Let firms go bust, Greenspan tells Japan

Mr Alan Greenspan, chairman of the US Federal Reserve, has told Japan it must allow more businesses to fail if it is to restore its economic vigour.

His advice, which breached the rule that central bankers should refrain from criticising other economies, came in testimony to the joint economic committee of Congress. Mr Greenspan also addressed the threat of deflation in the US, acknowledging that it was serious enough for it to require "very close scrutiny and maybe, maybe, action".

Japan's problem, Mr Greenspan said, was its cultural reluctance to let companies to go bust.

He said bankruptcies represent a "loss of face, which is culturally unacceptable in Japan... the result is that banks are very reluctant to take collateral and bankrupt the borrower". Mr Greenspan added that, until Japan addresses this, "they're going to have serious difficulties". He said Japanese officials have repeatedly told him: "You have it exactly right but you don't understand. Your solution is not the Japanese way."

In his most extensive comments yet on the threat of US deflation, Mr Greenspan said there was "no credible possibility" the Fed could "run out of monetary ammunition" to deal with any problem. But he warned that the Fed had so little experience in dealing with deflation, the possibility of it occurring required close monitoring.

"We've put significant resources into trying to understand... what this phenomenon is all about," he said.

Mr Greenspan expressed optimism about the US economy, but said it was too soon to make a firm judgment about its health or direction. He said the disappointing data of recent weeks largely reflected decisions made before the US-led victory in Iraq. "Many more weeks of data will be needed to confidently discern the underlying trends," he said.

Major currencies held steady in late trade as Mr Greenspan's much-awaited speech failed to yield fresh insights. The single European currency stood at $1.1704, unchanged from late on Tuesday, after hitting $1.1745 overnight, its highest level since early 1999 after it was launched. The dollar traded at 117.23 yen from 116.70 late on Tuesday.

"The dollar is now hovering at around $1.17 against the euro. Looking at where it opened this morning, there is hardly any change. Trading has become very range-bound," said Mr Gary Noone at MMS International.

Mr Greenspan's remarks came at a time of heightened speculation and debate on deflation. The International Monetary Fund released a study of deflation risks, which concluded that, in the US, "a few months of negative headline CPI inflation cannot be ruled out but the likelihood of sustained deflation appears remote".

The Labour Department said last week a measure of core US inflation had dropped to a 37-year low in April. The pace of that decline has recently accelerated amid renewed anxiety over possible shocks to the shaky US economy, including disease outbreaks and terrorist threats.

Mr Greenspan is also concerned about plans for tax cuts and spending increases. He warned "deficits do matter" and expressed dismay at what he characterised as a breakdown in budget discipline in Washington.

He reminded lawmakers that the US government faced a "significant" budget problem as the baby boom population ages and draws on more healthcare and retirement benefits.