The Global Financial Crisis: Lessons from Japan's Lost Decade of the 1990s

During the 1990s and into the early years of the 21st century, Japan experienced prolonged recessionary economic conditions triggered by the bursting of a bubble in its equity and real estate markets and an ensuing banking crisis. Although the current global financial crisis is much more than Japans Great Recession writ large, many have turned to Japans experience to either support or oppose various policies and to improve general understanding of the underlying forces of financial crises. In fiscal policy, the Japanese experience has been used both as an example of stimulus packages that did not work and as a rationale for making stimulus packages large enough to help ensure that they would work. Fiscal stimulus did have the desired economic effect in Japan, but it mainly substituted for depressed bank lending and consumer spending. Recovery had to wait until the balance sheets of banks and households had been rehabilitated. Japan also shifted its policy focus toward reducing its fiscal deficit too early after authorities thought the recession had ended in 1996. The ensuing increase in taxes along with reduced fiscal stimulus along with the 1997-98 Asian Financial Crisis pushed the economy back into recession. In monetary policy, the Bank of Japans zero-interest rate policy demonstrated the futility of attempting to induce investment and consumer credit purchases through low borrowing rates. The Japanese experience also may be instructive in resolving problems of companies that technically are bankrupt but are being kept alive through outside financial support and in dealing with nationalization and subsequent privatization of insolvent banks. Japans case also illustrates that national debt may continue to rise for years after the financial crisis has ended. With respect to rehabilitating banks, Japans five bank rescue packages may hold some lessons for the United States.