Yesterday’s most interesting headline in the Wall Street Journal was “The World’s Most Radical Experiment in Monetary Policy Isn’t Working”. After reading it, the right questions to ask are “why isn’t the policy working?” and “what does this mean for the global economy?”. Here are my answers.
First, the Japanese monetary experiment is implicitly based on a supply side economic theory that says production and supply is the key to growth while consumption and demand are less important. What we’re seeing – not just in Japan, but everywhere – is this just isn’t true. Businesses in Japan are not going to invest in production and increase supply unless doing so offers the prospect of revenue and profit. And in Japan, with a declining and aging population, the revenue and profit growth opportunities are limited. Demand is the missing factor.
Second, what this means for countries elsewhere is that supply-side oriented monetary solutions like quantitative easing and negative interest rates do not pave the road to riches. If governments want to aid durable and robust economic growth, Japan shows us that aggregate supply is not the only thing that matters. Demand as well as where the supply is coming from matter too.
Right now, the global economy is in a re-acceleration of growth, after working through a period of excess supply in housing, energy and other sectors as well as fallow demand. Judging from Japan’s experience, it is far from clear that this re-acceleration will last.