COVID-19 Will Test Japan’s Economy to the Breaking Point

COVID19 virus with salarymen

Japan’s reliance on food imports and global trade means that the rising death toll from COVID19 is only the start of the nation’s worries.

Despite the rising global death toll, the current pandemic might not be the deadliest outcome of the crisis created by the COVID-19 virus. The knock-on effects could be even worse; the risk of food shortages and rising prices, for example, increases as long as transportation is disrupted and workers can’t tend to fields. The United Nations has warned that the shortages created by border restrictions and supply chain disruptions may ultimately lead to famine. For Japan, which has one of the world’s lowest food self-sufficiency ratings, the warning lights are flashing red.

It’s not just food either – globally, productivity is dropping, unemployment is rising, and consumer demand has cratered. The Asia-Pacific region is expected to experience its worst economic downturn in sixty years. The point is not that the cure (lockdowns and social distancing) is worse than the disease itself, but rather to show how high the stakes are not only in the response to the disease, but to the economic disruption it has brought with it. With everything from national food security to individual livelihoods on the line, mishandling the economic response to the outbreak could be even deadlier than the virus itself.

The psychology of nations responding to the economic crisis is, at a simple level, a little like the psychology of individuals faced with the hoarding behavior that emptied store shelves of toilet paper – even for those who avoid panicking and try to make sensible decisions, everyone else’s panic can force them into the same behavior just to avoid getting left with no supplies. The stakes, of course, are much higher in global economics. If enough countries decide to hoard products – be it agricultural produce, medical supplies, or something else – other countries will be forced to consider similar measures of their own, fueling a vicious spiral.

The psychology of nations responding to crisis is similar to that of individual consumers faced with toilet paper hoarding

From an economic standpoint, only two things about the crisis are certain: that the timeline will be set by the COVID-19 virus, not by any politician’s agenda, and that no economy will be insulated from the effects of the pandemic. Beyond that, everything is speculation. Tory Newmyer of the Washington Post put it best when he wrote that “economists, investors and business leaders can still marshal evidence for everything from a once-in-a-century-scale depression to a relatively sharp bounce back.” The point of imagining the potential economic consequences for an individual economy like Japan’s, then, shouldn’t be to guess how things will look one or two years from now (which truly would be little more than a guess at this juncture) or even worse, to urge a return to economic activity before it’s safe, but to understand how well equipped the nation is to successfully weather any potential impact. For nations like Japan, two elements that will be especially helpful will be a capacity to survive disruption, and an ability to facilitate international cooperation in order to mitigate the chances of protectionism and hoarding.

The economic challenge for Japan is massive. A recession is almost a given due to falling consumer demand, slowing trade, and persistent uncertainty over future business conditions. Finance Minister Aso Taro has already ruled out suspending the October 2019 consumption tax increase, but it’s no small irony that Japan faces the COVID-19 crisis after Abe said that only an economic shock at the level of the 2008 Lehman Brothers crisis – exactly what now confronts Japan – could delay the tax hike’s implementation. The government can no longer rely on a jolt from the 2020 Summer Olympics until next year, while the usual tourism which makes up an increasingly important segment of the Japanese economy has all but stalled. A return to the deflation and stagnant growth that saddled Japan after the economic bubble burst in the early 1990s is likely – and policy tools to reinvigorate the economy are almost exhausted, with monetary policy already running negative interest rates and Japan’s already-high government spending limiting the impact of fiscal stimulus.

If government support may be limited, then this might be time to appreciate Japan’s high level of corporate savings53 percent of Japanese companies on the Topix index are cash solvent, compared to just 14 percent of U.S. companies listed on the S&P 500. Japan’s economy will need more money to support incomes, support small businesses through the lockdown, and stimulate demand. While some of this will come from additional government stimulus, corporate Japan could also help by supporting wages for employees during lockdowns and maintaining solvency in order to preserve jobs – measures that will not be as readily available in countries whose corporations have preferred to attract activist stakeholders and used enormous share buyback programs to drive up stock prices. Abenomics’ monetary policy effectively amounted to dropping cash on corporate Japan in the hope that companies would drive up wages and consumer demand in turn – but corporate Japan, for the most part, simply stashed away the money for a rainy day. If so, they should hopefully realize that continuing to hoard cash in this situation is like refusing to hand out a stockpile of sandbags even as the typhoon rages and the rivers rise – if not now, then when?

Japanese corporations have mostly stashed away their cash windfalls from Abenomics; now must be the right time to use it.

Though domestic demand recently replaced net exports as an economic driver, exports still hold an important place in Japan’s economic policymaking, and disruptions to global supply chains – the trade networks that allow parts to be produced where they can be made most efficiently and then assembled as a final product – will mean that the country cannot export its way into economic growth as it has during much of the postwar era. Japan already has experience with supply chain disruption following the rare earths embargo that accompanied the 2010 Senkaku Islands dispute with China. That helps explain why the Japanese government has offered 200 billion yen in subsidies for firms that plan to diversify their production bases from China back to Japan and to Southeast Asia. China’s abundance of resources and its large, professionally diverse and well-educated labor force allow it to occupy several points along a product’s supply chain – and while this makes it an obviously tempting location for firms to locate their supply chains, it also makes those chains more exposed to any disruptions in China, such as the COVID-19 shutdown in Hubei province. Given the depth of Japan’s trade relations with China – China is a destination for 21.6 percent of Japan’s total exports and 64.6 percent of intermediate exports, both far larger than any other country’s trade with China – diversifying those supply chains, as these subsidies hope to do, can create a hedge against such disruptions.

Yet even as Japan attempts to manage the domestic impacts of the pandemic and the various knock-on issues it creates, achieving a sustained recovery will require a coordinated and cooperative global effort. International cooperation was one of the essential factors that mitigated the worst effects of the 2008 global financial crisis, but a repeat of that episode will require more trust and global mindedness among current leaders than they seem to be showing so far. The World Trade Organization is predicting that global trade could fall to levels not seen since the Great Depression. The twin-pronged nature of the crisis – health and economic – mean that political leaders will be preoccupied with domestic health and taking care of their own populations rather than thinking about coordinating international responses. This will be exacerbated by wariness towards globalization, which many blame for abetting the spread of the disease and inhibiting domestic production of medical supplies. The feeling is natural, but mistaken – imposing trade barriers would increase the costs of imports required for producing medical supplies and cut off access to innovation which will be essential for developing a vaccine and other treatments.

New Zealand and Singapore have led a commitment with five other states not to impose import bans during the crisis, while the IMF’s offer of debt relief to poor countries combating the pandemic is a good start. As Philip Lipscy has recently described, the Trump administration’s preference for strong arm tactics and bullying could create an opportunity for Japan to offer pragmatic solutions, with its preference for behind-the-scenes consensus building becoming an essential asset for negotiating an international response. Given the milquetoast response from the G20 so far, however, the task facing Japan is significant.

The 2008 financial crisis was mitigated by international cooperation – but the climate for that is severely lacking this time.

Rising nationalist sentiments among many of the large western economies, especially seen in their reflexive responses to the COVID-19 crisis, mean that Japan may be spitting into the protectionist wind if it calls for trade liberalization as one of the steps towards global economic recovery. The European Union, Japan’s likeliest partner in supporting that liberal international order, is already having a hard enough time agreeing on an economic response to the crisis, not least due to political posturing by some of its leaders. An ongoing trend since the 2008 financial crisis has been the steady delegitimization of economic connectedness, especially (but not exclusively) by populist leaders across the globe. Some observers are even blaming the COVID-19 pandemic on globalization. International cooperation was fairly anodyne in 2008 – in 2020, it might almost be toxic for democratic leaders who fear a populist insurrection.

It may be that Japan most easily finds common cause with China, which will be seeking to stimulate global demand as its economy faces the double crisis of the economic downturn directly resulting from the initial outbreak in Hubei, compounded by crashing demand for its exports as the virus spreads globally. The question, however, is on what terms China will seek to reopen borders; for all of the American fist-shaking about China’s economic practices, not least from the current White House, China is a more constructive member of the rules-based economic order than it often gets credit for in the West, but its state-heavy economic system and the sheer scale of its economy means it’s impossible for it to fit neatly into a global order that it sees as anachronistic. Japan too deserves more credit for its relations with China than it receives, but the possibility of shaping a new order may be too tempting for China’s current leadership. Japan could be ideally suited to serve as a bridge between Chinese and American interests, but there is not much Japan can actually do if both sides are determined to use this crisis to settle scores rather than resolve outcomes.

All things considered, the COVID-19 pandemic and its knock-on effects are a case of a crisis that may actually be as bad as advertised – and that’s even before we account for the second- and third- order effects like the impact of unstable regimes in the Middle East, of mass migrations, or of countries taking exploiting the calamity to press an advantage on other geopolitical disputes, never mind the psycho-sociological impacts as the pandemic, lockdowns, and future uncertainty weigh increasingly on people’s minds. It’s worth bearing in mind that it’s now recognized that the rise in food prices was one of the key factors in setting off the 2011 Arab Spring, whose effects are still being felt in the Syrian civil war, Europe’s refugee crisis, and war in Yemen. The world can expect more unpredictable and chaotic effects such as this from the pandemic and its fallout – while in the more long term, there will be long-term impacts from permanently depressed wages, education gaps as students miss school, and more.

Early, optimistic projections of the virus’ course that would allow normal economic activity by late spring are being steadily replaced by more realistic projections that imagine lockdowns – and the associated impacts to economic activity and commerce – not fully easing until 2021. The disruptions to global trade, supply chains, demand, and more are already massive and will deepen. The most pessimistic projections almost assure that there can be no return to the former status quo, and a new economic regime will necessarily follow – with a key question being how much damage will be caused, both human and economic, before anything resembling normalcy can resume. Japan has an opportunity to excel at supporting and continuing the status quo, but this task is difficult when other nations are struggling to contain a pandemic and feed their population, and when the postwar status quo is very likely drawing to a close. Despite concerns over its food security, Japan’s deep economic and diplomatic ties and its proven resilience in the face of disasters mean that it may be better equipped than most – but COVID-19 will nonetheless be the biggest test of the nation since the end of World War II.

+ posts

Paul Nadeau is an adjunct assistant professor at Temple University's Japan campus, a visiting research fellow at the Institute of Geoeconomics, and an adjunct fellow with the Scholl Chair in International Business at the Center for Strategic and International Studies (CSIS). He was previously a private secretary with the Japanese Diet and as a member of the foreign affairs and trade staff of Senator Olympia Snowe. He holds a B.A. from the George Washington University, an M.A. in law and diplomacy from the Fletcher School at Tufts University, and a PhD from the University of Tokyo's Graduate School of Public Policy. He should be general manager of the Montreal Canadiens.

To Top