Discussion Paper No. 945

IS IMBALANCES AND
CURRENT ACCOUNTSURPLUSES IN JAPAN:
IN MEMORY OF
PROFESSOR RONALD I. MCKINNONCharles Yuji Horioka

August 2015

The Institute of Social and Economic Research
Osaka University
6-1 Mihogaoka, Ibaraki, Osaka 567-0047, JapanIS Imbalances and Current Account Surpluses in Japan: In Memory of Professor Ronald
I. McKinnon*
Charles Yuji Horioka**
Asian Growth Research Institute; National Bureau of Economic Research; and Instituteof Social and Economic Research, Osaka University
August 21, 2015
Abstract
In this paper, I find (1) that Japan showed massive and persistent current accountsurpluses from at least 1981 and until at least 2011, (2) that Professor Ronald
McKinnon was correct, at least in the case of Japan, and that these large and persistentcurrent account surpluses were due primarily to Japan’s large and persistent IS
imbalances (the excess of saving over investment), (3) that the specific causes of the IS
imbalances have changed dramatically over time, and (4) that future trends in Japan’s
IS imbalances (current account surpluses) are difficult to project but that they willprobably not change dramatically in either direction in the foreseeable future.

Journal of Economic Literature Classification Codes: D14, D91, E21, F21, F32, H62
Keywords: IS imbalances, IS balances, saving-investment balances, global imbalances,current account surpluses, current account balances, trade balances, saving, householdsaving, corporate saving, government saving, investment, population aging, Ronald
McKinnon, Japan*I am grateful to Barry Bosworth, Hiroaki Hayakawa, Yoko Niimi, Euston Quah, andother participants of the Singapore Economic Review Conference 2015, held at the
Mandarin Orchard Hotel, Singapore, on August 5-7, 2015, for their valuable comments
and discussions. This work was supported by JSPS (Japan Society for the Promotionof Science) KAKENHI Grant Number 15H01950, an Asian Growth Research Instituteproject grant, and a grant from the MEXT Joint Usage/Research Center for Behavioral
Economics, Institute of Social and Economic Research, Osaka University.
**Corresponding author: Charles Yuji Horioka, Asian Growth Research Institute, 11-4,
Ohtemachi, Kokurakita-ku, Kitakyushu, Fukuoka 803-0814, JAPAN.

Telephone:

81-93-583-6202. Facsimile: 81-93-583-4602. Email address: horioka@agi.or.jp
Forthcoming in the Singapore Economic Review.

1. Introduction
It is indeed unfortunate that the eminent economist and Stanford University professor
Ronald I. McKinnon passed away on October 1, 2014, despite being as active and as
sharp as ever. Professor McKinnon’s best-known contribution to economics is probably
his theory of “financial repression” and his assertion that the biggest impediment toeconomic development is not the lack of capital but the underdeveloped financial system(see, for example, McKinnon (1973, 1993)), but he made an equally important
contribution to the field of international money and finance (see, for example,
McKinnon (1996) and McKinnon and Ohno (1997)).
One of the centerpieces of Professor McKinnon’s contribution to the field ofinternational money and finance was his analysis of the determinants of trade andcurrent account balances, and it is on this topic that I focus in this paper. Thus, theobjectives of this paper are as follows: (1) to briefly describe Professor McKinnon’s viewson the determinants of trade and current account balances, (2) to analyze economy-wide
and sectoral data on trends over time in saving, investment, and IS imbalances (theexcess of saving over investment) on Japan for the 1980-2013 period to see whether or
not Professor McKinnon’s views apply in the case of Japan, and (3) to speculate about
future trends in Japan’s IS imbalances (current account surpluses).
This is an important topic for at least two reasons. First, Japan showed one of thelargest trade and current account surpluses in the world until China came along after
2000. Second, Japan started showing bilateral trade and current account surplusesvis-à-vis the United States in the 1970s, and these bilateral imbalances were the largest
in the world in the 1980s and 1990s. This, in turn, led to growing discontent in the
United States and serious trade frictions between the two countries, with many
Americans believing and asserting that the imbalances were due largely to “unfair”
Japanese policies such as industrial policies that fostered export industries, export
promotion policies, high tariffs and other trade barriers on imports, and an undervalued
yen, which promoted exports and suppressed imports.
However, McKinnon and Ohno (1997) analyzed this very issue and showed convincinglythat the persistent bilateral trade and current account imbalances between the UnitedStates and Japan reflect primarily macroeconomic imbalances in the two countries,
especially “the increasing American tendency to overspend and the contrasting1

Japanese proclivity to underspend their respective incomes (McKinnon and Ohno, 1997,
p. 37).” In fact, one of Professor McKinnon’s strongest convictions was that trade andcurrent account balances are determined primarily by macroeconomic factors such as IS
imbalances rather than by industrial, commercial, and exchange rate policies, and theaforementioned finding is just one specific instance of this general conviction. One
objective of this paper is to update the analysis of McKinnon and Ohno (1997) to thepresent and to show that their analysis still applies, at least in the case of Japan.
I sent an earlier incarnation of this paper to Professor McKinnon on October 23, 2010,and he replied as follows by email just two days later: “Your analysis of Japan's IS
balances and its current account surpluses is most convincing. I agree with you on theimportance of net saving balances for trade surpluses.”This is, of course, notsurprising given how heavily influenced my own way of thinking is by Professor
McKinnon’s work.
To summarize the main findings of this paper, I find (1) that Japan showed massive andpersistent current account surpluses from at least 1981 and until at least 2011, (2) that
Professor McKinnon was correct, at least in the case of Japan, and that these large andpersistent current account surpluses were due primarily to Japan’s large and persistent
IS imbalances, (3) that the specific causes of the IS imbalances have changed
dramatically over time, and (4) that future trends in Japan’s IS imbalances (current
account surpluses) are difficult to project but that they will probably not change
dramatically in either direction in the foreseeable future, meaning that what will
determine global imbalances is not what happens in Japan but what happens in the
United States, China, and elsewhere.
The remainder of this paper is organized as follows. Section 2 is a brief survey of therelevant theoretical and empirical literature; section 3 describes the data source;
section 4 presents data on economy-wide and sectoral saving, investment, and IS
imbalances in Japan during the 1980- 2013 period in order to shed light on the causes oftrends over time in Japan’s current account surpluses; section 5 speculates about future
trends in Japan’s IS imbalances (current account surpluses); and section 6 is a brief
concluding section.
2. A Brief Survey of the Theoretical and Empirical Literature2

Two accounting identities that hold in all countries are as follows:

CA = S – I(1)

CA = X − M + NFI + NCT(2)

where CA = current account balance,

S = national saving
I = domestic investment
X = exports of goods and services
M = imports of goods and services
NFI = net factor income (such as interest and dividends) from abroad
NCT = net current transfers (such as foreign aid) from abroad
What equation (1) says is that the current account balance is determined by thedomestic IS imbalance (the excess of saving over investment), just as Professor
McKinnon believed and asserted. Why is this? It is because saving that is not used tofinance domestic investment has nowhere to go but abroad, and when the excess ofsaving over investment flows abroad, this leads to a capital account deficit equal inmagnitude to the IS imbalance that must be offset by a current account surplus ofequivalent magnitude for the country’s balance of payments to remain in equilibrium.
Moreover, as equation (2) shows, the current account balance equals the sum of the
trade balance, net factor income from abroad, and net current transfers from abroad.
Since, in most cases, the largest component of the current account balance is the tradebalance, IS imbalances will be the primary determinant not only of the current accountbalance but also of the trade balance.
There is a contrary view that a country’s industrial, commercial, and exchange rate
policies will influence its trade and current account balances, but these equations
demonstrate that such policies will not, by themselves, influence the country’s tradeand current account balances unless they somehow affect its IS imbalances.
For example, let us suppose that country J reduces or eliminates trade barriers(increases or eliminates import quotas) on a certain good, say, beef. This will lead toan increase in imports of beef, which, in turn, will initially reduce the country’s trade
surplus. However, this will cause the country’s overall balance of payments to go into3

deficit (assuming it was initially in equilibrium), which, in turn, will cause the country’s
currency to depreciate if the country adheres to a flexible exchange rate regime. This,in turn, will lead to an increase in exports, which are now cheaper abroad, and to adecrease in imports of goods other than beef, which are now more expensive at home.
The country’s currency will continue to depreciate until its trade surplus returns to its
original level and its balance of payments returns to equilibrium. Thus, the end result
will be that the country’s trade and current account surpluses will be exactly the same
as before, with the only difference being a change in the composition of imports andexports, with imports of the good whose trade barriers were reduced or eliminatedincreasing, imports of all other goods declining, and exports of all goods
increasing. Thus, the reduction or elimination of trade barriers on a particular good
will benefit foreign producers of that good but will hurt foreign producers of all othergoods, meaning that such a policy will not necessarily increase the social welfare ofcountry J’s trading partners. Moreover, the same argument can be used to show thatthe elimination of industrial policies and export promotion policies would also not affectcountry J’s trade and current account surpluses and would also not necessarily increase
the social welfare of country J’s trading partners.
McKinnon and Ohno (1997) corroborated these theoretical expectations by showing
convincingly that the persistent bilateral trade and current account balances between
the United States and Japan reflect primarily macroeconomic imbalances in the twocountries, as noted earlier.

Moreover, other researchers have obtained further

corroboration of the theory. For example, Kawai and Takagi (2015) showed, using avector autoregressive model of Japanese net exports, that the real effective exchange
rate has only a short term (less than 3 year) impact on Japan’s net exports and that themedium- to long-term level of net exports are due to fundamental factors such as saving
and investment.
In sum, both the theoretical and empirical evidence demonstrate that only policies that
affect IS imbalances will have a long-run impact on trade and current account balances
and that industrial, commercial, and exchange rate policies will not, by themselves,
have a long-run impact on trade and current account balances. The policy implicationof this finding is that the only way to achieve a permanent reduction in the trade andcurrent account surpluses of a country with persistent surpluses is to reduce the IS
imbalances of that country (either by reducing its saving and/or by increasing its
investment).
4

3. Data Source
In this section, I discuss the data source used for my analysis. All data used weretaken from the National Accounts (Kokumin Keizan Keisan) of the Economic and Social
Research Institute of the Cabinet Office (Naikaku-fu Keizai Shakai Sougou

Kenkyuusho) of the Japanese Government. The data for the 1980-93 period are basedon the United Nations’ 1993 System of National Accounts (SNA) with a benchmark yearof 2000, while the data for the 1994-2013 period are based on the same SNA but with abenchmark year of 2005.
These data are available in published form as well as on-line at the following website:
http://www.esri.cao.go.jp/jp/sna/data/data_list/kakuhou/files/files_kakuhou.html
This source provides data for the economy as a whole as well as for five sectors of theeconomy: (1) households (including private unincorporated enterprises), (2) private
nonprofit institutions serving households, (3) nonfinancial corporations, (4) financial
institutions, and (5) the government. However, for ease of exposition, I combine thefive sectors into three sectors: (1) and (2) are combined and called the household sector,(3) and (4) are combined and called the corporate sector, and (5) is used as is and called
the government sector.
I will use data on net saving and investment (gross saving and investment minus theconsumption of fixed capital or depreciation) throughout because it is only net savingthat leads to increases in net worth and only net investment that leads to increases in
the capital stock.
Furthermore, I include capital transfers in saving because they are unrequitedtransfers that are used to finance the recipient’s capital formation or capital
accumulation. Examples of capital transfers are subsidies from the government to
private companies for the purpose of financing capital formation and inheritance andgift taxes paid by households to the government (the latter are negative transfers fromthe point of view of households).

5

4. Trends over Time in Japan’s Economy-wide and Sectoral Saving, Investment, and IS
Imbalances
In this section, I present data on the level of, and trends over time in, sectoral andeconomy-wide saving, investment, and IS imbalances (current account balances) inJapan from 1980 until 2013 (the most recent year for which data are available) in orderto shed light on the causes of the level of, and trends over time in, Japan’s current
account surpluses.1
Figure 1 and Table 1 show trends over time in the ratios of economy-wide saving,
investment, IS imbalances, and current account balances to gross domestic product(GDP) in Japan during the 1980-2013 period (except that current account balances are
not shown in Figure 1 because they equal IS imbalances except for a statistical
discrepancy, meaning that the two are almost identical). As can be seen from thisfigure and table, Japan’s IS imbalances (current account balances) have been in surplus
in every year since 1981, ranging from 0.41% (0.45%) to 4.77% (4.86%) of GDP andaveraging 2.51% (2.59%) of GDP, and the magnitude of these imbalances was especiallylarge during the 1983-2011 period, ranging from 1.33% (1.40%) to 4.77% (4.86%) of GDP
and averaging 2.77% (2.85%) of GDP. Japan’s imbalances exceeded 2% of GDP in 24(24) of the 29 years during the 1983-2011 period, exceeded 3% of GDP in 11 (12) of the 29
years, and exceeded 4% of GDP on two occasions during this period, reaching 4.16%(4.18%) of GDP in 1986 and 4.77% (4.86%) of GDP in 2007.

After 2011, Japan’s

imbalances fell sharply, from 2.03% (2.03%) of GDP in 2011 to 1.00% (1.02%) of GDP in2012 and further to 0.52% (0.67%) of GDP in 2013 but remained in surplus. Japan
showed such persistent IS imbalances (current account surpluses) throughout the
1981-2013 period because saving consistently exceeded investment by a considerable
margin, as can be verified from Figure 1 and Table 1.
Turning to trends over time in Japan’s IS imbalances (current account balances), it canbe seen from Figure 1 and Table 1 that there were no clear trends in these imbalances
during the 1980-2013 period even though both saving and investment showed sharp
downward trends throughout most of this period, with the ratio of saving to GDP
declining from 17.39% in 1980 to -0.23% in 2009 (except for a temporary rebound in
1983-89) and the ratio of investment to GDP declining from 18.48% in 1980 to -3.05% in2009 (except for a temporary rebound in 1984-90) before recovering slightly.
6

Thereason is that saving and investment showed very similar trends over time during the
1980-2013 period, as a result of which the sharp decline in saving was largely offset byan equally sharp decline in investment, leaving the excess of saving over investment
largely unchanged.
As noted earlier, Japan’s IS imbalances (current account surpluses) were especiallylarge (saving exceeded investment by an especially wide margin) during the 1983-2011
period, and I will now attempt to shed light on the causes of these imbalances by
examining data on trends over time in sectoral saving and investment.

Since thecauses of the large and persistent imbalances were dramatically different during the
1983-1993 and 1994-2011 periods, I will consider these two periods separately.
4.1. Reasons for the Large IS Imbalances (Current Account Surpluses) during the
1983-93 Period
Figures 2 and 3 and Table 2 show trends over time in the ratio of sectoral saving andsectoral investment to GDP, respectively, in Japan during the 1980-2013 period, and as
can be seen from these figures and table, the two main causes of the large andpersistent IS imbalances (current account surpluses) during the earlier 1983-93 period
were the high levels of household and government saving, which caused economy-widesaving to exceed economy-wide investment by a large margin (this finding is perfectly
consistent with the aforementioned finding of Ohno and McKinnon (1997)).

As shown

in Figure 2 and Table 2, the ratio of household saving to GDP ranged from 8.10% to
11.00% and averaged a full 9.19% during this period, whereas it ranged from 0.21% to6.52% and averaged only 2.71% during the 1994-2011 period. Similarly, the ratio ofgovernment saving to GDP ranged from 0.27% to 6.02% and averaged a full 3.58%
during the 1983-93 period, whereas it ranged from -8.39% to 1.47% and averaged only
-3.33% during the 1994-2011 period and was negative in every year after 1997.
Why were household and government saving so high during the 1983-93 period?
Figure 4 shows trends over time in Japan’s household saving rate (the ratio ofhousehold saving to the household disposable income) during the 1955-2013 period, andas can be seen from this figure, Japan’s household saving rate has been high (in excess
of 10%) from at least 1955 until at least 1995, reaching as high as 23.2% (nearly
one-quarter of household disposable income!) in 1974 and 1976.2 There has been avoluminous literature on the reasons why Japan’s high household saving rate was so
7high during most of the postwar period (see, for example, Hayashi (1986, 1997) andHorioka (1989, 1990, 1991, 1993, 1997, 2008)). This literature attributes Japan’s highhousehold saving rate to a large number of factors, among them (1) the young age
structure of the population, (2) the high rate of economic and income growth, (3) the
inadequacy of public old-age pensions and other social insurance programs, (4) the
unavailability of housing loans and consumer credit, (5) tax breaks for saving, (6) low
initial levels of household wealth, (7) the government’s saving promotion activities, (8)culture and tradition (especially the Confucian ethic of frugality), and (9) the bonus
system of compensation whereby a large proportion of one’s salary is paid in the form of
semiannual bonuses.

Horioka (1989) conducts a cross-country analysis of thedeterminants of the private saving rate in the member countries of the Organisation for
Economic Co-operation and Development (OECD) and finds that Japan’s high private
saving rate is due primarily to the young age structure of its population (the share of
the aged in Japan’s total population was the lowest among the OECD countries at thetime) but that other factors also contributed toward elevating Japan’s private saving
rate; the same conclusions undoubtedly apply to Japan’s household saving rate as well.
Turning to the reasons for the high government saving in Japan during the 1983-93
period, it was due primarily to the fact that Japan pursued very conservative fiscal
policies during this period (see Noguchi (1987) for more details). The Fiscal Act of 1947
prohibited the issuance of government bonds except to finance public works spending,but the Japanese government did even better, following a balanced budget policy andnot issuing even “construction bonds” (government bonds issued for the purpose offinancing public works spending) until Fiscal Year 1965. Furthermore, the Japanese
government did not issue “deficit bonds” (government bonds issued for the purpose offinancing government deficits) until Fiscal Year 1975, when the First Oil Crisis of
1973-74 made it necessary to do so. Even then, only limited amounts of government
bonds were issued, and the government embarked on “fiscal reconstruction” efforts soonafter it first issued “deficit bonds” in Fiscal Year 1975, recommending the introductionof a general consumption tax in October 1977, establishing a deficit reduction objective
in 1980, gradually lowering the ceiling for increases in budget requests by eachgovernment ministry or agency, and establishing the Ad Hoc Council on Administrative
Reform, whose mission was to recommend ways of rationalizing government, in March
1981. Moreover, tax revenues surged during the economic boom of the late 1980s,
which further reduced government deficits.

8Thus, the large IS imbalances (current account surpluses) in Japan during the 1983-93
period were due primarily to the high levels of household and government saving, which
are two of the most distinctive and well-known features of the postwar Japanese
economy.
4.2. Reasons for the Large IS Imbalances (Current Account Surpluses) during the
1994-2011 Period
Whereas high household and government saving were the main causes of Japan’s large
IS imbalances (current account surpluses) during the 1983-93 period, both household
and government saving collapsed during the 1994-2011 period, as already shown (seeBosworth (2012) for a discussion of the decline in household and government saving andthe offsetting increase in corporate saving, to be discussed later).
Looking first at the causes of the collapse of household saving during the 1994-2011
period, Figure 4 shows that Japan’s household saving rate declined precipitously during
the 1994-2011 period, from 11.2% in 1994 to 0.4% in 2008 before recovering slightly to
2.7% in 2011, according to the United Nations’ 1993 System of National Accounts (SNA)
with a benchmark year of 2005. The share of the aged in Japan’s total population was
the lowest in the developed world as recently as the 1970s, and this was the main causeof Japan’s high household saving rate at the time, as discussed earlier, but it increased
at the fastest rate in human history and is now the highest in the world. The single
most important cause of the collapse of household saving during the 1994-2011 period
was this rapid population aging, as shown by Horioka (1989, 1991, 1997), but it wasaided and abetted by the collapse of economic and income growth, the expansion of
public old-age pensions and the introduction of the public long-term care insurance
program in April 2000, the increasing availability of housing loans and consumer credit,
the abolition of most tax breaks for saving in March 1988, rapid increases in household
wealth holdings due partly to high household saving rates and partly to massive capitalgains on land and equities, the discontinuation of the government’s saving promotion
activities, and the weakening of culture and tradition over time. In short, virtually allof the factors responsible for Japan’s high household saving rates in the past have
weakened or become inapplicable over time, and therefore it is not surprising thathousehold saving collapsed during the 1994-2011 period (see Horioka (2008)).

9

The collapse of government saving during the 1994-2011 period was due primarily tothe twenty-year recession that led to a stagnation of tax revenue and the need forstimulative fiscal policies (especially in 1995-96), sharp increases in social spending due
to the aging of the population, and the long delays in hiking the consumption tax due tofierce political opposition (a 3% consumption tax was introduced in April 1989 but it
could not be increased to 5% until April 1997 and to 8% until April 2014) (see Posen(1998) for more details). As a result, Japan’s gross general government debt to GDP
ratio in 2012 was by far the highest in the developed world (234.8% vs. 164.2% in Greece,
136.3% in Portugal, 136.0% in Italy, 131.3% in Ireland, and 123.8% in the UnitedStates).
Since both household and government saving collapsed during the 1994-2011 period,
the fact that large IS imbalances (current account surpluses) persisted even during the
1994-2011 period means that completely different factors were responsible for the large
imbalances during this period. As Figures 2 and 3 and Table 2 show, the main causesof the IS imbalances (current account surpluses) during the 1994-2011 period were thehigh level of corporate saving and the low levels of corporate investment andgovernment saving. Whereas the ratio of corporate saving to GDP ranged from 1.92%
to 4.99% and averaged only 3.69% during the 1983-93 period, it was dramatically higher
during the 1994-2011 period, ranging from 1.95% to 9.00% and averaging a full 6.37%.
By contrast, whereas the ratio of corporate investment to GDP ranged from 5.08% to14.39% and averaged a full 9.78% during the 1983-93 period, it was dramatically lower
during the 1994-2011 period, ranging from -1.26% to 3.84% and averaging only 1.61%
during this period. Similarly, whereas the ratio of government investment to GDP
ranged from 3.60% to 5.42% and averaging a full 4.17% during the 1983-93 period, it
was dramatically lower during the 1994-2011 period, ranging from 0.42% to 5.15% andaveraging only 2.51%.
Why was corporate saving so high and why were corporate and government investment
so low during the 1994-2011 period? Corporate saving was high because corporations
wanted to improve their balance sheets and accumulate retained earnings following thefinancial crises. Corporate investment was low because of the 20-year recession in
Japan, poor economic prospects for the future, and the shifting of manufacturing
production abroad.

Government investment was low because of the government’s

precarious fiscal situation throughout this period, because Prime Minister Junichiro

10

Koizumi cut public works spending sharply during his years in power (2001-06), andbecause the Democratic Party of Japan did likewise during its years in power (2009-12).
As shown above, Japan has traditionally shown relatively low levels of corporate saving
and relatively high levels of corporate and government investment. Thus, the factors
responsible for the large and persistent IS imbalances (current account surpluses)
during the 1994-2011 period were not traditional features of the Japanese economy, andJapan was able to continue showing large imbalances even after 1993 because theeconomy underwent a massive structural change from a high-growth trajectory withhigh saving and high investment to a low-growth trajectory with low saving and low
investment and because, by coincidence, the two trajectories produced roughly the same
magnitude of imbalances for completely different reasons.
4.3. Reasons for the Lower IS Imbalances (Current Account Surpluses) during the
2012-13 Period
The ratio of Japan’s IS imbalances (current account surpluses) to GDP fell sharply from
2.03% (2.03%) in 2011 to 0.52% (0.67%) in 2013, as Figure 1 and Table 1 show, despite
an increase in the ratio of corporate saving to GDP from 7.07% to 8.21% because theratio of household saving to GDP declined further from 2.08% to -0.06%, becoming
negative for the first time since at least 1955, and because the ratio of household
investment to GDP increased from -2.42% to -1.14%, as Figures 2 and 3 and Table 2
show. The ratio of Japan’s IS imbalances (current account surpluses) to GDP fell evenfurther to 0.54% in 2014, but it has been rebounding sharply in 2015 and exceeded 3%
in the first 6 months of 2015. Thus, it appears that the decline in Japan’s imbalancesin 2012-14 may have been only a temporary phenomenon, but unfortunately, data are
not yet available on sectoral saving and investment in 2014-15 so it is not possible todetermine the causes of the recent rebound in Japan’s imbalances.
4.4. A Re-interpretation of My Findings using Data on Sectoral IS Imbalances
Figure 5 and Table 2 show trends over time in the ratio of sectoral IS imbalances to
GDP in Japan during the 1980-2013 period, and as can be seen from this figure andtable, the aforementioned findings can be recast in terms of sectoral IS imbalances.
Since high household saving and high government saving were the primary causes ofthe large IS imbalances (current account surpluses) during the earlier 1983-93 period, it
11

is not surprising that household and government IS imbalances were positive and large
during this period. The ratio of household IS imbalances to GDP ranged from 6.67% to
11.65% and averaged a full 9.12% during the 1983-93 period, whereas it ranged from
0.91% to 6.40% and averaged only 3.41% during the 1994-2011 period. Similarly, theratio of government IS imbalances to GDP ranged from -4.18% to 2.04% and averaged-0.59% (i.e., was only slightly negative) during the 1983-93 period, whereas it ranged
from-1.28% to -10.31% and averaged -5.85% (i.e., was very negative) during the

1994-2011 period.
Similarly, since high corporate saving and low corporate and government investment
were the primary causes of the large IS imbalances (current account surpluses) during
the later 1994-2011 period, it is not surprising that corporate IS imbalances werepositive and large during this period. The ratio of corporate IS imbalances to GDP
ranged from -0.88% to 8.98% and averaged a full 4.75% during the 1994-2011 period,
whereas it ranged from -11.53% to -2.42% and averaged only -6.08% during the 1983-93
period. However, since the decline in government saving was larger than the decline ingovernment investment during the 1994-2011 period, government IS imbalances werelower during this period than during the 1983-93 period, as noted earlier, and thus thegovernment sector did not contribute toward elevating economy-wide IS imbalances(current account surpluses) during the 1994-2011 period.
Finally, the decline in economy-wide IS imbalances in 2012-13 was due primarily to theincrease in household saving and the decrease in household investment, both of which
served to increase the household IS imbalance, so it is not surprising that the ratio of
the household IS imbalance to GDP declined sharply from 4.50% in 2011 to 1.08% in
2013.
Thus, all of my findings can be re-interpreted in terms of sectoral IS imbalances, whichhelps to solidify our understanding of what transpired.
5. Future Trends in Japan’s IS Imbalances (Current Account Surpluses)
Having discussed past trends in Japan’s IS imbalances (current account surpluses) andthe causes thereof, I now speculate about future trends in these imbalances (see Kawai
and Takagi (2015) for more details). There are factors that would be expected to cause

12Japan’s imbalances to increase as well as factors that would be expected to cause themto decrease, making it difficult to project future trends therein.
Looking first at factors that would be expected to cause Japan’s imbalances to decline in
the future, there are at least two such factors. First, household saving can be expected
to decline even further as population aging proceeds even further. Second, corporatesaving can be expected to taper off once corporate restructuring is completed andenough retained earnings have been accumulated for unexpected contingencies.
By contrast, there are at least three factors that can be expected to cause Japan’s
imbalances to increase in the future. First, government saving will surely increase
because the Japanese government will have no choice but to achieve fiscal consolidation
and reduce its sovereign debt, given that Japan’s gross government debt to GDP ratio is
the highest in the developed world and borders on unsustainability.

Second, corporate

investment will remain stagnant even after the economy recovers due to declining
population, which will alleviate the need to expand the productive capacity of theeconomy, and the continued shift of manufacturing production abroad.

Third,

government investment will remain stagnant because of the poor state of government
finances and because the declining population will alleviate the need for additionalsocial infrastructure investment.
Thus, there are factors working in both directions and it is not clear whether Japan’s IS
imbalances (current account surpluses) will increase or decrease, on balance. It istherefore not surprising that there is no consensus regarding future trends in Japan’scurrent account surpluses, with the Japanese government projecting continuing current
account surpluses, some private institutions and think tanks projecting current accountdeficits by as early as 2015, some projecting current account surpluses until 2020 oreven later, and academicians (such as Kawai and Takagi (2015)) projecting deficits or
surpluses depending on which scenario is used.

What is clear is that Japan’s

imbalances will not change dramatically in either direction in the foreseeable future
and therefore that what will determine global imbalances is not what happens in Japan
but what happens in the United States, China, and elsewhere.
One last caveat is that, because the Japanese hold a considerable amount of foreign
assets, they will earn a considerable amount of investment income abroad and therefore

13that Japan’s trade balance will be in deficit even if its current account balance is insurplus unless its current account surplus is of sufficient magnitude.

6. Conclusion
In this paper, I (1) briefly described Professor McKinnon’s views on the determinants oftrade and current account balances, (2) analyzed economy-wide and sectoral data on
trends over time in saving, investment, and IS imbalances on Japan for the 1980-2013
period to see whether or not Professor McKinnon’s views apply in the case of Japan, and(3) speculated about future trends in Japan’s IS imbalances (current account surpluses).
To summarize the main findings of this paper, I found (1) that Japan showed massive
and persistent current account surpluses from at least 1981 and until at least 2011, (2)that Professor McKinnon was correct, at least in the case of Japan, and that these large
and persistent current account surpluses were due primarily to Japan’s large andpersistent IS imbalances (the excess of saving over investment), (3) that the specificcauses of the IS imbalances have changed dramatically over time, and (4) that future
trends in Japan’s IS imbalances (current account surpluses) are difficult to project butthat they will probably not change dramatically in either direction in the foreseeable
future, meaning that what will determine global imbalances is not what happens inJapan but what happens in the United States, China, and elsewhere.
Thus, Professor McKinnon’s views about the determinants of trade and current accountbalances are correct, at least in the case of Japan, and can be used not only to analyze
the causes of past trends in the current account balances of individual countries and toforecast future trends therein but also to help us to understand and predict global
imbalances.

Professor McKinnon’s research in this area is therefore of great

importance not only to economists but also to practitioners and policymakers, and hewill be sorely missed for this reason as well as many others.

14

References
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Washington, D.C., U.S.A.: Brookings Institution Press.
Bosworth, Barry P., and Collins, Susan M. (2015), “Rebalancing the U.S. Economy in a
Postcrisis World,” in Barry P. Bosworth and Masahiro Kawai, eds., TranspacificRebalancing: Implications for Trade and Economic Growth (Washington, D.C., U.S.A.:
Brookings Institution Press), pp. 84-118.
Bosworth, Barry P., and Kawai, Masahiro (2015), “Overview of Issues, Challenges, andPolicy Directions,” in Barry P. Bosworth and Masahiro Kawai, eds., TranspacificRebalancing: Implications for Trade and Economic Growth (Washington, D.C., U.S.A.:
Brookings Institution Press), pp. 1-25.
Hayashi, Fumio (1986), “Why Is Japan’s Saving Rate So Apparently High?” in Stanley
Fischer, ed., NBER Macroeconomics Annual 1986, vol. 1 (Cambridge, Massachusetts,
U.S.A.: The MIT Press), pp. 147-210.
Hayashi, Fumio (1997), “Introduction to Part III: A Review of Recent Literature on
Japanese Saving,” in Fumio Hayashi, Understanding Saving: Evidence from the UnitedStates and Japan (Cambridge, Massachusetts, U.S.A.: MIT Press), pp. 289-329.
Horioka, Charles Yuji (1989), “Why Is Japan's Private Saving Rate So High?” in Ryuzo
Sato and Takashi Negishi, eds., Developments in Japanese Economics (Tokyo: Academic
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Horioka, Charles Yuji (1990), “Why Is Japan's Household Saving Rate So High? A
Literature Survey,” Journal of the Japanese and International Economies, vol. 4, no. 1(March 1990), pp. 49-92.
Horioka, Charles Yuji (1991), “The Determinants of Japan's Saving Rate: The Impact of
the Age Structure of the Population and Other Factors,” Economic Studies Quarterly(now called Japanese Economic Review), vol. 42, no. 3 (September 1991), pp. 237-253.
Horioka, Charles Yuji (1993), “Saving in Japan,” in A. Heertje, ed., World Savings: An
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International Survey (Oxford, U.K.: Blackwell Publishers), pp. 238-278.
Horioka, Charles Yuji (1997), “A Cointegration Analysis of the Impact of the Age
Structure of the Population on the Household Saving Rate in Japan" Review of

Economics and Statistics, vol. 79, no. 3 (August 1997), pp. 511-516.
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37-52.
Huang, Yiping, and Tao, Kunyu (2015), “The Role of Factor Market Distortion in the
People’s Republic of China’s External Balances,” in Barry P. Bosworth and Masahiro
Kawai, eds., Transpacific Rebalancing: Implications for Trade and Economic Growth(Washington, D.C., U.S.A.: Brookings Institution Press), pp. 148-182.
Kawai, Masahiro, and Takagi, Shinji (2015), “Japan’s Current Account Rebalancing,” inBarry P. Bosworth and Masahiro Kawai, eds., Transpacific Rebalancing: Implications

for Trade and Economic Growth (Washington, D.C., U.S.A.: Brookings Institution Press),
pp. 119-147.
McKinnon, Ronald I. (1973), Money and Capital in Economic Development. Washington,
D.C., U.S.A.: Brookings Institution.
McKinnon, Ronald I. (1993), The Order of Economic Liberalization: Financial Control in

the Transition to a Market Economy, 2nd edition. Baltimore, Maryland, U.S.A.: Johns
Hopkins University Press.
McKinnon, Ronald I. (1996), The Rules of the Game: International Money andExchange Rates. Cambridge, Massachusetts, U.S.A.: MIT Press.
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17

Washington, D.C.,

Figure 1: Trends in Economy-wide Saving, Investment, and IS Imbalances, 1980-2013

20

15

10

5

0
1980

1985

1990

1995

2000

2005

2010

2015

-5
SavingInvestment

IS Imbalance

Notes: Denote the ratios of economy-wide saving, investment, and IS imbalances to gross domestic
product (GDP) (in percent).
The figures for 1980-1993 are based on the United Nations’ 1993 System of National Accounts (SNA)
with a benchmark year of 2000, while the figures for 1994-2013 are based on the same SNA with abenchmark year of 2005.
Data Source: National Accounts (Kokumin Keizan Keisan) of the Economic and Social ResearchInstitute of the Cabinet Office (Naikaku-fu Keizai Shakai Sougou Kenkyuusho) of the Japanese
Government.

See main text for details.

18

Figure 2: Trends in Sectoral and Economy-wide Saving, 1980-2013

20
15
10
5
0
1980

1985

1990

1995

2000

2005

2010

2015

-5
-10
Household

Corporate

Government

EconomyNotes: Denote the ratios of sectoral (household, corporate, and government) and economy-wide saving
to gross domestic product (GDP) (in percent).
The figures for 1980-1993 are based on the United Nations’ 1993 System of National Accounts (SNA)
with a benchmark year of 2000, while the figures for 1994-2013 are based on the same SNA with abenchmark year of 2005.
Data Source: National Accounts (Kokumin Keizan Keisan) of the Economic and Social ResearchInstitute of the Cabinet Office (Naikaku-fu Keizai Shakai Sougou Kenkyuusho) of the Japanese
Government.

See main text for details.

19Figure 3: Trends in Sectoral and Economy-wide Investment, 1980-2013

20

15

10

5

0
1980

1985

1990

1995

2000

2005

2010

2015

-5
Household

Corporate

Government

EconomyNotes: Denote the ratios of sectoral (household, corporate, and government) and economy-wide
investment to gross domestic product (GDP) (in percent).
The figures for 1980-1993 are based on the United Nations’ 1993 System of National Accounts (SNA)
with a benchmark year of 2000, while the figures for 1994-2013 are based on the same SNA with abenchmark year of 2005.
Data Source: National Accounts (Kokumin Keizan Keisan) of the Economic and Social ResearchInstitute of the Cabinet Office (Naikaku-fu Keizai Shakai Sougou Kenkyuusho) of the Japanese
Government.

See main text for details.

20

Figure 4: Trends in the Household Saving Rate, 1955-2013
25
20
15
10
5

0
1955

1965

1975

1985

1995

2005

2015

-5
68SNA(1990)

93SNA(2000)

93SNA(2005)

Notes: Denote the ratio of net saving to net disposable income of households including private
unincorporated enterprises but not including private non-profit institutions serving households (inpercent).
The solid line shows figures based on the United Nations’ 1968 System of National Accounts (SNA)
with a benchmark year of 1990, the dashed line shows figures based on the United Nations’ 1993
System of National Accounts (SNA) with a benchmark year of 2000, and the dotted line shows figures
based on the same SNA with a benchmark year of 2005.
Data Source: National Accounts (Kokumin Keizan Keisan) of the Economic and Social ResearchInstitute of the Cabinet Office (Naikaku-fu Keizai Shakai Sougou Kenkyuusho) of the Japanese
Government.

See main text for details.

21

Figure 5: Trends in Sectoral and Economy-wide IS Imbalances, 1980-2013

15
10
5
0
1980

1985

1990

1995

2000

2005

2010

2015

-5
-10
-15
Household

Corporate

Government

EconomyNotes: Denote the ratios of sectoral (household, corporate, and government) and economy-wide IS
imbalances to gross domestic product (GDP) (in percent).
The figures for 1980-1993 are based on the United Nations’ 1993 System of National Accounts (SNA)
with a benchmark year of 2000, while the figures for 1994-2013 are based on the same SNA with abenchmark year of 2005.
Data Source: National Accounts (Kokumin Keizan Keisan) of the Economic and Social ResearchInstitute of the Cabinet Office (Naikaku-fu Keizai Shakai Sougou Kenkyuusho) of the Japanese
Government.

See main text for details.

22

Table 1: Trends in Economy-wide Saving, Investment, IS Imbalances, and Current Account Balances
Calendar Year
SavingInvestment
IS Imbalance
Current Account Balance
1980
17.39
18.48
-1.09
-1.05
1981
17.29
16.88
0.41
0.45
1982
15.98
15.36
0.62
0.66
1983
14.81
13.10
1.71
1.76
1984
15.72
12.99
2.73
2.77
1985
17.16
13.51
3.65
3.68
1986
17.19
13.03
4.16
4.18
1987
16.63
13.23
3.41
3.44
1988
18.03
15.40
2.63
2.66
1989
18.14
16.06
2.08
2.12
1990
18.01
16.58
1.43
1.46
1991
17.58
15.66
1.92
1.95
1992
16.16
13.23
2.93
2.96
1993
14.36
11.37
3.00
3.03
1994
10.73
8.08
2.65
2.69
1995
10.66
8.63
2.03
2.07
1996
10.62
9.29
1.33
1.40
1997
10.46
8.31
2.15
2.24
1998
8.28
5.62
2.65
3.03
1999
6.43
4.22
2.21
2.59
2000
7.18
4.85
2.33
2.53
2001
6.05
4.01
2.04
2.11
2002
4.80
2.05
2.75
2.83
2003
5.33
2.26
3.07
3.16
2004
6.12
2.53
3.59
3.70
2005
5.88
2.35
3.52
3.63
2006
5.99
2.17
3.82
3.93
2007
6.91
2.14
4.77
4.86
2008
4.45
1.24
3.21
3.32
2009
-0.23
-3.05
2.82
2.92
2010
1.93
-1.69
3.62
3.71
2011
0.64
-1.39
2.03
2.03
2012
0.69
-0.31
1.00
1.02
2013
0.43
-0.09
0.52
0.67
1983-1993
16.71
14.02
2.69
2.73
1994-2011
6.23
3.42
2.81
2.93
Notes: Denote the ratios of economy-wide saving, investment, IS imbalances, and current accountsurpluses to gross domestic product (GDP) (in percent).
The figures for 1980-1993 are based on the United Nations’ 1993 System of National Accounts (SNA)
with a benchmark year of 2000, while the figures for 1994-2013 are based on the same SNA with abenchmark year of 2005.
Data Source: National Accounts (Kokumin Keizan Keisan) of the Economic and Social ResearchInstitute of the Cabinet Office (Naikaku-fu Keizai Shakai Sougou Kenkyuusho) of the Japanese
Government.

See main text for details.

23Calendar
Year
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
1983-1993
1994-2011

Saving
11.65
12.13
11.31
11.00
10.71
10.24
9.41
8.10
8.41
8.55
8.12
9.21
8.77
8.57
6.52
6.32
5.07
4.71
5.60
4.68
3.80
1.84
1.61
1.27
1.05
0.63
0.47
0.49
0.21
1.33
1.14
2.08
0.79
-0.06
9.19
2.71

Table 2: Trends in Sectoral Saving, Investment, and IS Imbalances, 1980-2013
Household Sector
Corporate Sector
Government Sector
Investment IS Imbalance Saving Investment IS Imbalance
SavingInvestment IS Imbalance
4.39
7.25
5.88
8.79
-2.91
0.65
5.30
-4.66
3.05
9.09
4.50
8.57
-4.07
1.21
5.26
-4.05
3.28
8.03
4.31
7.26
-2.96
0.80
4.81
-4.01
1.51
9.48
3.88
7.13
-3.26
0.27
4.45
-4.18
1.47
9.25
3.96
7.41
-3.45
1.35
4.11
-2.77
-0.46
10.70
4.38
10.38
-5.99
2.17
3.60
-1.43
-0.11
9.52
4.99
9.48
-4.49
2.24
3.66
-1.43
-0.48
8.58
4.88
9.75
-4.87
3.58
3.96
-0.38
1.18
7.23
4.69
10.12
-5.43
4.63
4.11
0.52
-1.13
9.68
3.66
13.37
-9.71
5.11
3.82
1.29
-1.78
9.90
3.12
14.39
-11.26
6.02
3.98
2.04
-2.44
11.65
2.50
14.04
-11.53
5.81
4.06
1.75
2.10
6.67
1.92
6.40
-4.48
5.33
4.73
0.60
0.87
7.70
2.66
5.08
-2.42
2.92
5.42
-2.49
1.80
4.72
1.95
1.13
0.82
1.47
5.15
-3.68
-0.07
6.40
2.94
3.82
-0.88
0.32
4.88
-4.56
1.53
3.54
4.54
2.75
1.79
0.11
5.02
-4.90
0.43
4.28
4.46
3.80
0.66
0.30
4.09
-3.79
-0.35
5.95
8.55
2.12
6.43
-6.45
3.86
-10.31
0.03
4.66
4.76
0.06
4.70
-3.00
4.14
-7.14
-2.31
6.11
7.35
3.84
3.51
-4.19
3.32
-7.51
-1.65
3.49
6.35
2.61
3.75
-2.99
3.05
-6.04
0.67
0.93
7.72
-1.26
8.98
-5.07
2.64
-7.71
-1.04
2.31
9.00
1.19
7.81
-5.55
2.12
-7.67
-0.01
1.05
8.72
0.89
7.84
-4.30
1.65
-5.95
-0.50
1.14
8.54
1.61
6.93
-3.57
1.24
-4.81
-0.44
0.91
5.64
1.64
4.00
-0.31
0.97
-1.28
-1.72
2.20
7.55
3.12
4.43
-1.35
0.74
-2.09
-2.00
2.22
5.18
2.72
2.46
-1.34
0.52
-1.86
-2.81
4.14
6.13
-1.00
7.12
-8.08
0.76
-8.84
-1.77
2.90
8.14
-0.60
8.74
-7.64
0.67
-8.31
-2.42
4.50
7.07
0.60
6.47
-8.39
0.42
-8.81
-0.99
1.78
8.25
0.23
8.01
-8.21
0.45
-8.66
-1.14
1.08
8.21
0.30
7.91
-7.71
0.75
-8.46
0.07
9.12
3.69
9.78
-6.08
3.58
4.17
-0.59
-0.70
3.41
6.37
1.61
4.75
-3.33
2.51
-5.85

Notes: Denote the ratios of sectoral (household, corporate, and government) saving, investment, and IS
imbalances to gross domestic product (GDP) (in percent).
The figures for 1980-1993 are based on the United Nations’ 1993 System of National Accounts (SNA)
with a benchmark year of 2000, while the figures for 1994-2013 are based on the same SNA with abenchmark year of 2005.
Data Source: National Accounts (Kokumin Keizan Keisan) of the Economic and Social ResearchInstitute of the Cabinet Office (Naikaku-fu Keizai Shakai Sougou Kenkyuusho) of the Japanese
Government.

See main text for details.

24Endnotes
1

See McKinnon and Ohno (1997), Bosworth (2012), and Bosworth and Collins (2015)

for a similar analysis for the United States, Huang and Tao (2015) for a similar analysis
for China, Kawai and Takagi (2015) for a similar analysis for Japan, and Bosworth and
Kawai (2015) for a useful survey of all countries.
2

Note that the household saving rates shown in Figure 4 are not directly comparable tothe figures on household saving shown in Figure 2 and Table 2 because the denominator
is household disposable income rather than GDP and because the saving of private
non-profit institutions serving households is not included.

25