Then, as now, asset values rose to stratospheric heights. Then, as now, the bubble eventually popped. And then, as now, people initially believed the economy would soon regain its bearings.
But in post-bubble Japan, the economy didn't recover as expected. Instead, it stagnated — year after painful year — until the 1990s had earned the chilling sobriquet "the lost decade."
Now, as official Washington mobilizes to head off a possible recession, lessons from Japan's brush with prolonged economic misery are being revisited. They may offer a guidepost for everything from Federal Reserve Chairman Ben Bernanke's handling of interest rates to lawmakers' calls to jump-start a moribund economy with tax cuts or social spending.
"Bernanke has really thought about this. They're very conscious of this (at the Fed)," says Adam Posen, a former visiting scholar at the Fed and an expert on the Japanese economy at the Peterson Institute for International Economics.
The Fed began looking closely at the Japanese experience several years ago, as the end of the technology stock bubble in the USA ignited fears of a Japanese-style implosion. With inflation virtually extinguished in the USA, policymakers then worried about inadvertently tumbling into deflation, in which prices would decline across the board and drag the economy down with them. That never happened. In 2007, the consumer price index jumped 4.1%, the highest annual increase in 17 years.
There are, of course, differences between Japan's experience after its twin stock and property bubbles and today's U.S. economy, struggling to cope with the aftermath of the worst housing downturn in decades and a resulting credit crunch. Japan's corporations were far more dependent on commercial banks for financing than are today's U.S. multinationals, which have stockpiles of internal capital as well as broader access to capital markets. U.S. banks also were in stronger financial condition themselves at the outset of the crisis, though they have been forced subsequently to swallow massive, multibillion-dollar losses on mortgage-linked investments.
"If you look back at Japan, and you think to yourself what was their monetary policy like and why did that happen, I don't think this is an analogous situation," says Robert Rubin, chairman of Citigroup's executive committee and U.S. Treasury secretary in the late 1990s.
But the Japanese experience remains relevant, providing a cautionary lesson about the need for decisive action to prevent the economic equivalent of a cold from turning into something far worse. "You gotta be out front and be aggressive with easing monetary policy. If you wait too long, you get not only more downward momentum, but the effectiveness of monetary policy declines if the banking system is in trouble," says Posen, a Japanese government consultant.
Boom and bust
The scale of Japan's 1980s boom and subsequent bust was breathtaking. In the five years before its 1989 peak, the Nikkei stock average rose 275%. Property prices became so inflated that the tiny spit of land surrounding the Imperial Palace in central Tokyo was briefly worth more than the entire state of California. At the time, Japan's seemingly unstoppable rise inflamed fears among Americans that the United States had slipped into permanent economic inferiority.