COMPONENTS OF ECONOMIC GROWTH IN JAPAN AND THE UNITED STATES

ABSTRACT

The historical development of Japan in relation to its current deflationary condition serves as an indicator of potential developments in the U.S. in light of its current financial crisis. The economic impact of recent cross-border investment expenditures between the two economies could help investigate the impact of capital expansion on growth in GDP under mild inflationary pressures. Under these conditions, in addition to population, the U.S. has enjoyed relative economic growth.

1. INTRODUCTION

Japan's economy has slid into a Keynesian-type liquidity trap which was most likely amplified by the country's monetary and fiscal authorities. In the face of the financial crisis of 2008, there is fear that the U.S. economy may slide into a similar trap since monetary directives have become ineffective. Setting the target interest-rate higher than zero may help stabilize the monetary base. However, population growth parameters play an important role in selecting a correct policy target. Low growth in population requires a target below zero. That would not be necessary for the U.S. in which growth of GDP above Japan for more than a decade has been attributed to population differentials between these two economies. A reversal in population trends leads to scenarios in which growth in the U.S. converges to that of Japan. This study examines the effect of cross- border investments, in addition to differences in population growth, unemployment, and inflation, on U.S. growth in GDP relative to that of Japan. Cross-border investment between the U.S. and Japan has been favorable to U.S. economic growth above that of Japan under the conditions of (i) population growth in the U.S. that exceeded that of Japan, and (ii) investment amounts which did not produce inflation in the U. S., given that Japan has fallen into deflation. A reversal in these trends should erode this differential in favor of the U.S. of growth between these two economies.

1.1 Literature Review

In conditions of liquidity trap investors prefer to hold large money balances in anticipation of future increases in interest rates and a reduction in bond prices (Keynes, 1964). Deflationary scenarios suggest that near-zero or negative real interest rates may not only fail to expand the monetary base, but may exacerbate the lack of liquidity (Katz, 2002). On the contrary, a monetary policy that confirms the existence of moderate inflationary expectations may lead an economy out of this liquidity trap. It has been suggested that a 4% inflation target for 15 years would have been enough for the Japanese economy to escape its liquidity trap, as well as thwart potentially skyrocketing inflationary pressures in the future. An important growth factor in a deflationary environment is population and the labor force (Krugman, 1998). The IS curve shifts to the left for structural reasons such as population aging. A negative real interest rate was correctly advocated by political leaders. However the resulting deflationary expectations may have pushed the economy further into the trap as channels for escaping it differ depending on structural and monetary factors (Itoh, 2000). In the case of the U.S. and Japan, monetary and structural factors may have recently caused a temporary growth advantage of the former. In view of the fact that both economic systems are now experiencing a collapse in their financial services sector this advantage may disappear if population growth between the two economies converges.download