Hones Abe

Shinzo Abe didn’t fool any of the people any of the time.

Japan is now in a recession by the standard definition of two quarters of declining GDP in a row. The timing leaves little doubt that this recession was caused by the 3% increase in the consumption tax this April fools day. Japan’s GDP declined at an annual rate of 7.3 percent in the second quarter and at an annual rate of 1.6 percent in the third quarter. The 2014q2 decline is similar to the decline in US GDP in the 4th quarter of 2008 — a falling off the cliff decline.

This corresponds to a really impressively large multiplier. Consumption was only 61% of GDP in thrifty Japan so the increase in tax receipts should have been about 1.8 % of GDP yet GDP declined 1.8%. This isn’t normal. for one think tax changes normally have a smaller multiplier than spending changes. For another, GDP changes slowly with momentum (note the further small decrease in the third quarter).

Abe (and central bank governor H Kuroda) have been making trouble for me. They seem to have called the expected inflation imp from the vasty deep, and I said it couldn’t be done. Now they are forcing me to consider forward looking intertemporal optimizing consumers.

The long announced consumption tax increase implied that consumers faced a quite unusual real interest rate. Prices increased 2.1% in April (to me the surprising thing is that this is so close to 3 %). Price increases on that order were predictable and predicted. That corresponds to a real annual interest rate of oh about -24% (since nominal interest rates are almost exactly zero). Japanese consumers had a huge incentive to buy anything which didn’t rot in March.

Some goods are quite durable (OK my car is not at the moment quite as durable as it was Friday but I think it just needs a new battery). It is possible that well before March, Japanese demand was artificially high because of the threatened tax increase. There was an impressive 1.5 % increase in the first quarter of 2014.