Recovery of the Japanese Economy and Reform of Corporate management

CEO, Dentsu Institute for Human Studies, Dentsu Inc.

1. Turning from Prolonged Recession to Slow Recovery

The Japanese economy has taken two steps forward and one step back. In 1999, it grew 1.5% in the first quarter and 1% in the second quarter, then showed a subzero growth by 1% in the third quarter. The Obuchi Cabinet inaugurated in July 1998 gave top priority to economic recovery, and, as a result, Japan's economy began to show a slow recovery. However, negative growth in the third quarter clearly indicates that the economy has not reached a full recovery phase due to stagnancy in private demand.

In order to make the economic recovery steady, the government formulated an economic revitalization package that amounted to \18 trillion in November 1999, and determined a national budget for 2000 with a 3.8% increase in annual expenditure by around the end of the year. With these political effects, the government predicts that it will achieve 1% growth in 2000. However, forecasts by private research institutions vary widely from 0.2% to 2.1%.

In short, I think that Japan's future economy is dependent on the recovery potential of private demand. In particular, it decisively relies on whether enterprises can take the lead in building up energies for new growth, by successfully reforming their structures and whether consumers can establish new lifestyles by utilizing information networks.

2. Promising factors in Japan’s economy

Effects of stimulus packages

There are bright and dark factors in recent trends of the Japanese economy. Let us look at the bright factors first. Although there has been no upswing in spending, the propensity of consumption shows a slight improvement due partly to the income tax reduction and restoration of confidence in future, and the decline of real consumer spending has apparently halted. Thanks to a wave of economic stimulus measures such as expansion of public investments and tax reductions, the stock market has regained approximately 50% from the lowest level in October 1998, and marked the highest record since last year at the beginning of 2000.

As for financial instability, although Japan has taken much longer time than the United States to formulate countermeasures, the financial revitalization package was finally launched in February 1999, which could let financial institution out of the worst phase.

The so-called "convoy system," which continued to exist under the protection of the Ministry of Finance, has finally come to an end, as the financial Big Bang has been taking place in earnest. Many financial institutions have embarked on restructuring and reorganization for survival under international mega-competition.

Improvement in corporate earnings

Many enterprises have grappled with restructuring programs such as elimination of surplus workers and closure of excess facilities. As a result, their corporate earnings are rapidly improving. According to a short-term economic forecast by the Bank of Japan(Nichigin Tankan) in December 1999, ordinary profits for all industries are expected to increase 12% in the first half and 20% in the second half from the corresponding periods of the previous year.

Mass participation by foreign capitals in the Japanese market has also been encouraging. Their investments in Japan in the first half of 1999 increased five times that of the previous year. In addition, large-scale investments have been made in the automobile, communication and finance industries.

Progress in informationization

Concerning information-related expenditures, Japan's spending and investment in this field are beginning to increase although they lag behind the United States. The percentage of households with personal computers in Japan was only 33% as of 1998 while it reached 50% in the United States. However, personal computers sold in Japan exceeded 9 million units in 1999, outnumbering the amount of color TV sets sold. The number of mobile telephones in use has already reached 50 million, surpassing the number of ordinary telephones.

Despite stagnancy in private investment as a whole, investment in the fields of communications, personal computers, semiconductors, and liquid crystal devices is considerably increasing.

In comparison to the United States, the scale of e-commerce in Japan currently represents approximately 45% for business-business trades and only 3% for business-consumer transactions. However, the Ministry of International Trade and Industry expects that this will grow eightfold by 2003.

Recovery of production

The manufacturing level stands currently 2 to 3% higher over the previous year's level. In addition, inventory adjustment has almost been completed and the inventory to sales ratio has returned to normal. This is considered a favorable improvement, since the expected increase in demand will lead to the increase in production.

3. Uncertain factors in Japan’s economy

Unstable employment

Japan' economy also has some uncertain factors. To begin with, take the unstable employment situation. It is almost certain that personnel reduction will intensify further especially in the fields of finance, distribution, and construction. It appears that the wage hike for this year's Spring labor offensive will not exceed last year's minimal 2.09%. Consumption will likely remain sluggish due to income factors.

Existence of excess facilities

Since excess facilities continue to exist except in the information-related sectors, capital investment in private sector will most likely remain weak for another half year.

Declined fiscal strength

Due to frequent fiscal expansion measures, Japan’s fiscal structure has substantially deteriorated, and the dependency on government bonds in fiscal 2000 reached a record high of 38.4%. Therefore, even if the economy abruptly turns stagnant in the future, much cannot be expected of additional fiscal expenditures.

Strong yen

When the yen becomes stronger, it works to discourage the economic activity. In the present situation, export of production goods for Asian countries are increasing. But, since import is also increasing substantially, the favorable balance of the current account will not increase easily. However, if the yen appreciates higher due to capital inflow and other related factors, the growth rate of Japanese economy will inevitably decrease.

Evaluation

As stated above, the Japanese economy has both positive and negative factors. I expect that it will begin to gradually recover in the second half of fiscal 2000, and will grow by 1 to 1.5% throughout the year.

4. Enthusiasm for Reform of corporate management

The main reason that I have become optimistic about the prospects for the Japanese economy is the fact that Japanese enterprises have started to grapple with restructuring programs in earnest.

Correction of high-cost structure

First, despite criticisms inside and outside of Japan for its late progress, Japan's deregulation has advanced currently to a considerable extent and the high-cost structure has started to be corrected. In the fields of finance, securities and insurance, the promotion of mutual participation and the deregulation of interest rates and commissions have been implemented. In the field of electric power, participation by steal and petrol companies in the wholesale business and deregulation of retailing for large-scale consumers are advancing. In the communication industry, restrictions on participation and charges have rapidly been lifted to allow multi-channeling of digital broadcasts, and fusion of communications, broadcasting and computers with BS land broadcasting.

Additionally, deregulation has steadily advanced in the fields of retail, aviation and distribution.

As a result, new participants from other businesses are increasing and competition has intensified causing enterprises to take streamlining efforts. As a result, the high-cost structure is beginning to be corrected.

Expansion of strategic alliances and mergers

Secondly, Japanese enterprises have started to venture in strategic alliances and mergers, causing a big change in the industrial structure. For example, five memory semi-conductors companies from Japan, Britain, Germany, and Korea have allied to develop 1-gigabit semiconductors, while an electric power company has allied with an information company in the Internet service business. An electrical equipment manufacturer plans to undertake comprehensive collaboration with a game company. And, a distribution company is preparing for the establishment of a joint venture company in order to embark in the financial clearance business.

The number of M&As involving Japanese enterprises exceeded 700 per year during the bubble economy period, while it declined to some 400 after the bubble’s collapse. Recently, it has been close to reaching 1,000. Of these M&As, those between Japanese enterprises exceed 600 cases currently. Investment by foreign companies in Japanese companies, which was very rare in the past, has almost reached 100 cases.

Reform of corporate management systems

Thirdly, many enterprises are beginning to reform the corporate management system in order to heighten their corporate value. Previously, many Japanese enterprises adopted the so called divisional system under crossholding of shares in order to increase sales and profits. Recently, many enterprises have adopted the so-called "company system" aimed at higher ROA (return on asset) and ROE (return on equity). And, assuming that crossholding of shares is diminishing gradually, realization of EVA (economic value added) by splitting themselves and converting to holding companies is now being focused, while complying with international accounting standards.

As a result, there are many cases of rebuilding business portfolios and making earning management system stricter through introduction of new managerial indicators. In the meantime, demand and supply chainsystems that aggressively utilize networks are being introduced into management. In addition, constant review and improvement of business strategies have begun to be undertaken with further deregulation, technological innovation, or change in customer needs such as protection of global environment, recycling materials, and securing safety.

Evaluation

It is regrettable to learn that if these changes had taken place a few years earlier, Japan’s economic slump would not have been so serious. However, since these new movements have now started in earnest, the Japanese economy seems to be at last getting itself out of the long stagnancy.

5. Long-term structural problems in Japan’s economy

In my view, there are bright signs for the Japanese economy in the short term, however, in the long term, Japan’s economy will face with serious structural problems.

Deterioration of the fiscal structure

One of these problems is the deterioration of the fiscal structure. By the end of fiscal 2000, central and local debts will reach \645 trillion in total, representing 130% of the gross domestic product. If such a situation will continue, "crowding out" will occur, bringing about an increase in interest rates and a slowdown in investments. For the time being, economic recovery must be given top priority, and once its realization has come in sight, financial reconstruction programs must be implemented.

Aging society with fewer children

Another problem is the aging of society with fewer children. It is projected that if the total fertility rate (number of babies born per woman) will continue at its low current level of 1.38, Japan’s population will start to decline by the year 2008, and decrease to 100 million in 2050, then 67 million in 2100. In the meantime, the aging of society will naturally continue. In 2025, one out of four Japanese people will be 65 years or older, making Japan the oldest society in the world.

If this happens, the savings ratio will decrease, interest rates will rise and investment will stagnate, causing a slow down in the growth of the Japanese economy. Japan will have to make a difficult choice of whether it should try to increase its birth rate, introduce foreign worker or enhance its technological power to solve these problems.

Optimum combination of policies

Therefore, Japan is under the pressure of necessity to study an optimum combination of policies from short-term, medium-term and long-term viewpoints. This needs to be studied in detail. However, I think the most important policy in all situations is to enhance education to improve the population's endowments, to establish a social system for heightening human abilities, to pursue technological innovation, and to foster the environment where technological innovation will be linked with corporate vitality.