Koo: I’m explaining to the Americans that the disease you’ve got, is the disease we got 15 years earlier. Most Americans are flabbergasted by the fact that the Federal Reserve has lowered interest rates to zero, flooded the market with liquidity — and the economy is still going absolutely nowhere. Unemployment is still increasing, people are still retrenching, deleveraging. When the central bank brings rates down to zero, a lot of things are supposed to happen, but there’s nothing happening. But that’s what we experienced in Japan. The Bank of Japan brought the rates down to zero, did massive quantitative easing, with no result whatsoever. This happens because of a balance-sheet recession.
What is that?
This happens because the private-sector companies are no longer maximizing profits; they are minimizing debt. They are minimizing debt because all the assets they bought with borrowed money collapsed in value, but the debt is still on their books, so their balance sheets are all under water. If your balance sheet is under water, you have to repair it. So everybody is in balance-sheet-repair mode. This type of recession isn’t in any economic textbook yet, and there’s no name for it. I call it the balance-sheet recession.
It took us [in Japan] a decade to figure out. People said, “Ah, just run the printing presses, ah, structural reform, ah, just privatize the post office, this and that, and everything will be fine.” Nothing worked. This is pneumonia, not the common cold. When people are minimizing debt because of their balance-sheet problems, monetary policy is largely useless. If your balance sheet is under water, in negative equity, you are not going to borrow money at any interest rate, and no one will lend you money, either.
