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As Wall Street staggered this week in the wake of Lehman Brothers’ Chapter 11 bankruptcy filing and the sale of Merrill Lynch, commentators began making inevitable comparisons to Japan’s long-lasting financial and real-estate crisis in the 1990s. “Is Wall Street’s Crisis Turning Japanese?” Forbes.com asked. And The Wall Street Journal considered “the Japan lesson” for the U.S.
What are some of the lessons from that Japanese experience? A 2003 working paper by Joe Peek of the University of Kentucky and Eric Rosengren of the Federal Reserve Bank of Boston concluded that Japanese banks had an incentive to continue to loan to weak firms, in order to avoid writing off previous loans. (Peek’s and Rosengren’s article was later published in American Economic Review.) The problem, Peek and Rosengren pointed out, is that that misallocation of credit insulated the troubled companies from the forces of the market — and in the process slowed economic recovery.
In a forthcoming article to be published in American Economic Review, a trio of researchers from MIT, the University of California at San Diego and the University of Chicago elaborate on that theme. They look at the specific role that lending to such “zombie” troubled companies played in delaying economic recovery in Japan. They conclude that “zombie lending” prolonged the Japanese economic downturn by allowing the “zombie” companies on financial life support to avoid reducing staff and losing market share — actions that would have created opportunities for their healthier competitors. The researchers found that industries with high levels of “zombie” companies showed lower job creation and lower productivity than industries with a lower concentration of zombies.