic market, they are forced to operate global strategy desperately. What is worrisome is, as a consequence of many firms in the industries shifting their factories overseas, an acceleration of the de-industrialization.

The Japanese people seem to lose self-confidence. As they suffered from restructuring and a rapid increase of temporary employment during the long depression, their mind is, psychologically and economically, set in unstable conditions. Thus even if the income of interest from savings is almost nil, they get accustomed to abstain from consumption for the future.

Mirroring this social atmosphere, the young tend to be introversive. They like to make vigorless way of life, avoiding competition and not showing interest abroad. And yet the world as of today is not in such a situation as this introversive attitude is allowed for. Even the Japanese firms which are trying to make a survival through the global operations will not able to trust the future to them.

Thus the Japanese economy is in the state of self-trap, finding no exit.







5. Conclusion – New Social Philosophy Required



The Japanese economy is a market economy, and yet the private economy (the market economy) at present lacks in the ability of recovering itself on its own. Even if there are innovative entrepreneurs, the present financial institutions lack in the ability and the will of providing them with required capital. In Japan, different from the US, venture capital market is not successfully created.

Direct finance is, moreover, completely cut off because of the stagnant stock market. The key to boost the market economy should be put on the government which could implement clever and bold policy. After the private economy was allowed to bubble, we saw it remain stagnant. Then the government fell into the negligence of macroeconomic measures11. This should not be repeated.

“The power of the private sector, the self-adjusting mechanism of the market, the economic behavior based on self-responsibility” etc. --- These mottos seem to lose color in the present Japanese economy. Entrepreneurs are not necessarily beings to which we can completely trust the future of the Japanese economy. What they are doing at present is the behavior of reducing cost through the restructuring. Although firms might, by means of this, improve the financial conditions to some degree, mass unemployment is emerging in return. It has become the common practice that firms would reduce bonus, and lower wages, which would further put the deflationary pressure on the economy.

We should suggest that both the efficiency by means of the market and the safety by the government should be required for the smooth working of the market economy. It is important for the economic agents to feel some degree of stability. It is an obligation of the government to work out the institutional framework, for only within the stable framework can the people make competition with self-confidence. Contrastingly the society, in which the people entertain some degree of uneasiness, seeing no future prospect, and drop out as a result of competition, is not a good society. “Self-Responsibility” has no meaning unless some degree of stability and safety should be guaranteed. Jungle of business competition in the sense of Hobbes should be avoided.





1) This was a key factor for the Southeastern Asia’s dramatic economic development thereafter.

 2) It should be noted that this was not the case in the prewar period.

3) A successful bidding by a Japanese in auctions such as Sotheby’s became the notable quote.

4) Ironically, it was in November when the “Fiscal Structural Reform Act” was enacted.

5) The Housing Loan Companies (“Jusen”) Problem became a hot issue in relation to the property. They were subsidiaries for making loans to the property set up by the financial institutions. Even when “the Regulation of the Total Sum concerning the Property Loan” was implemented, money flew, through a loophole, into the Jusen from the financial institutions managed by the Agricultural Cooperation. The Jusen continued to make a loan for the property. However, this came to further worsen the balance sheets of these financial institutions under the overall asset deflation.

6) The road to the public funding for banks was paved by the “Early Promotion of the Financial Function Act” (October 1998).

7) It is a historical irony that a similar thing were to be carried out on a larger scale throughout the world after the Lehman Shock.

8) Another factor is a pressure from the US.

9) The Structural Reformers has an allergic antagonism of fiscal policy, so they are unaware of such perception (the knowledge that it might put deflationary pressure on the economy.

10) The phrase, “Working Poor”, was coined.

11) This is a responsibility of macroeconomics as well.









 

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