South-Western College Publishing - Economics  
A Japanese Remedy For Economic Ills?
Subject Recession
Topic International Finance
Key Words Recession, Economic Growth, Devaluation
News Story

Japan's economy is in recession. The latest government figures show that the economy has contracted for three successive quarters at an annual rate of 3.3 percent. The magnitude of the decline and the importance of Japan in the world economy have generated concern among U.S. policy makers as to whether the Japanese government has adopted the right economic policies to pull Japan out of its recession. Japan's Prime Minister, Keizo Obuchi, argues that Japan has taken appropriate measures.

Prime Minister Obuchi said that Japan is cutting interest rates, taxes, and pumping billions of dollars into the economy in an effort to stimulate the economy. Obuchi also said that Japan has undertaken every feasible measure short of a "wartime economy," an option that is prohibited in Japan's constitution.

Japan is the world's second largest economy and accounts for 70 percent of Asia's economy. Japan's Asian neighbors have blamed Japan for not taking steps to end Asia's economic crisis. The U.S. has been offering Japan economic advice and appears to be frustrated with Japan's progress to date in ending its recession. Obuchi's answer to these criticisms is that the country is trying its best to put its economy back on track.

One of the biggest problems facing Japan is its failing banking industry which, according to some estimates, is saddled with over $1 trillion in bad loans. Japan's ruling Liberal Democratic Party and key opposition leaders have recently come up with a banking reform plan to prevent widespread bank failures. (Updated October 15, 1998)

1. Draw an aggregate demand and aggregate supply curves for Japan. Show on the diagram that the Japanese economy is in recession.

2. In the above diagram, what happens if Japan adopts policy measures such as cutting taxes and increasing government spending?

3. What is the impact on the Japanese economy of a reduction in interest rates?

4. Why do U.S and Japanese government officials worry about a possible widespread failure in Japan's banking system?
Source Kevin Sullivan and Mary Jordan, "Obuchi Defends Economic Policies," The Washington Post, September 20, 1998

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