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Briefing Report

Merits and Demerits of Deregulation (Income Gap)

Professor, Department of Advanced Social and International Studies, University of Tokyo
Mr. Ryuichiro Matsubara

[Society] April 11 , 2006

From the 1990s the Japanese economy experienced a recession that dragged on for well over a decade. Those years marked the implementation of various types of deregulation that later came to be known as “structural reform,” in a process that continues at present. Today I will speak about the impact that this deregulation has had on the nation.

The Current State of the Japanese Economy (Expansion Since 2003)

Business activity in Japan is currently said to be brisk, with this trend first identified from around the spring of 2003. In other words, with the government acknowledging the collapse of the bubble economy in 1992, some 11 years would pass before the business scene pulled into recovery. In examining the current economic recovery, there are two distinguishing traits that deserve mention with regard to 2003. The first is the so-called goods market, regarding whether products sell well or not, in which growth in exports was conspicuous. The other is the stock market, where stock prices rose from 2003. Examining the aggregate value of exports as a percentage of Japan’s gross domestic product, we can see that the degree of dependence on exports has risen sharply from around that time. Although the main export destinations in this case are the United States and China, with the value of the dollar pegged between those two countries, this situation would appear to be closely tied in with the dollar exchange rate.

During this time, the Japanese government, and particularly the Ministry of Finance, purchased close to \50 trillion in US treasury bonds at the end of 2003, at a time when the yen appeared to be growing stronger, in order to halt the appreciation of the Japanese currency. This was a fiscal measure that did in fact curb the strong yen and, in doing so, supported growth in Japanese exports. On the stock market, while share prices retreated for close to a full decade in the aftermath of the collapse of the bubble economy, the market finally bottomed out in May 2003. Stocks have been in an upward swing since, while it deserves mention that it was also in May 2003 that public funds were injected into Resona Bank. That policy move triggered purchases of Japanese bank stocks by overseas investors and in fact led to a situation in which the buying extended beyond bank stocks to a truly broad sphere of Japanese equities.

Tracking Japanese stock prices from fiscal 2005 to the present, besides the Tokyo Stock Exchange TOPIX [Tokyo Stock Price Index], there has been a generally gentle rise in the stock price indexes on the stock markets for emerging companies [Mothers, Hercules, JASDAQ] as well. This is evident from the trends in stock trading volume on these new stock markets, with healthy advances posted in both fiscal 2004 and fiscal 2005. This stems from the fact that although for a long time household budgeting in Japan held assets largely in savings accounts, stocks have finally come to be purchased as a matter of government policy. This policy shift was reflected in the increasing ranks of individual investors, with one example being moves by day traders and other personal investors to include Livedoor Co. and other high-profile emerging firms in their household portfolios.

The rise in stock prices made it easier for the banks to write down their nonperforming loans. Considerable progress was made in clearing this bad debt from their books during fiscal 2003, and in contrast to the export-led recoveries seen until then, from around fiscal 2004, and even more so from fiscal 2005, Japan has experienced an increase in domestic demand, with capital investment recording particularly solid expansion at present. Year-on-year growth has also continued upward since fiscal 2003, with the manufacturing industries functioning as the primary locomotive. With regard to the details of this rally, while electrical machinery initially spearheaded the climb, transportation machinery and steel, in that order, have subsequently risen to be the leading industries in the prolonged recovery.

The Relationship Between Economic Policy and the Japanese Economy Today

I want to consider the relationship between Japan’s economic policy of the past 15 years or so and the current state of the Japanese economy. A particular focus of this assessment is a shift in terminology occurring from around fiscal 2000—namely, changing the name of economic policy known as “deregulation” up to then to “structural reform.” There are three areas of this structural reform that deserve mention.

The Content of Structural Reform

(1) Deregulation
The first key area of structural reform is “deregulation.” In the first half of the 1990s, deregulation was implemented for the product and goods markets. From around fiscal 2000, however, market-oriented economic reform was carried out not only on the regulations, economic customs, and other factors existing on the markets for goods, but also on the markets for the production factors of labor, land, and capital used in the creation of products.

(2) Removal of administrative guidance
The second area of structural reform consisted of the removal of the various controls carried out in the form of administrative guidance prior to market transactions. As a result, the markets came to be operated strictly through rule-based controls. This too emerged as a type of administrative deregulation. As one example of this, while the previous approach was to apply administrative guidance to companies suspected of engaging in inappropriate transactions, that practice was effectively thrown out. The Livedoor scandal can be viewed as one example of what this change is capable of spawning.

(3) Shift to “small government”
The third element of structural reform consists of the shift from “big government” to “small government.” This change primarily refers to two key points—cutbacks in the construction of dams, highways, and other public works, and the paring down of government-sector expenditures. Yet, in reality, while the government sector has definitely been retrenched to some degree, under the administration of Prime Minister Junichiro Koizumi it cannot be said that public works projects have truly been scaled back.

In assessing the three policies of structural reform that I have described, I believe it is the first one—deregulation in the three factors of production—that has a direct relationship to the economy today. The goal of this policy relates to the reality that the factors of labor, land, and capital are heavily concentrated in industries with low profitability (depressed industries). Because of this, the idea is to dismantle and weed out these sectors, relocating the labor, land, and capital accumulated there for absorption into high-profitability areas. The economic theory behind this structural reform is that such a shift is consistent with economic principles. The shakeup in the depressed industries was engineered with the focus on the Financial Services Agency, which directed banks to proceed with the write-offs of their bad loans. When this was done, many companies failed or were dismantled. It was believed that this would lead to the release of land held within the depressed industries onto the market, the restructuring of workers, and other moves that did in fact come to pass. This in turn freed up large amounts of land in the central part of Tokyo, sparking a boom in high-rise building construction.

As it turned out, however, the developments moved in exactly the opposite direction of the economic principles originally envisioned under the policy of structural reform. Examining the oversupply or undersupply of regular workers by industry, we find that in the manufacturing sector, for example, there has been a steady glut of manpower over the past five years or so. In short, an oversupply of labor has occurred in the supposedly high-profitability manufacturing industries, prompting restructuring of those jobs. Meanwhile, banking, insurance, real estate, and other depressed industries have been moving to absorb those displaced workers.

Behind this outcome, I believe, lies the fact that as a result of labor restructuring the high-profitability manufacturing industries effectively lowered their breakeven points. This in turn enabled them to lower product prices and use that factor to triumph in competition on overseas markets as they gained a competitive edge in exports. Under this process, therefore, exports increased.

Turning to the solid trend in stock prices, I believe that the original thinking behind structural reform was that the government should engage in absolutely no administrative intervention with regard to either the stock or asset markets. However, with its decision to inject taxpayer money into Resona Bank, the government effectively sent the market the message that “banks will not be allowed to fail.” This fueled the thinking, despite being uncorroborated by the facts, that it was fine to buy up bank stocks, a development which I feel served to buoy share prices as a result.

The Income Gap Problem

Emerging in the aftermath of this trend in recent years has been the problem of the steadily expanding gap in incomes. On this issue, the Ministry of Health, Labour and Welfare [MHLW] conducts a survey once every three years to trace the redistribution of income, with the results of that study expressed by the Gini coefficient as the index. The formula applied is that the higher the numerical value of this indicator, the greater the disparity in income. The latest figure announced by the MHLW for the survey of 2002 was a coefficient of 0.4983, an increase of 0.0263 over the 1999 figure and the highest value ever recorded in this particular study. As a trend as well, the Gini coefficient is charting steady rises, with the Japanese economy now said to be moving away from “equality” and closer to “inequality.”

The MHLW, along with many economists, has sought to explain this figure, reporting that in view of the fact that this trend has been under way since the 1980s, it definitely represents a long-term shift. The basic contention of the MHLW and the government is that this is not the result of expanding income gaps within the same generational segments but rather is linked to the increase in the number of senior citizens, a generation that contains a greater number of needier persons. In other words, the claim is that the income gap is the outcome not of structural reform but rather of the graying of the Japanese population.

I would personally like to add two comments to this analysis. The first concerns the problem of the decline in Japan’s progressive tax rate. In 1986 the nation’s highest tax rate was 70 percent, with the rates of taxation spread out over 15 different brackets. Throughout the 1990s, however, the highest tax bracket in this progressive tax rate scheme was lowered nearly every year, sinking to 37 percent from 1999. In addition to that, since fiscal 2000 income taxes have been cut by about 20 percent.

My second additional comment concerns the increase in the number of persons in the financial industry who comprise Japan’s upper income brackets—a trend that has grown quite conspicuous in recent years. For the past fiscal year, the person with the highest income of any Japanese was an employee for an investment company. I believe that the earning of incomes in the billions of yen, a degree of wealth that does not exist in Japan’s normal income system, is the result of engaging in the “money game” of speculative investment. Effectively endorsing this trend, meanwhile, is the current approach to structural reform that aligns itself with the thinking that there is a need to reform Japan’s financial markets to encourage people to invest in financial assets and not park their money in savings accounts.

Problem: The Dividing Economy

The question remains, however, if the widening of the income gap is really a bad thing in itself. Japan’s opposition parties take the stand that it is negative, but I don’t feel that this is really the case. One indication of this was seen in the House of Representatives election on September 11 last year, when voters in the lower income brackets, often labeled as the “losers” in Japan’s economic makeup these days, supported Prime Minister Koizumi’s structural reforms. The question, rather, is whether or not profits from companies and regions doing well under the current structural reform are flowing to companies and regions that do not find themselves profitable. Properly speaking, when the market is up, and especially at times when the economy is booming, we can expect earnings to flow from leading industries and regions to their counterparts that are not performing so well. This has been the claim, furthermore, behind the current push for structural reform. In the field of economics, this is known as the trickle-down effect. In my perspective, the issues lies in whether or not this trickle-down phenomenon is really taking place or not.

Weakened Trickle-Down

(1) Regional gaps
To examine regional differences, let’s take the Tokai region as a case in point. The focus of this region is Nagoya, and it is also the headquarters of Toyota Motor Corp. and other major companies. With an international airport also having been opened, exports may now be air freighted directly from the Nagoya area to the United States and other destinations. In this region, the ratio of job openings to applicants is extremely high. In sharp contrast, in Okinawa and Hokkaido, and more recently in Aomori, Akita, and other prefectures as well, business is very slow, generating the impression that the gap between specific regions is expanding. One possible reason for this disparity is that public investment is no longer directed to the provincial areas. This is known as the “urban renewal policy.” Another factor has to do with the shift of revenue sources to the outlying areas. This refers to the adoption of a new policy under which taxes collected in Tokyo, Nagoya, and other major urban areas are no longer passed on to the provincial districts. Instead, those localities are told to independently gather tax revenues and carry out their own financial programs.

(2) Employment
Next, examining employment, we can see that a wide gap has opened up between so-called regular employees and temporary workers. In recent years, the movement toward hiring of temporary staffers has strengthened. At the same time, however, the trend for these temporary people to eventually become regularly employed staffers has either leveled off or is in decline. These figures reflect the end of so-called lifetime employment in Japan, and I feel that a number of reasons can be identified for that shift. As one, for example, it has become an increasingly heavy burden for companies to foot the bills for employee pensions. As another factor, in the midst of the advance in corporate mergers and acquisitions [M&A], companies are finding it necessary to raise their share prices to ensure that they will not be readily subject to hostile takeovers. In turn, they must boost their dividends to succeed in this quest, and they have no viable option other than cutting labor costs to open up money for such dividend hikes. I believe that such developments are among the reasons making it impossible for Japanese companies to maintain permanent employment systems.

(3) Corporate scale
Next, there is the problem that corporate judgments on the state of the economy vary by the scale of the companies involved. Within manufacturing industries engaged in exports, larger companies perceive that the business expansion has speeded up the economic expansion. In contrast, small- and medium-sized enterprises [SMEs] lag far behind in their sentiment of any economic recovery. While this trend has always existed to some degree, it now appears to be growing. One key problem impacting this situation relates to the traditional economic practice in Japan for the majority of large companies to maintain long-term business transactions with SMEs. In most cases, however, this approach has been phased out. On top of that, the moves by many of Japan’s large companies to not deal with domestic SMEs at all but rather relocate their plants to China and other overseas locations have also contributed to this gap.

(4) Work volition
To add one more point, in Japan today there is also the problem of the gaps in the volition to work, or with regard to the will to live itself, between workers at companies enjoying good times and other members of the population. I am not sure of the number of unemployed Japanese who have lost their will to look for work and who have recently come to be known as NEETs [young people not currently engaged in education, employment, or training]. I believe it can be said, however, that there are now a certain number of people fitting this definition who were not to be found in the Japan of past generations. On a mildly related point, Akita Prefecture, which I mentioned previously as suffering from extremely poor economic times, is now said to have the highest suicide rate of any region in the world.

Allow me to summarize the points I have made. Claims have been presented that within the policy known as “structural reform” there will be a shift in production factors from depressed industries to sectors that are performing well. In reality, however, this has not been the case, with business recovering in the order of those industries that are able to generate demand from early on. While those industries carried out restructuring programs during the recession, hiring has increased following the business recovery. One key point, therefore, is that there has been no change in the way in which economic recoveries take place in Japan from the patterns seen in the past. As one important conclusion on this type of structural reform and deregulation, therefore, and especially with regard to the move to direct financing being advocated by the government, it is clear that the speculative money game has picked up considerable steam. A particularly important point here has been the decline in stock transaction costs, a factor that is also helping to push up the number of day traders now active in Japan.

In conclusion, it is my view that the energy for the so-called trickle-down effect to occur in the Japanese economy has significantly weakened. Up to now, there has been criticism of various types of regulations and economic customs as serving only to create excessive equality in the economy. To that view, I would counter that rather than those negative points, there were actually numerous aspects within those customs and regulations that generated trickle-down—supporting, in other words, more positive market activity from behind the scenes. Because this side of the equation has weakened, a paradox is occurring in which the market is actually not functioning well despite its simplification. This, I believe, summarizes the state of the Japanese economy today.


QUESTIONS AND ANSWERS

Q: I want to ask about the dango practice of bid-rigging. In the construction industry, regardless of how many times restructuring has been carried out, the bid-rigging practice has dragged on for decades. In Defense Agency facilities as well, bid-rigging has occurred in all contracts and dealings. In the defense field, I believe the reason can be found in the small budgets and low amounts of money available for payment, prompting the desire to split up the limited market pie among all participants to the greatest degree possible. In the construction industry, meanwhile, there is clearly a situation characterized by a glut of companies. Why do you feel this practice drags on?

A: With regard to construction, the industry itself insists that incidents of bid-rigging have declined from this year. Besides this, construction prices have in fact rapidly dropped by a considerable degree. We must ask ourselves, however, if this is really a positive trend or not. Though bid-rigging must naturally be stopped, I find the current fall in construction prices to be quite abnormal. Examining the present state of major general contractors, for example, when these companies land a project, they do not work up the designs in-house but rather farm them all out to small companies. The big guys perform few if any checks of the contents; they simply attach their name and return the drawings to the client. There is a good chance that the recent scandal over faked earthquake-proofing documents stems from this sort of stripped-down work process. Therefore, outside of the natural fact that bid-rigging cannot be tolerated, failure to maintain a certain price level will make it impossible to carry out sound designs, research, and other key parts of the work process. As things stand today, competitive prices have fallen below the ability to maintain this level of expertise. In other words, while bid-rigging is detrimental, over-competition is also an unhealthy state of affairs, with the Japanese economy effectively swinging from one extreme to another.

Q: You discussed the will to work and the will to live. A while back the book Karyu shakai [Downwardly Mobile Society; Atsushi Miura, Kobunsha Shinsho, 2005] became a hot topic of interest. This leads to the question of what will become of people who are working just enough to keep from collecting welfare benefits but don’t feel like striving any harder to get ahead in life. What is the future of such persons, who have generally low volition in life, within the current social fabric? Or, would you say that this cannot be helped and that it is in fact natural for such a class of people to emerge in an economically developed country such as Japan?

A: In discussing the behavior of the lower classes in developed countries, there are the projections, for example, of Karl Marx. Under Marx’s thinking, the banks in the industrialized countries, for instance, are destined to steadily fail and be merged into others, with the corporate sector also being weeded out to consist only of big companies. Within this scenario, economic recession triggers restructuring, which renders it impossible for people in the lower rungs of society to make a living. Those people grow increasingly aggravated with their lot and eventually explode and overthrow the society.

During the decades of the postwar era, Japan was in fact a society different from this Marxian model. Over the past several years, however, the patterns predicted by Marx are coming to pass. In short, we are seeing a steady stream of major mergers. The one point of difference here, however, is that in Japan the people now known as the “lower class” are actually quite satisfied with their lifestyles. Among the developed countries, I find this to be an extremely rare phenomenon. The types of riots recently seen in France, for example, have not occurred in Japan.

I attribute this situation to my belief that Japan became a rather unusual consumer society from the latter half of the 1970s. As a case in point, I cite the phenomenon, which is also a distinguishing trait of Japanese convenience stores, of retailers stocking their shelves with the desired commodities at an extremely swift pace. For a long time, furthermore, the prices of products sold at convenience stores were quite expensive. Emerging over the past decade or so, however, has been the so-called “\100 store,” in which participating stores have moved to dramatically lower their prices while maintaining systems on a par with those of convenience stores. In the case of supermarkets, prices are low but selections are limited. With this \100 market, however, the large number of items gives consumers broad choices, while the prices are kept low in spite of such impressive product lineups. One of the leading stores in this genre is a convenience store chain known as “Shop 99.” With such stores emerging on the scene, therefore, it has become possible to enjoy the amenities of daily life with considerable freedom of choice, not to mention being able to buy the goods cheaply. In this way, therefore, an infrastructure has taken root in Japan under which as long as one lives within these parameters and doesn’t get married, it is possible to maintain a livelihood to a certain degree. I believe this is one key factor that helps to explain the nature of the current lower classes of Japanese society.

Q: I have two questions, the first concerning the Gini coefficient. Is there any figure that expresses the income gaps between persons in the same generation? For example, those now in their 30s or 40s? The second question relates to your comments about the importance of the differences by prefecture or region, and your critical assessment of the fact that the trickle-down effect is not taking place. But isn’t that actually a good thing? For example, I have heard that there are shifts in companies investing in certain prefectures or regions because competition is serving to change the conditions there.

A: For your first question, the Ministry of Health, Labor and Welfare currently maintains that no such figures are available. I would think that gaps are destined to emerge between persons in the same generations from here on, hand in hand with expansion of the so-called performance-based pay systems. Such performance-driven systems have been in use throughout Japan for about two years now, with over 90 percent of companies reportedly adopting that approach as of the previous fiscal year. However, with no data available to support these claims at present, I can only say that it seems likely that gaps will open up between Japanese in their 30s and 40s from here on.

Let me make one other point. In Japan, it is very difficult to “fire” workers from their jobs. Up to now, the approach taken has been to hire lightly, or not at all, after employees retired. With the economy having recovered, however, that state of affairs has largely come to an end. This will be particularly so following the rapid exodus from the labor market of the members of Japan’s baby-boom generation, with the impact of that shift expected to surface from around next year on.

With regard to your second question, I must say that I am halfway in agreement with that opinion. By “halfway,” I want to reflect upon how, in the past, prefectures or regions where the economies were down took action to improve their business conditions. In the majority of cases, there was a trend to copy the fashions, for example, that were popular in Tokyo. The method of imitating what goes on in Tokyo, however, has pretty much run its course. I agree with you, therefore, insofar as the time is right to put a stop to that approach to doing things in Japan. This is because that method threatens to purge the unique traditions that exist in the individual regions of Japan. About 10 years ago, for example, the business community of Kyoto set out to construct a series of high-rise buildings in the central part of that city. This plan met with fierce opposition, and in the end the decision was reached to protect the scenic landscape of Kyoto. As a result, Kyoto is now enjoying a boom in tourism. Therefore, if prefectures that are on hard times at present choose to invest in development that avoids copying the situation in Tokyo, I have high hopes that such action will lead to a new pattern of regional development differing from what we have witnessed in Japan up to now.

Q: I want to ask about the impact of higher crude oil prices on the Japanese economy. Recently the price of crude has gone up anew, with surveys reporting that the majority of Japanese companies are experiencing the effects of this rise. Some experts are also saying that, depending on what happens in the Middle East, prices could go as high as $100 per barrel from here on. If this situation continues, what impact will it have on the positive economic trend in Japan at present?

A: The current business recovery has been driven by exports. In fact, from around the latter half of the 1980s the pattern of improvements in the Japanese economy has always been export led, creating an essential need to somehow or other make the transition to “domestic demand–powered” growth. In that sense, as long as Japan fails to make this change to expanding domestic demand and continues to depend on export-led growth from here on as well, I would expect high crude prices to cause major damage in the Japanese economy. If, on the other hand, domestic demand can be expanded, and in particular if consumption increases from here on, one scenario, in view of the lower savings rate in Japan of late, could be for higher growth in consumer spending as this comes to pass. If that proves possible, and if the Japanese economy does manage to shift to a greater focus on domestic demand, there is a good chance that the impact of higher crude prices will not be as great as many fear.

(END)


* Given on April 11, 2006, at the Foreign Press Center/Japan. This paper is reserved for internal use; any reproduction or quotation is forbidden without prior permission from the FPC. 　　 ©FPC 2006