EXIT STRATEGY - ASIAN LESSONS:Japan's procrastination during the so-called 'lost decade' of the 1990s has become an object lesson in how not to handle an economic crisis

FOR YEARS, Tokyo complained that nobody in the US government understood Japan or its unusual political economy. Well, they can't say that now.

The man charged with pulling the US economy out of the fire, treasury secretary Tim Geith-ner, was stationed at the US embassy in Tokyo during the 1990s. That gave him a ringside seat at the collapse of one of the 20th century's great speculative asset bubbles.

Asked recently to recall the lessons of his Tokyo stay, Geithner said it had given him a single deep conviction. "You don't want to dither."

Japan's monumental procrastination during the so-called "lost decade" has become a sort of object lesson in how to mishandle an economic crisis. The situation was sparked when Japan's overheated export sector could no longer find markets for all the cars and electronic goods pouring out of its factories. Finance ministry bureaucrats helped fuel investment feeding the exports by engineering a spectacular expansion of credit. Then they stood by as the resulting property and stock bubble popped, and wrung their hands through the 1990s while toxic assets mounted.

Eventually, Japan was forced to wipe out credit losses at its banks of an estimated €550 billion - 16 times original predictions and nearly four times the size of the entire Irish economy. Japanese taxpayers still resent having to endure that huge bill and the politicians and bureaucrats who forced it on them, and this year voters look set to throw the Liberal Democrats out of power for the first time in 15 years.

The Japanese experience looms large over any discussion on the current global crisis, and it is one reason why Geithner moved so quickly this year to introduce "stress tests" on America's biggest banks.

It also helps explain why the administration of US president Barack Obama has resisted public pressure to withdraw its huge bailout of the banking industry: Geithner learned that the longer bad assets fester on balance sheets, the higher the eventual economic and political cost. (Interestingly, the cost of Obama's entire economic rescue package is roughly the same as the eventual Japanese banking bailout.)

But take away that initiative and the US - and Ireland - look very like Japan. Regulators and politicians ignored years of warning signs that the banking sector was dangerously over-leveraged, and then dithered over how to deal with the consequences.

Battle-hardened Japanese bureaucrats say much of the rest of the world is today still avoiding a thorough financial audit of banks, and taking their word that the worst is over. "Left alone, banks have no incentive to honestly disclose assets," said Daisuke Kotegawa, Japan's representative to the International Monetary Fund. Kotegawa says despite the failures of the 1990s, Japan eventually got its approach right.

Geithner will also have learned one of the scariest scenarios in the economist's notebook from Japan. What happens when ordinary economic tools no longer work? Japan eventually cut interest rates to zero in an attempt to jumpstart the economy, with little or no impact. There is no reason, says Nobel Prize-winning economist Paul Krugman, why that scenario should be confined to one country. Krugman fears what he calls the "Nipponisation" of the world economy. "We know there are situations in which ordinary monetary policy loses all traction. And we know that we're in one now," he said last month.

That policy straitjacket particularly afflicts Ireland. The Irish Government has raised taxes while cutting spending and launching a plan to buy back toxic assets - all deemed necessary to reassure lenders. It has, as many have pointed out, few options left.

Will such measures work? In 1997 a series of shock measures including fiscal stringency, budget cuts and a hike in consumption tax stopped a Japanese economic recovery dead in its tracks. No government has dared to raise the consumption tax since. Japan then did what it often does: it flew in the face of popular convention and orthodox economics, indulging in a huge public works spree to replace falling consumption.

That spree has left the country with the worst public debt in the developed world - estimated at between 160 and 200 per cent of GDP - but it has its defenders. "Without it, Japan's economic problems would have been far worse," says Gregory Clark, a Japan-based commentator and vice-president of Akita International University.

The real lessons from Japan's recession may be beneath the surface of the economic headlines. Although much of the public sector seems to be mired in the past, since the 1990s corporations have engaged in a quiet transformation, shifting capacity abroad, investing heavily, slashing full-time payrolls and becoming leaner and fitter. Once famous for lifetime employment, Japan now has one of the most casualised workforces in the developed world.

The consequences - good and bad - will be felt in the coming years. At home, resentment at those changes will reshape the political landscape, perhaps in ways unfavourable to business. Abroad, the winners of this Darwinian shakeout, led by Toyota, will come roaring back once the economic green lights are switched back on.

Geithner, currently struggling to manage the bankruptcy of the humbled General Motors, will have taken note.

Lessons from Japan

1 DON'T PROCRASTINATE

Finance bureaucrats with deep ties to the industry they supposedly regulated failed to slash interest rates quickly in the early 1990s, driving the economy into a deflationary death dive. They then dithered while the banking bad debt crisis mounted, meaning nobody - bankers and investors included, knew where the bottom was. Only when the government stopped taking the banks at their word and went into the industry to do a deep audit after 2003 did the problems start to heal.

2 REIN IN THE BANKS

Like Ireland, Japan allowed its banking sector to go wild in the 1980s, then avoid the consequences in the 1990s as the sector went into meltdown. And as in Ireland, the government was eventually forced into a series of costly bailouts and nationalisations.

The clientilism that fuelled the meltdown has not disappeared, but the lessons are burned deep in the collective cortex of Japanese regulators. They have spent much of the last decade putting legal brakes on their banking sector. By 2008, they were able to look knowingly at the US mess and quietly say: "We told you so."

3 FOCUS ON THE LONG-TERM

The last comparable world recession of the mid-1970s saw a huge and permanent transfer of wealth from the west to the Middle East's oil-producing countries. Economists speculate the current world slump will see another shifting of the world's tectonic economic plates further east, to the region anchored by Japan, China and Korea. All three countries have something lacking in many western economies: long-term industrial policy.

4 KEEP INVESTING

Japan has used every recession since the 1950s to streamline its productive capacity. In the aftermath of the mid-1970s slump, Toyota, Honda, Sony and Matsushita led a leaner, fitter corporate sector that laid waste to much of US manufacturing in the 1980s. Throughout the 1990s when US corporate investment slumped and America wallowed in the irrational exuberance of the dot-com boom, Japan's companies spent heavily on factories at home and around Asia. Today, even as Japan hunkers down for what appears to be its worst slump since the second World War, the corporate word has gone out: keep investing.