Recession Essay, Research Paper

Recession

Of all the economies in the world the last one most people would think are in danger of recession is Japan. Their technology advances are mesmerizing and yet the economy is in danger. They have had their interest rates lower than any economy in the world since the 1930 s. This of course was during the great depression.

The central bank of Japan(Bank of Japan) has tried to lower interest rates to get more money flowing through Japan but this has not got them out of the recession. In 1991 the short-term interest rates were at 8.3%, and down to almost zero in the beginning of 1999. In mid 1999 the two year government bond rate was at only 0.48%. The corporate bond rate was at 0.80%. These rates are extremely good for people borrowing money but not good for their economy. It s hard to understand why the economy is still in a slump if the rates are so low. An explanation could be that the traditional monetary policy is powerless to provide enough effect to stimulate the economy because of what is called a liquidity trap. Another explanation is that Japan just has banking problems associated with a credit crunch.

Many people have different ideas to solve this problem. One such idea is to for the Bank of Japan to bring inflation and inflationary expectations up to 4% and make them stay there for fifteen years. This would be much different than the interest rates of virtually zero as it is. The liquidity trap could be solved with this method, but why are they in a liquidity trap? The money put in the economy by the Bank of Japan has not been effective in raising the growth rate of broader money aggregates. The monetary base grew 25% between the years of 1994 and 1997. During this time the broader money aggregate grew only 11%, and the bank credit did not grow at all. In the years from 1998 to 1999 an expansion of the monetary base averaged about 8% to 10%, and ended up in a 3% growth in the broader monetary aggregate.

The credit crunch is a whole other explanation to the problem. This idea focuses on the contraction of the supply of bank credit. This is caused by the huge loans that failed to perform accumulating in their financial system. This has declined bank capital in the Japanese banks. The capital asset ratio from twenty of the largest Japanese financial institutions fell a great deal between the years of 1994 and 1998. This made it difficult to raise capital in domestic and international finance markets.

Another part of the credit crunch was that the banks were very cautious with their lending due to the recent outbreak of bankruptcies, non-performing loans, and the recession they have been in. Liabilities due to bankruptcies reached an all time high of 2.7 trillion yen in October of 1997. This makes the banks tighten credit conditions and makes the recession worse. Japan is in a problem and the way out of it is a risk because they do not want the money unobtainable if the person borrowing the money declares bankruptcy. They need to do something before their economy gets worse and worse. If the banks lower rates to stimulate the economy, they have to actually loan the money out for it to work. But if they do not get the money back because of people claiming bankruptcy they are in the same position.