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(06/26/2001 - Murakami) Economic Recovery in Japan: Figure the Odds

Economic Recovery in Japan: Figure the Odds
By Hiromi Murakami
26 June 2001
The Daily Japan Digest

Those who are waiting for a sustainable economic recovery in Japan to help the global economy, should not hold their breath. Japanese leaders have been notoriously unwilling to take the bold, courageous steps needed to save their sinking economy, and while Prime Minister Koizumi appears to be a champion of structural reform, he simply does not have the stable power base needed to execute his reform policies.

Heading for China: Meanwhile, many of Japan's most efficient and competitive manufacturing firms--leading engines of economic growth--are heading for China in order to survive. Matsushita Electronics, for example, has opened digital communications R&D facilities in Beijing. Fujitsu, NEC, and Hitachi recently announced plans to increase production in China, and Toyota launched its first joint production with a Chinese automaker last year.

Such behavior is not unusual, of course. In 1995, when the exchange rate reached a record Yen 79 to the dollar, many Japanese firms fled to Southeast Asia in search of cheap labor that would let them continue exporting to the United States. What is significant about the current exodus, however, is the damaging effect of Japan's ongoing structural impediments, which restrict or harm the competitiveness of its more cost-efficient firms and thereby ensure that growth-generating industries will move abroad.

Put simply, Japan is not a friendly environment for growth industries. The manufacturing sector is efficient, flexible, and innovative, but it is hampered by exorbitant energy prices, high wages, and a heavy regulatory burden. The legal process for obtaining patents is still lengthy and burdensome. Subsidized, state-owned firms still dominate certain markets, and protected industries remain exempt from the Anti-Monopoly Law. Moreover, Japanese employment customs prevent firms from laying off employees, and pension laws keep workers from changing jobs.

Lucrative Market: By contrast, Japanese industry is discovering significant advantages in China. For starters, the emergence of a Chinese middle class promises a lucrative market, especially for electronics. Moreover, inexpensive engineers are more readily available on the mainland, and production quality is beginning to exceed that in Japan.

Granted, there are risks, like widespread violation of intellectual property rights. But even those are outweighed by the high cost-structure and business-unfriendly environment at home. There is more than a little irony, for example, in the success of Uniqlo, a Japanese apparel firm that shifted production to China and is able to sell Japanese consumers clothing of quality equal to brands made at home, but at less cost.

In sum, Tokyo policymakers need a wake-up call. About 30% of Japan's GDP, and 20% of employment, are generated by manufacturing. The loss of these longstanding engines of growth will have a profound effect on the Japanese economy. Nevertheless, for the sake of short-term political advantage, the bureaucrats and politicians continue to protect inefficient, uncompetitive service industries--construction, utilities, distribution, retailing, medical and financial services--at the expense of efficient, competitive, growth industries. The inevitable result is high prices and low demand--and no likelihood of sustainable recovery.

Out of Date: Tokyo must stop making excuses for its economic woes and recognize that the dual economic structure is no longer sustainable. While Japan has stubbornly continued to rely on exports--along with a closed market, fiscal infusions, and a depreciated yen--its Asian neighbors have already recognized that the export-led growth model is out of date, and have begun to make appropriate structural shifts. Japan needs to follow suit. Along the lines of the 1986 Maekawa report, the Japanese market system needs to be made more open and transparent in order to encourage the entry of growth firms, a more competitive environment, lower prices, the expansion of domestic demand, and global investment.

This means, of course, that Japanese politicians and bureaucrats will have to risk their political well-being and inflict considerable pain on their core constituency. Prime Minister Koizumi seems intent on giving it a conscientious effort, but he will face stiff resistance from the LDP elders. Suffice it to say that, until the day structural reform is begun in earnest, the geese that lay the golden eggs will be flying across the Sea of Japan--and the global economy may want to pin its hopes somewhere else.

Hiromi Murakami is Research Associate at the Economic Strategy Institute in Washington

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