As the U.S. and other developed economies struggle with stagnant economic growth and fragile labour markets, parallels between Japan’s ‘lost decade’ in the wake of that country’s financial crisis are becoming increasingly evident. According to a number of economists, the U.S. in particular may be heading for its own ‘lost decade’, as households and businesses recover from the 2008 financial crisis.
“The best scenario [for the U.S. and European economies] is continued slow and fragile economic growth,” Craig Alexander, Chief Economist at TD Economics, said in a recent report.
“Moreover, even if economic growth is maintained, the feeling of recessionary times in the U.S. and Europe will persist until the private and public deleveraging is nearing completion some years down the road.”
Alexander says a combination of cheap credit and the booming economy of the late 1990s and early 2000s helped create a generation of highly leveraged households and businesses. He says correcting that imbalance will not happen overnight.
“The main message is that the imbalances created in the 1990s and 2000s will be eventually unwound,” Alexander writes. “But, it will take considerable time, a lot of effort and unprecedented policies to get us there.”
He warns that fiscal hawks in Washington should be careful when attacking the country’s growing deficit, as that might exacerbate the economic malaise already afflicting the country.
“Immediate and significant fiscal restraint runs enormous risks. The fiscal rebalancing should occur over the coming decade, not the next couple of years,” he writes.
“Ultimately, this economic and fiscal backdrop implies protracted slow economic growth, remarkably low interest rates and repeated efforts by policymakers to boost inflation in an environment of high unemployment,” Alexander says.
“In other words, it will have many qualities of Japan’s lost decade.”
JAPAN YOU'RE NOT ALONE
Many investors and economists think of Japan’s long period of stagnant growth as a one-off, but researchers at Goldman Sachs say similar situations have occurred 20 times since the late 1800s -- with a majority of these episodes having occurred after the Second World War.
“Stagnations are more likely than you would like,” Goldman economist José Ursúa said in a recent report. “These events tend to be correlated with, if not preceded by, financial crises, especially stock-market crashes.”
Ursúa says four characteristics define a ‘lost decade’ or long periods of stagnate growth:
- Low inflation.
- Rising and sticky unemployment.
- Stagnant home prices.
- Lower stock returns.
Ursúa says historical lessons suggest “that the probability of stagnation in the current environment is much higher than usual, at about 40% for developed markets.”