Japan, the System That Soured

by Richard Katz

After seven long years of economic malaise, it is clear that something has gone awry in Japan. Unless Japan undertakes sweeping reform, official forecasts now warn, growth will steadily dwindle. How could the world's most acclaimed economic miracle have stumbled so badly? As this important book explains, the root of the problem is that Japan is still mired in the structures, policies, and mental habits of the 1950s-1960s. Four decades ago while in the "catch-up" phase of its economic evolution, policies that gave rise to "Japan, Inc". made a lot of sense. By the 1970s and 1980s, when Japan had become a more mature economy, "catch-up economics" had become passe, even counterproductive. Even worse, in response to the oil shocks, Japan increasingly used its industrial policy tools. not to promote "winners", but to shield "losers" from competition at home and abroad. Japan's well-known aversion to imports is part and parcel of this politically understandable, but economically self-defeating, pattern. The end result is a deformed "dual economy" unique in the industrial world. Now this "dualism" is sapping the strength of the entire economy. The protection of the weak is driving Japan's most inefficient companies to invest offshore instead of at home. Without sweeping reform, real recovery will prove elusive. The challenging thesis articulated in this book is receiving widespread media attention in the United States and Japan and is sure to provoke continuing debate and controversy.

Genres: Japan, History, Economics

480 pages, Paperback

First published January 1, 1998

Reviews

[Will Smith · Rating 3 out of 5]

Picked this book up in order to better understand Japanese economic history and how their deflationary experience might or might not equate to a similar outcome in the US. The book is pretty much an economics textbook. It is a dense read and is probably only of interest for those on a similar quest. There are many differences between the US and Japan but this book is helpful on the journey of understanding deflation. Notes from the book below. Warning: Spoilers.

Overall, the breakneck speed that Japan saw post WW2 as the economy industrialized papered over many cracks in the system. The author argues regulators allowed trade protections for nascent to stay in place too long. It makes sense to protect industries as they find their footing but ultimately they need to be competitive on a global scale. The Japanese government never pulled back on protection. This stymied competition from imports, allowing domestic producers to be inefficient much too long. High domestic prices were required to subsidize the low prices needed for export. A complex cross governance structure compounded the problem. Regulators encouraged industries to create cartels. They also owned large proportions of each other’s equity (incidentally cross holding of shares are counted towards bank capital reserves which makes the Japanese banks much more vulnerable to downturns as the shares of their peers performs similar to their own). This created a web of misincentives and a structurally uncompetitive economy.

All this has been compounded by poor demographics and skepticism (or hostility) to the outside world. Demographic problems that could’ve been solved by immigration persist. Imports have been met with similar hostility. Consumers are willing to buy foreign products but regulators and cartels keep them at bay. What is imported in Japan is raw material that is then used to produce finished goods at a higher cost then they could be imported for. Japan needs to import more to free up space in global trade so it can export more. Trade also helps TFP which drives growth and requires less investment. This would leave the Japanese consumer with more discretionary income.

Inertia is also seen domestically. Lifetime employment mean many companies aren't free to fully control their costs. As such they seek alternative ways to compete... like forming cartels, blocking imports, or capturing regulators.

Other notes:
Japan Inc: The nickname for Japan’s form of centralized government. Branches of the government are equated to sectors. Whole industries are uncompetitive on a global scale because of the protections put in place by Japan Inc. They’ve never been forced to compete.

Protecting nascent sectors as the economy transitions from agricultural to industrial makes sense but protections need to be removed once they’ve gained the scale to compete globally otherwise the lack of competition stymies efficiency. To fix an entrenched position regulators should prescribe a “heavy artillery” of low cost imports.

Other contributors to deflation
- Poor demographics
- Cartelized industry structures
- Falling inflation expectations
- Captured regulators
- Incestious corporate governance and cross holdings

[Steve Miller · Rating 3 out of 5]

This book is a little dated, but I read it to understand the hows and whys of their economic downturn that has continued since the early 90's. Even with a background in finance, this book was a bit dry and the charts and graphs sometimes made my head spin, but I gained a more thorough understanding of why the Japanese Miracle has come crashing down. There are probably some newer works out there dealing with this subject, probably with differing points of view.

This book was informative, not the easiest read ever, but I'm glad I picked it up.