Bill Emmott - International Author & Adviser


The revival of Japan
Exame - February 2007

In today’s globalised economy, with fast-growing and appealing countries like the BRICs, it is hard being a rich, mature economy like Japan. By comparison to them, you look so dull and ponderous. It is especially hard when you moved so quickly from being the champion of the world in the 1980s, tipped to overtake the United States, to being dismissed as a spent force, stuck in a semi-depression for a dozen years. But the world needs Japan to recover and to grow faster, for we need more sources of demand and innovation in order to stabilise the global economy and avoid relying too much on China, America and India. Right now, Japan looks too weak to play that role. But a visit this month confirmed my belief that the world’s second largest economy is highly likely to surprise us all during the next few years.

            When you think about it, Japan’s situation is almost ideal. It is located right near the fastest-growing and changing markets in the world, namely China, South Korea, India and the rest of Asia, in a region that has about the same overall GDP ($11-12 trillion) as each of America and the European Union but is growing twice as rapidly. Japan is perfectly placed to export to those countries, and is in fact one of the few nations that is enjoying a bilateral trade surplus with China. Japan’s greatest strength is in high technology, with healthy levels of research and development spending (3.5% of GDP, among the highest in the OECD rich-country club), which makes it much more capable of competing with China and India than other rich countries are: its firms are typically at the high tech, high value-added end of their industries, while China and India offer cheap but lower-tech, less sophisticated goods. As Chinese firms move up-market, Japanese firms can continue to stay ahead of them by moving even further up-market themselves, especially in the electronics, automobiles, nanotechnology, biotechnology and financial services sectors.

Yet despite booming trade and investment links with China and the rest of Asia, Japan’s economy has been anything but booming. Stagnant from 1994 until 2002, its government boasts that since then it has enjoyed its longest period of expansion in the post-war period. But that boast is an empty one. It is true in “real terms”, in other words after adjusting for price changes. Japan, however, has been suffering from deflation, ie falling prices and wages. So that has made its real-terms GDP seem to rise even when its actual or nominal growth in output has been slow or even non-existent. Prices are now more or less stable, so healthy nominal growth has been under way for about a year. But it remains fairly weak.

There are two other problems. The first is that Japan’s population is ageing fast and has even begun to fall, very slightly, which means its work force is also shrinking. This will add to the cost burden on companies and (through health and pensions) on the taxpayer. That would be bearable if productivity were growing rapidly, as the wealth thus created would outweigh the extra costs. But so far it hasn’t been. Labour productivity growth has remained stuck at about 1.5-2% a year, the same as in the 1990s, while total factor productivity (output from labour and capital combined) is growing by only 0.9% a year, barely higher than the 0.8% typical in the 1990s. It is no wonder that companies have not been raising workers’ wages, and that household consumption has been sluggish.

Japan’s experience is a special one because its huge financial collapse in 1990-92 was so exceptional. But its slow productivity growth, shrinking labour force and weak wage growth are sadly quite typical of the rich European economies too. Germany is getting credit for faster economic growth in the past few months, but forecasters polled by The Economist reckon that in 2007 it will achieve only 1.7% growth, after 2.6% in 2006. France and the rest of the euro area economies are also doing better at present, but not sufficiently so as to provoke great excitement. The rich old world looks condemned to be dull—and Japan, once definitely a new world country, looks distinctly old.


A helpful fear of China

It may be an old-world country now, but there is every chance that Japan will discover a rejuvenating elixir of new growth. Any investor, or competitor, or supplier of resources who assumes that Japan is doomed to decline is himself doomed to be making a costly mistake.

            Why? Part of the reason lies in purely economic forces. Japan’s economy has disappointed investors during the past year (the stockmarket boomed in 2005, but was pretty flat in 2006) because its domestic demand has been slow to grow. The chief reason for that is that the unemployment statistics were misleading: it looked as if Japan would soon hit a labour shortage and so wages would have to rise, but actually there proved to be a lot of people who had left the labour force and so weren’t counted in the unemployment numbers, but who returned to work during the past year, mainly in low-paid, part-time jobs. These were mainly women and recently retired people, and their return kept wages down. But they will eventually run out. Japan does face the prospect of a labour shortage. And as that starts to bite, it will result in a big corporate drive to raise productivity as well as some willingness to pay higher wages.

            Japan certainly has the capability to boost productivity. It has the technology and the capital, and it is a master at learning from foreign experience, such as from the American productivity boom in 1995-2005. Currently, corporate Japan doesn’t have to do this, as its profits are at record levels and labour remains available. But it will do soon.

            The second reason, though, is political, and is going to turn productivity into a national goal. It is fear of China. For a thousand years, Japan has been afraid of its giant Asian neighbour. For the past century it felt superior to it. Now, nationalism is reviving in Japan in response to China’s growing strength. The Japanese know that the only way to avoid being bossed around by China in Asia is to get stronger themselves, and the way to do that is through productivity and technology. The words are already in common use among government officials. Next, though, they must be turned into action. The world must hope that they are. Faster growth in Japan would be a boon to global growth, but also the most constructive sort of nationalism imaginable.


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