Nov 04, 2014

    The economic wisdom - or lack thereof - of business leaders

    THE Bank of Japan, Japan's central bank, has lately been making a big effort to end deflation, which has afflicted the country's economy for almost two decades.

    At first, its efforts - which involve printing a lot of money and, even more importantly, trying to assure investors that it will keep doing so until inflation reaches 2 per cent - seemed to be going well.

    But, more recently, the economy has lost momentum, and last week the bank announced new, even more aggressive monetary measures.

    While the bank did the right thing, it did so amid substantial internal dissent. In fact, the new stimulus was approved by only five of the bank board's nine members, with those closest to business voting against.

    Which brings me to the subject of this piece: The economic wisdom, or lack thereof, of business leaders.

    Some of the people I've spoken to in America argue that the opposition of many Japanese business leaders to the Bank of Japan's actions shows that it's on the wrong track.

    In saying this, they're echoing a common sentiment in many countries, including America: the belief that if you want to fix an ailing economy, you should turn to people who have been successful in business, like leaders of major corporations, entrepreneurs and wealthy investors. After all, doesn't their success with money mean that they know how the economy really works?

    Actually, no. In fact, business leaders often give remarkably bad economic advice, especially in troubled times. And I think it's important to understand why.

    About that bad advice: Think of the hugely wealthy money managers who warned Ben Bernanke that the United States Federal Reserve's efforts to boost the economy risked "currency debasement"; think of the many corporate chieftains who solemnly declared that budget deficits were the biggest threat facing America, and that fixing the debt would cause growth to soar.

    In Japan, business leaders played an important role in the fiscal mistakes that have undermined recent policy success, calling for a tax hike that caused growth to stall earlier this year, and a second tax hike next year that would be an even worse error.

    On the flip side, the past few years have seen repeated vindication for policymakers who have never met a payroll, but do know a lot about economic theory and history.

    The Fed and the Bank of England have navigated their way through a once-in-three-generations economic crisis under the leadership of former college professors - Dr Bernanke, Janet Yellen and Mervyn King - who, among other things, had the courage to defy all those tycoons demanding that they stop printing money.

    The European Central Bank brought the euro back from the brink of collapse under the leadership of Mario Draghi, who spent the bulk of his career in academia and public service.

    There are business leaders who have got the economic analysis right, and plenty of academics who have got it wrong. (Don't get me started.) But success in business does not seem to convey any special insight into economic policy. Why?

    The answer is that a country is not a company. National economic policy, even in small countries, needs to take into account the kinds of feedback that rarely matter in business life.

    For example, even the biggest corporations sell only a small fraction of what they make to their own workers, whereas even very small countries mostly sell goods and services to themselves.

    So think of what happens when a successful business person looks at a troubled economy and tries to apply the lessons of business experience.

    He or (rarely) she sees the troubled economy as something like a troubled company, which needs to cut costs and become competitive.

    To create jobs, the business person thinks wages must come down, expenses must be reduced; in general, belts must be tightened. And, surely, gimmicks like deficit spending or printing more money can't solve what must be a fundamental problem.

    In reality, however, cutting wages and spending in a depressed economy just aggravates the real problem, which is inadequate demand. On the flip side, deficit spending and aggressive money printing can help a lot.

    But how can this kind of logic be sold to business leaders, especially when it comes from pointy-headed academic types? The fate of the world economy may hinge on the answer.

    In Japan, the fight against deflation is all too likely to fail if conventional notions of prudence prevail. But can unconventionality triumph over the instincts of business leaders? Stay tuned.