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The Japanese economy: what's ahead.

Stepping away from the noise of day-to-day events, Japan is evolving into a more mature industrial economy, and many changes are likely in the coming years.

The pace of events in Japan is probably no faster than anywhere else; it just seems that way. The Japanese government always seems in crisis, with people debating how long the current Prime Minister can stay in power -- usually measured in days or weeks. The Japanese economy always seems to be on the verge of a monumental crack-up, with people expressing real concern over the sustainability of economic growth, full employment, or price stability. Foreign trade issues are hotly debated, from the excessive trade surplus (or, on occasion, the excessive trade deficit) to the trade frictions with the U.S. and others. It is difficult to find anyone in Japan who does not have an opinion about the appropriate level for the yen-dollar exchange rate -- or for that matter, the Nikkei stock market index.

The broad-based collapse of the speculative bubbles in real estate and the stock market over the past two years have been a shock to the whole financial system. But even in good times, there is a sense of impending financial collapse, punctuated by highly publicized bankruptcies in one industry or another.

And yet, Japan has been the world's leading economic success story since World War II. Prime Ministers have come and gone, but the Liberal Democratic Party has remained in power, regularly returned to office through democratic elections. The economy has grown in excess of 5% per annum in most years, and inflation has been held to 2% or less.

Japanese firms are among the most efficient and innovative in the world. And they are competitive: As Japanese firms go global they are extending their fierce domestic rivalries to the international arena, using many of the same techniques they learned to be successful at home. Some of these techniques are hard ball, but Japanese companies have won international markets mainly by producing high-quality products. And they have large R&D budgets in place to maintain the edge they have gained. My point is that for the past 40 years, Japan has been in a continual burst of creative tension. Neither the tension nor the creativity are likely to disappear in the years ahead.

Stepping away from the noise of day-to-day events and commentary, Japan is evolving into a more mature industrial economy. The collapse of the real estate and stock markets has shown that Japan can no longer sustain GNP growth rates in excess of 5% without generating serious distortions. Currently, the manufacturing sector is in an American-style recession, whereby a short-fall in demand for final products leads to a build-up in inventories and companies cut back on production until inventory-sales ratios are in better balance, hopefully on a rebound in demand. The recession should end by early next year, spurred by a further package of fiscal stimulus measures amounting to nearly $50 billion and by further cuts in short-term interest rates by the Bank of Japan.

Impetus for Recovery

But, unlike the U.S. case, much of the impetus for economic recovery will come from the international side, where the current account surplus has nearly doubled to exceed $100 billion. Not surprisingly, this monumental surplus has intensified trade frictions and created pressure on the Group-of-Seven (G-7) industrial countries' policymakers to push up the yen against the dollar and other currencies in the exchange market.

From the Japanese side, the Ministry of Finance and the Bank of Japan are agreeable to an appreciation of the yen, since the strong yen keeps domestic inflation down. Also, Japanese firms have shown they can weather the competitive pressures forced upon them by the higher yen. The U.S. Treasury and the Federal Reserve have given mixed signals but have not supported an overt effort to appreciate the yen. A stronger yen means a lower dollar, which may help the U.S. trade balance but adds to inflation here.

Once the Japanese economy recovers, the Bank of Japan is not likely to allow new bubbles to build up in real estate and the stock market. Monetary policy generally will be tighter than it was in the late 1980s, leading to higher interest rates than before. Even so, long-term interest rates, currently around 6% per annum, will remain below those in the U.S., currently around 8%, because Japan continues to have a higher savings rate.

The reasons for Japan's somewhat slower growth in the future can be traced to each of the economists' traditional inputs to production -- land, labor, and capital. Even after the collapse of the real estate bubble (which was mainly focused in major cities such as Tokyo and Osaka), land in Japan will remain scarce and relatively expensive, especially compared with the U.S. A disproportionate amount of land is still tied up in agriculture. Japan has recently changed its tax laws to force the shifting of land from speculative to commercial use. But farmers, who want to maintain the status quo, retain considerable clout, and the process will be slow.

Labor also has become scarce and expensive. Even with the current recession in manufacturing, there are complaints of a labor shortage. The labor force is growing at less than 1% per annum -- not enough to sustain a boom.

Capital is also going to be harder to build over the years ahead. During the late 1980s, Japanese firms were able to finance themselves cheaply at 1% per annum or so, through issues of convertible bonds with equity warrants attached, and used the funds to invest heavily in new plant and equipment. Now that the stock market has collapsed, most of the warrants are expiring worthless. Instead of having effectively issued new equity, Japanese companies are having to return to the market to roll over their earlier debt, now at current interest rates. This forces them to hold off on raising money for new projects.

Even with a lack of growth in traditional economic inputs, Japan can continue to prosper. The successful Japanese companies are still models of effective industrial organization, based on long-term relationships with suppliers, employees, and customers. The Japanese labor force is well educated and highly motivated. Japanese technology is still advancing in many fields. Japanese growth will, therefore, remain strong, perhaps in the 4% range, with low inflation.

Many Changes Ahead

Many changes are likely in the years ahead. The Japanese people are more demanding of their government and economic policymakers. The current crop of politicians will soon retire and the new generation coming into power will introduce some basic reforms: a reform of electoral power, giving a greater voice to urban voters and less to the agricultural interests; an overhaul of the land tenure system so that more land will become available for more productive commercial use or a more commodious living style; a reform of the tax system to allow for more individual initiative; and, perhaps, even a restructuring of social security to allow Japanese families to plan better for their old age.

And, gradually, the Japanese will become more truly internationalized, if not cosmopolitan. The Japanese government is pushing hard to gain greater voting power in international economic policy forums, such as the IMF and World Bank, rather than just foot the bill when additional funds are needed. Japanese corporations are well into their globalization strategies, having learned many lessons from past mistakes. Every year, millions of Japanese people are travelling abroad for business, for pleasure, or as students in the world's finest universities.

Creative Tension

Gaiatsu (foreign pressure) will still be needed to open Japanese markets. A few official impediments to foreign business in Japan must still be cleared away, but the many unofficial impediments may take longer. Thus, gaiatsu will evolve into yet another form of creative tension between Japanese and foreign firms in the product markets themselves. At the political level, Japan bashing and kenbei (loathing of Americans) may well continue, because some politicians and pressure groups find it in their interest to keep these feelings alive. But political friction will only be a major problem if either the U.S. or Japanese economies go into a prolonged slump, as the U.S. has in recent years.

I don't buy the argument by some skeptics that the more Americans and Japanese get to know each other the less they like each other. In the business world, the reverse has been true, in U.S. firms employing Japanese people in Japan and in Japanese firms employing Americans in the U.S. A whole generation of bilingual Americans and Japanese junior executives is now rising in the ranks. These workers will be sure to blur the lines between what is a Japanese firm and what is an American firm, just as the active trade in manufacturing components between the two countries already makes it difficult to say whether the final product should be considered to be made in Japan or made in America.

Looking at the Japanese economy, there are several opportunities for U.S. firms:

* Japan is embarked on a major investment in its infrastructure. While much of this is in the form of pork-barrel public works projects, controlled by local politicians and local firms, the result will be a more efficient transportation network, which means a more open and streamlined distribution system.

* American-style franchising is already thriving in Japan. Japanese young people are much more avid consumers than their parents, and American goods that can compete with Japanese products will find a more welcome acceptance than in the past.

* Japanese technology, which will go from strength to strength, will create many additional opportunities for U.S. firms, whether in terms of increasing exports of final products or components to Japan, or of entering into joint ventures with Japanese partners to produce goods to be sold in Japan or elsewhere.

* Health care products is an area in which Japan already excels, and its companies are receptive to foreign products and technologies.

An Attractive Sector

Finally, and this may seem especially bold, Japan will be especially attractive for finance -- banking, securities trading, and insurance. Even as competing financial centers grow in other parts of the Far East, Hong Kong, Singapore, Shanghai, etc., Tokyo is likely to retain its current advantage, and perhaps to even widen it, based on the strength of the Japanese economy, the size of Japanese savings, and the increasing internationalization of its companies. And, with the Bank of Japan stubbornly maintaining a low inflation rate, the Japanese yen is likely to continue to grow in stature as an international currency.

In stressing the opportunities, I run the risk of sounding too optimistic. These changes will not come easily. At times, the tensions will be so great that even very creative people will have difficulty surmounting them. But the Japanese economy is so large and Japanese companies are so competitive in international markets that U.S. firms can not afford to ignore doing business there. Indeed, with the Tokyo Stock Exchange down to the lowest price-earnings ratios in years, this may be a window of opportunity for U.S. firms to think of strategic acquisitions in Japan.

Scott E. Pardee is Chairman of Yamaichi International (America) Inc. Based in New York, the firm provides a broad range of financial services to institutions in the United States. He is the first American to be selected to a top executive post at a subsidiary of a major Japanese company. He joined the firm in 1986 as Vice Chairman and was named Chairman in 1989.
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Title Annotation:Accessing the Japanese Market
Author:Pardee, Scott E.
Publication:Directors & Boards
Date:Sep 22, 1992
Previous Article:The ultimate test.
Next Article:U.S.-Japan policy and commerce programs.

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