香蕉视频

Japan's so-called "lost" two decades are often invoked as an example of what might happen when financial bubbles burst, and, if following them, of what happens when governments do not adjust their monetary and fiscal policies "properly."

By "properly" some observers mean that governments should just spend money, and the central bank should inflate, even by 200%.聽聽This was according to transcripts quoted by Nomura's chief economist, Richard Koo, who took part in the debates at the time.聽聽200% is the number that Paul Krugman advocated in more than one debate they had in Japan at the time.

Closer inspection reveals that the Japanese stock market collapse had nothing to do with out-of-the-blue "bubbles."聽聽The fallout involved series of fiscal and monetary blunders to which inflation would have offered no solution.聽聽However,聽聽reversing a series of fiscal policies would have.

As in the U.S.,聽land served as collateral for bank loans in Japan, an arrangement that spread after WWII.聽Gradually, Japan committed the mistake that proponents of the "real bills" doctrine did centuries ago, a mistake Adam Smith corrected.

Unfortunately, that doctrine and Smith's correction has long聽been聽forgotten.聽聽Here is a brief reminder to show to what extent history rhymes when we do not learn from mistakes.

Although John Law's name is now associated with the "South Sea Bubble," he was a financial innovator.聽聽Like all innovators, he made mistakes. But the basic problem he wanted to solve was the same that central banks have been struggling with ever since: "How much currency and credit can be created without bringing about inflation?"

Law's proposal then was that a "land-collateralized" note issue would be the solution.聽聽His mistake sheds light on both the Japanese and U.S. sequence of events.

Law's solution was based on three principles:

Money's purchasing power must be stable;

To achieve this, issuing credit must be linked to anticipated聽聽"real" trade;

Using land as collateral, there could be no over-expansion of notes.

Law's mistake was that he did not see how monetary expansion raises prices, of land in particular, which then mistakenly rationalizes further credit expansion.聽聽This is what brings about "bubbles."

Smith made two corrections.聽聽First, he said, the collateral should be commercial paper, rather than arbitrarily choosing land-based collateral.聽聽Second, Smith saw that even commercial paper could not be sufficient to sustain stability. For the "real bills" doctrine to work, it needed specie (gold) convertibility too to constrain the increase in the quantity of money.

With the second condition in place, there was no reason to pay attention to any price level indices, since "the" price level becomes predetermined.

Back to Japan: After WWII, many laws were passed that biased an investment in land.聽聽Among these tax laws were the following: if people invested in land using borrowed funds, interest on the borrowing was deducted from their income.聽聽聽Also, for the purpose of inheritance tax, land values were appraised advantageously lower than cash or shares.

As the competition among financial institutions intensified in the latter half of the 80s, the quality of due diligence dropped, and lending with land as security increased.聽聽This drove up the price of land as credit continually expanded.聽聽The central bank accommodated the banks with easy monetary policy.聽聽The soaring land prices affected share prices and then both began to increase and affected each other.

Toward the end of the 1980s, the Japanese media started to focus on the soaring land prices.聽聽Not recognizing聽the nature of the problem, beginning in 1988,聽the Japanese government tried to solve the monetary problem with fiscal remedies.

It imposed a 20% withholding tax on savings; a capital-gains tax on equity sales; a security transfer tax; a 3% consumption tax; a 6% tax on new cars;聽聽and a 2.5% surtax on corporate profits among others.

Then, at the end of 1989, the Basic Land Law was enacted.聽聽The law focused on the "public interest" in land to ensure appropriate planning and to suppress land "speculation."

The Bank of Japan raised the discount rate in May 1989 and introduced quantitative controls on the total amount of land related loans from April 1990. The government then reformed the land taxation system, drastically raising capital gains taxes.聽聽While the changes were complex, what they meant was that capital gains taxes on real estate jumped from 20% to 50% if people or companies sold them before a ten year holding period.

Do you need the term "bubble" to talk about the dramatic drop in land and stock prices?聽聽Not really.聽聽The term suggests that the volatility is due to some randomness of human nature rather than grave mistakes of policy.

And, the term further suggests that politicians must spend money to inflate as recommended by their economists who sit on Keynes' elitist lap, thoughtlessly quoting his jargon.

But what should we have learned from the above experience?

First, stop talking about "bubbles."聽聽Instead, give priority to determining what were the monetary and fiscal mistakes, and then correct both as fast as possible.

Second, even if you want to correct fiscal mistakes that give advantage to one asset class over another, do not increase taxes or change regulations drastically.

Last, decide on a monetary anchor to give the proper signal on undue monetary excess that leads to credit expansion.

To this day these lessons have not been learned either in Japan or in Washington.聽聽If they were, the last crisis could have been聽prevented and avoided.

Reuven Brenner holds the Repap Chair at 香蕉视频's Desautels Faculty of Management.聽聽The article draws on his book, Force of Finance.

Read full article: , June 16, 2011