Japanese Prime Minister Shinzo Abe outlined a set of economic reforms Tuesday intended to give some body to the crucial but controversial and still largely abstract "third arrow" of his three-prong plan to revitalize the Japanese economy. According to Abe's plan, these measures will build on the economic growth cycle currently underway — the one driven over the past two years by extensive fiscal and monetary stimulus, the first two arrows of "Abenomics," as it is popularly known — to lay the foundation for Japan's true long-term revival, not only as an economic power but as a political and military one, too.
The importance of this third arrow, and the various reforms it entails, can scarcely be overstated. Unlike the first two parts of the plan, which may be different in scale but are similar to past efforts to stimulate the nation's economy, the third arrow aims at something more difficult and profound: to reform some of the key structures of Japanese economic and social stability as they have operated for decades, and in some cases, centuries. So far, Abe's policies have succeeded in lifting growth, inflation, industrial production, investment and business sentiment throughout the country. But these gains have not altered the deeper issues that limit Japan's success: resource poverty, vast sovereign debt, an inflexible and socially restrictive labor force, and most important in the long run, a rapidly aging and shrinking population.
The measures outlined by Abe today are meant in part to resolve these issues. But today Abe provided only guidelines for reform, with a few notable exceptions, including a pledge to lower the corporate tax from 35.64 percent to less than 30 percent in the next few years. Other reform proposals, such as allowing more women and immigrants into the workforce, will be far harder to implement and sustain socially in a country that has long-running issues with integrating women into the workforce and that historically has had great difficulty integrating foreigners socially. And even if these reforms are implemented, they will risk aggravating Japan's main long-term constraint: demographic change. Rising female labor participation may expand the workforce in the near term, but in the longer term it risks further lowering Japan's already record-low birthrate (1.43 children per woman, well below the replacement rate).
In recent months, there have been mounting signs that the prime minister's current growth efforts are nearing the limits of their effectiveness, further driving home the urgency of implementing structural reforms. Already this year, stock markets have taken the shine off the first two arrows of Abenomics. The Nikkei 225 peaked in December, up nearly 50 percent from when Abe took over, but has since gone through a 12 percent slide. Meanwhile, currency devaluation has not created the export boom Abe expected, even as it has increased energy import costs. And while nuclear power generation should restart this summer, it will be on such a limited basis that it will have little effect initially. Ultimately, more than half the country's reactors will remain offline. Other structural reforms, such as restructuring the power sector, are in the nascent stages of implementation and, despite Abe's announcement today, remain too abstract to effectively assess. Politically sensitive issues such as abolishing agricultural quotas and opening agricultural land to corporate investment remain essentially unaddressed.
But Japan has not necessarily reached the end of its rope. If there is one thing clear from Japanese history and geopolitics, it is that the country is capable of making dramatic policy swings when the combination of internal and external pressures becomes overwhelming. Internal and external pressures today are making the status quo of the past two decades — a period often disparaged as "lost decades," although it in fact saw extraordinary and prolonged social and economic stability — no longer sustainable. These pressures, most prominently the rise of China and subsequent reconfiguration of the East Asian economic and security systems, along with Japan's own aging population, are forcing Japan to change the way it operates. It is this deeper change that Abe's reform measures, in truncated and partial form, point toward.