Shinzo Abe’s ‘third arrow’ set to miss the target of radical reform
Shinzo Abe promised to ‘drill’ into Japan’s vested interests when he announced his growth strategy. But many of the reforms unveiled in June 2014 are vague announcements, far behind the expectations of those who believed that ‘Abenomics’ meant radical liberalisation, deregulation and decentralisation. It appears that the governing Liberal-Democratic Party is using the policy as an instrument to strengthen the nation’s political and military power as well as winning the 2016 general election.
Shinzo Abe’s ‘third arrow’ set to miss the target of radical reform
JAPANESE Prime Minister Shinzo Abe has revealed the details of the ‘third arrow’ of his reform programme after one and a half years in office.
The first two arrows were focussed on monetary and fiscal measures and created a ‘feel-good economy’. Investors - individuals and institutional - were thrilled by quick and easy gains from rapidly rising property and stock market prices.
It took 18 months of committee discussions and backroom dealings to hammer out the third arrow of ‘Abenomics’, the much-anticipated growth strategy
Mr Abe and his leadership team excelled from the start in marketing their programme as the great turnaround after two decades of stagnation, deflation and an increasingly pessimistic mindset.
This included the marketing masterpiece of convincing a nation of savers that a two per cent inflation rate was a desirable goal. Mr Abe succeeded in betting that the majority of the population had simply forgotten the meaning of inflation.
Businesses were delighted as end-market price increases without wage hikes became achievable.
Taking the consumption tax hike in April 2014 by three percentage points to eight per cent as the opportunity of a lifetime, end-market prices often rose by 10 per cent or even more.
The inflation experienced in the major cities is in the range of five to 10 per cent, excluding asset prices.
However, it took 18 months of committee discussions and backroom dealings to hammer out the third arrow of ‘Abenomics’, the much-anticipated growth strategy.
What Mr Abe revealed a year ago was broadly perceived as mini reform, aimed at satisfying very specific interest groups and, at the same time, avoiding serious conflict with traditional supporters of the governing Liberal-Democratic Party (LDP).
Mr Abe responded that these reforms were just a tiny first step and he would ‘drill’ into the vested interests of the winners of Japan’s post-war model - a highly centralised political and economic system governed by a technocratic elite. The industry ministry was the symbol of the ‘iron triangle’, the alliance of government, bureaucracy and big business.
The reform package he revealed in June 2014 does go further, but it is still incremental. Lots of the reforms are vague announcements.
The first group of measures is aimed at ‘regaining Japan’s earning power’ at both corporate and national levels.
This includes enhanced corporate governance rules, a revision of the policy and governance structure of the national pension fund, the acceleration of government procurement from start-up firms, a corporate tax reform and the promotion of robotics in the industrial and healthcare sectors.
The corporate tax reform is likely to have the biggest impact on companies’ profit generation. It aims to reduce the percentage level of the effective tax rate ‘down to the 20s in several years,’ starting in 2015 with first reductions, and to broaden the tax base.
Japan’s corporate tax rate, set at 38 per cent for a large Tokyo-based corporation, is currently well above the global average of 24 per cent. However, fewer than 30 per cent of companies actually pay corporate tax. The rest are unprofitable, able to apply tax credits accumulated from losses incurred during the lean years, or have total profits which are too small to be taxable.
Japan’s tax multiplier - the impact of GDP on tax revenue increase - is, at 0.7, one of the lowest among the OECD countries.
The second group of measures is aimed at creating ‘growth engines’, in particular through enhancing women’s participation and advancement in the workforce, more flexibility in labour regulation, and attracting more foreign talent.
The plan stipulates that more foreign workers be employed in manufacturing, nursing and home support. But the small print shows that the government wants to minimise foreign labour
To enable women to remain at work after giving birth, the programme confirms the plan to provide additional childcare capacity for 400,000 youngsters by 2018. Companies will have to disclose the number of women in executive positions in their financial reports by 2015, but no other specific actions are proposed in this regard.
A deregulation of the labour market remains taboo; the reform package encourages more flexi-time and suggests that employees who earn more than 10 million yen (US$99,000) a year be compensated based only on performance; employers who do not pay overtime to these workers will no longer break the labour law.
The plan stipulates that more foreign workers be employed in manufacturing, nursing and home support. But the small print shows that the government wants to minimise foreign labour.
In manufacturing, the strategy refers to short-term transfers of foreign employees at overseas subsidiaries of Japanese firms; in nursing, the system of employing foreigners as trainees at very low cost until they fail the national exam remains unchanged: and in home support, foreigners may only work in Special Economic Zones (including Tokyo), employed by a private home support service company which is overseen by the local municipality.
The third group of measures is designed to ‘nourish new drivers of growth’. This includes the agriculture and healthcare sectors, traditionally strong supporters of the LDP.
Even the most protectionist members of the agricultural lobby are aware that the current system is not sustainable, as the average age of farmers has reached the late 60s and the young do not want to work in a regulated and inefficient sector.
The key idea of the reform package is to provide young, ambitious, business-minded farmers with efficient plot sizes by further reviewing the rice cultivation regulation which pays producers for not growing crops in order to meet the annual quota set by the government, consolidating fragmented farmland under a state-run organisation and nurturing decentralised decision-making by local cooperatives.
In contrast, the reform of the healthcare sector is small: the sense of urgency is much lower than in agriculture, hence the measures include the creation of non-profit holding systems for medical and social welfare corporations.
Behind this is the old belief of bureaucrats that the consolidation of two weak players creates one stronger player.
Scaling of for-profit medical institutions - such as private hospital chains - remains taboo as private doctors and their clinics, a traditional stronghold of the LDP, might be negatively affected.
All in all, these reforms are far behind the expectations of those who believed that ‘Abenomics’ meant radical liberalisation, deregulation and decentralisation. This has never been the case.
LDP supporters among the technocratic and financial elite in Tokyo - both Japanese and international - keep purporting that the prime minister wants a substantial reform programme, comparable with Thatcherism in the UK in the 1980s. Instead they are pursuing a salami tactic rather than a big bang approach to survive politically.
The large majority of voters still trusts the current system, and feels little or no sense of urgency. Hence the probability of radical reform scenario is very low
However, there is little empirical evidence that Mr Abe or any other powerful LDP politician would choose a path of radical reform. The idea of Japan following the US model in adapting to the 21st century remains a pipe dream as it has practically no support including from most of the business community.
The large majority of voters still trusts the current system, and feels little or no sense of urgency. Hence the probability of a radical reform scenario is very low.
Conversely, one could argue that Mr Abe has achieved what was possible in a mature democracy, where the large majority of a super-ageing population has a comfortable, stable and safe life, and local businesses - especially in services, wholesale, retail, agriculture, healthcare and education - have adapted to the domestic market. Most of these businesses are internationally neither active nor competitive.
There is a lot of talk in Japanese media about ‘change’ and ‘globalisation’, and courageous entrepreneurs such as Masayoshi Son of SoftBank, the telecommunication and internet giant, Hiroshi Mikitani of Rakuten, the e-commerce platform, and Tadashi Yanai of Uniqlo, the clothing retailer, are frequently referred to as role models.
However, these are stories in a traditional Japanese context, told in Japanese, by Japanese, to Japanese. When these entrepreneurs talk about ‘change’ and ‘globalisation’, people agree - under the condition that their life is not affected.
Mr Abe has achieved what he wanted - a feel-good economy based on monetary and fiscal measures and a growth programme targeted at very specific business sectors which do not hurt the vested interests of traditional LDP supporters.
Supporters of this position argue that he is a politician through and through, a scion of a top-level political family. Apart from a short stint at Kobe Steel, Mr Abe has no business experience, and it is widely thought that ideas such as ‘beautiful Japan’ - the motto of his first tenure as prime minister from 2006-2007 - represent his true interests and objectives far more than ‘Abenomics’.
This would also explain why he has given up on his neighbours, China and South Korea. The appeal of the ‘beautiful Japan’ concept might be limited for the majority of the voters, but there is little opposition to it either. The Japanese tend to regard the tensions with China and South Korea as a fact of life - sho ga nai, it can’t be helped.
The LDP understands this sentiment very well, and the continuing high support rates for Mr Abe - consistently above 50 per cent despite the unpopular consumption tax increase - indicate that the party leaders have chosen an effective way to stay in power.
That implies that ‘Abenomics’ is basically a political instrument, not a goal in itself, designed at strengthening the political and military power of Japan as well as winning the 2016 general election.
Hence the most likely scenario is that the recently announced growth measures will be implemented slowly but steadily. Much-needed substantial reforms which would hurt traditional LDP supporters such as the healthcare sector, should not be expected.
Unless financial markets lose confidence in Japan’s ability to service its public debt, the country is likely to keep going until at least 2020, the symbolic year of the Tokyo Olympics.
Many Japanese feel that after that, Japan's situation will become very difficult. An ‘enjoy it while it lasts’ sentiment has become common, particularly in Tokyo.