This new outcome resulted from the interaction of macroeconomic policies. The process that created the economic decline began in the late 1980s when Japan pursued ultra-low interest rate polices. Internationally these helped to stabilize U.S. financial markets after its 1987 stock market crash. But domestically they produced Japan's infamous bubble economy. The ability to borrow at ultra-low rates led to companies bidding up asset prices to levels that could not yield sustainable returns. When asset prices declined, Japanese companies were left deeply indebted.

The role of over-indebtedness in creating severe downturns had been previously analyzed, notably by U.S. economist Irving Fisher on the Great Depression. But since his study, many countries had adopted policies of running large budget deficits to tackle recessions.

To understand the ensuing result of this collision between over-indebtedness and deficit policies, an economic misunderstanding needs to be corrected. It is sometimes stated that companies aim to maximize profit. Strictly speaking, this is incorrect although usually it is a reasonable approximation. A capitalist economy, by definition, aims to maximize capital. A credit system means a company has both assets and debts, so maximizing capital means maximizing balance sheets having an excess of assets over debt. Achieving this in conditions of over-indebtedness and falling asset prices requires repaying debt.

To reduce debt, companies must generate a financial surplus and invest less than they earn, which creates a shortage of economic demand. This is how in 1929, U.S. companies turned overextended balance sheets into economic collapse. Demand management is used to prevent this. The state spends the equivalent of companies' financial surplus, via a budget deficit, and thereby maintains overall demand.

Richard Koo, the economist who most thoroughly analyzed Japan's stagnation, noted that large budget deficits were vital to, and successful in, preventing a 1929-style collapse in the country despite severe company indebtedness. Japan's economic stagnation was therefore a product of counter-forces falling spending by companies, which would produce economic decline, and state spending to prevent this.

But what should the state spend on? Here, the difference between the United States, Europe and Japan on the one hand and China on the other is crucial. In the former economies, for ideological and structural reasons, the state does not undertake large scale investment. State spending on consumption is acceptable, but large-scale investment isn't. This limitation is a necessary consequence of their being capitalist economies. Capitalism is private ownership of the means of production. Therefore the state can consume, but it cannot play the leading investment role.

But prolonged large-scale state spending on consumption will produce the pattern seen in Japan, where consumption rises but investment falls. Currently, short-term policies of the same type are being pursued in the United States and Europe. In a purely short-term sense, the United States and Europe are indeed employing Japanese methods.

Will the United States and Europe experience prolonged "Japanization"? It is possible but unlikely. The United States and Europe's over-indebtedness is less extreme than that of Japan. Their economies are more open and therefore more efficient. Most probable is that the United States and Europe will undergo several years of very slow economic growth while they pay down debt, but not decades.

In China, such obstacles to state investment do not exist. The 2008 stimulus package was largely driven by it. Consequently investment has not fallen in China, and it is not experiencing even short term "Japanization." Whether China undergoes "Japanization" depends on its economic policies. If China continues to pursue policies combining supporting both investment and consumption, it does not face this risk.

But some Western economists have advocated that China abandon policies that have been successful and instead adopt ones that have produced the crisis in the West. If it did this then, of course, China would face its own risk of "Japanization." Fortunately for everyone so far China has pursued more effective economic policies than those of the United States, Europe or Japan.

The author is a columnist with China.org.cn. For more information please visit: http://www.h5a3.com/opinion/johnross.htm

Opinion articles reflect the views of their authors, not necessarily those of China.org.cn.