What ails Japan?

by Michael Zielenziger

Japan hardly makes the front page anymore—except perhaps when there’s a natural disaster, like an earthquake, or when the President of the United States might happen to wander by. So Barack Obama’s visit to central Japan this week for a meeting of the G-7 offers an opportunity to ponder what happened to Japan, and why it matters.

You may be old enough to remember when Americans were fixated with the “threat” emanating from Japan. Japanese giants had bought up Rockefeller Center in midtown Manhattan and the Pebble Beach golf course in California. U.S. carmakers were bedeviled by fuel-efficient and more reliable Japanese imports. American business gurus were convinced that the “Japanese way” encapsulated the proper management tools for the late 20th century. Ezra Vogel’s bestseller Japan as Number One typified the combination of fascination and terror that characterized the feelings of Americans towards Japan some 30 years ago.

Then Japan fell into crisis in 1989 when its real estate and banking bubble simultaneously collapsed, almost overnight. Still, most observers expected that Japan would soon regain its mojo. After all, most countries—even the U.S. after the 2008 financial crisis—seem to find their way back towards growth and revitalization.

So what happened to Japan? Most observers don’t recognize that it’s never really found its mojo again and has been bouncing in and out of recession for most of the past two decades. Deflation, falling prices, and lack of consumer confidence—and consumer spending—have made it difficult for Japan to make up for its “lost decade.”

How bad has the performance been? If you calculate the gap between what Japan mighthave achieved in terms of economic growth if it had sustained a semi-“normal” recovery and the reality of what transpired in two decades, the reality is actually quite startling.

Try this on for size: Take Japan’s GDP in 1996, and multiply it by a modest 2% compound annual growth rate. If you compare that to what Japanese annual economic output actually is today, the gap is about $1.5 trillion dollars. In other words, the equivalent of the twice the entire annual GDP of oil-rich Saudi Arabia has “gone missing” because of Japan’s inability to fix its systemic dysfunction.

Why is Japan is not growing?

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Japan’s working-age population is set to increase just 0.8% over the next decade.

For one thing, Japan is rapidly aging and the population is literally shrinking. Japanese women aren’t having children, in part because many Japanese fathers don’t share in childcare duties and also because Japanese women are finding more opportunities to work, which makes a confining marriage less attractive. More people are dying each year than are being born in Japan so the nation’s population faces inexorable decline.

Other societies might embrace immigration to help build a larger, younger workforce but Japanese believe opening the gates to non-Japanese workers would destroy the sensitive homogenous “culture” of Japanese society—so that remedy is off the table.

Japan has also been exceedingly reluctant to embrace structural reform. When Prime Minister Shinzo Abe took office he promised a bold plan to revitalize the economy. But in reality he encouraged the Japanese currency to weaken in order to make Toyotas and other Japanese exports cheaper for US consumers, and tried to use monetary easing to promote spending.

But he failed to really embrace the “third arrow” of his vaunted policy: fundamental restructuring of an economy that has too many weak corporations that are not competitive, too many small businesses that no longer make profits, and an agricultural sector is protected from foreign imports.

For many years now, productivity growth has been constrained by inefficiencies in a variety of protected sectors, most notably retail and other services. Productivity has also waned in many formerly efficient manufacturing sectors.

Japan also offers a very shallow tolerance for the sort of entrepreneurship and risk-taking that can help stimulate new industries, from software to environmental technology. (Full disclosure: I wrote about a book about Japan’s intolerance for non-conformism called Shutting Out the Sun)

Today Japan’s largest corporations have lots of cash on their balance sheets, but they don’t generally invest them in new factories because they don’t see rising demand; and they don’t give the money back to shareholders as dividends because corporate governance is so weak. And as Japanese age, their savings don’t grow because interest rates in Japan remain below zero.

We used to think of Japan as the nation that built the best automobiles and bullet trains. Now we hear more about corporations whose automotive airbags are dangerous (Takata); whose companies falsify environmental data (Mitsubishi) and whose cleanup plans after the Fukushima earthquake appear to be woefully inadequate (Tokyo Electric).

Yet American maintains a central role in maintaining Japan’s security. We have thousands of soldiers stationed in Okinawa, a crucial port in Yokosuka and a treaty obligation to defend Japan from an attack from, say, China.

Today, instead of worrying about a Japan that may someday be “too strong,” and could overtake the US, we need to worry about a Japan that someday may be “too weak” to really compete, and whose collapse could stagger any global recovery.

The long-term domestic weakness of the Japanese economy is one key reason Prime Minister Shinzo Abe tends to focus on reviving Japanese nationalism, and on increasing Japan’s military spending, even as he tries to weaken a pacific constitution the Americans wrote after World War II that effectively bars Japan from deploying combat troops abroad.

Japan needs more vigorous reform, not less reform, and needs creative leadership that can combat long-entrenched vested interests to allow more entrepreneurship, more opportunities for creative young thinkers, and more “creative destruction.” Calls for heightened nationalism will not fundamentally alter the prospect of long-term stagnation.

So while President Obama should welcome Japan’s willingness to remain a key security ally of the United States in Asia, he should also point out to the Japanese leadership that they can contribute a great deal more to advance the prospects for global economic growth.

Michael Zielenziger is a Managing Editor of Thought Leadership and helps a range of global clients develop new insights and identify opportunities around economic and technological change. He has worked on a range of topics including the impacts of globalization, workforce issues, the interactions of media and technology, the changing US healthcare environment, and the prospects for emerging markets, with a special focus on Asia.