Japan…yes, Japan

Japan…yes, Japan

So why choose Japan as a “hott spott?” After all, by most

definitions a hot spot would be a place where the potential, or

outright existence, of military conflict is high and of concern to

the U.S. But after looking at the Asian financial crisis of 1997-

98, I think you”d agree that crises of this kind are just as

worrisome, and, in the case of Indonesia, a financial crisis spilled

over into the military realm when we witnessed the removal of

their longtime leader Suharto.

As for Japan, what happens with their economy going forward is

a key to the global recoveries taking shape across the rest of Asia.

If Japan can turn it around, it will only help the others.

The other reason for looking into Japan this week is a purely

selfish one. I had to do a little research on the country for a

newspaper story so as I thought about a topic for the week, a

light bulb went off in my head and I said, “Hey, why not Japan?”

The Japanese economy has certainly received a fair amount of

press over the past few years. The country has suffered through a

severe recession, the result of a classic “asset bubble” from the

excesses of the late1980s. Only in the past year or so have there

been signs that the economy is about to recover. But I would

argue they have a long way to go.

For starters, let”s take a look at the latest government stimulus

package announced just last week. I think this is about #9 in the

past few years. By some estimates the latest plan is worth up to

$170 billion. The economy seems to have leveled off the past few

quarters according to the government”s own surveys. Is this

latest stimulus package the last boost needed to generate

sustainable growth or is it a monumental waste of money?

The problem with all of the stimulus programs is that they have

tended to focus on two areas. Infrastructure, or construction,

projects, and employment and loan subsidies. What these

programs have failed to do in the past is stimulate consumer

spending. The programs typically are a conglomeration of classic

pork barrel projects, designed to ingratiate local politicians with

their constituencies. They tend to favor traditional industries, like

construction, instead of startups. And the loan guarantees prop

up small and medium companies, many of which should be

allowed to fail.

To understand the problems of today in Japan, it is necessary to

take a look at the traditional bureaucracy which has stifled true

economic development. Since World War II, the real power in

Japan has rested with the “Keiretsu.” These are the old-line

classic corporate groupings that controlled the economy. [They

are similar in structure to South Korea”s “chaebols.”]

In the old days there were six giant Keiretsu”s: Mitsubishi, Mitsui,

Sumitomo, Fuji Bank”s Fuyo, Sanwa, and Dai-Ichi Kangyo. Each

one was grouped around a large bank. And each Keiretsu also

included a company from every large industrial sector.

Relationships between the Keiretsu were cemented through cross-

shareholding whereby Keiretsu members would hold up to 60%

of one company”s shares.

This cross-shareholding was seen as a strength because it allowed

companies to take a long-term perspective towards growth. [In

contrast, they would argue, to U.S. companies that had individual

shareholders who were worried about the short-term.]

The bubble years of the late æ80s were the last hurrah for the

Keiretsu system. The lead banks were supposed to be guardians

of corporate governance, but they got caught up in the asset

bubble. Simply put, capital was misallocated on a massive scale

in value-destroying projects. Plants were built when none were

needed. There was an abundance of capacity and this was a

problem that affected the whole of Asia. In addition, the region

was opened up to foreign investment and the “crony capitalists,”

the families or corporate groupings, encouraged the massive

projects that the foreigners, to a large extent, financed.

Well, you know what happened. The economies in the region

collapsed. In Japan, workers who had long been used to career

employment, literally sticking with one company for their lifetime,

suddenly found themselves without work. A tremendous feeling

of uncertainty over the future enveloped the nation. And the

people stopped spending, thus adding fuel to the crisis.

Today, Japan is finally taking the first steps to straighten out their

problems and they have begun to address the structural issues as

well. The banking system, which is loaded down with about $1

trillion worth of bad debt (it”s very difficult to get an exact

figure…trust me, it”s a lot), is beginning to reform itself and the

government has set up a fund specifically for closing down non-

performing banks and merging those who are in a position to

survive. Three big bank mergers have already taken place: Fuji

Bank, Dai-Ichi Kangyo and IBJ; Sakura and Sumitomo; Asahi

and Tokai; with many more to follow. The big banks are cutting

back on their lending and they are adopting more rational overall

lending criteria. They are also now trying to maximize profits.

The structure of the Keiretsu”s has changed, forever, since the

lead banks have scattered all over and the practice of cross-

shareholding is being greatly reduced, if not abolished in some

cases.

But you might be asking yourself, if the banks are drastically

curtailing lending, what does that mean for a businessman looking

to get a loan? It means that many of the struggling businesses

would be doomed to fail if they couldn”t receive any capital to

stay afloat. But it”s restructuring of this kind that is most needed.

We went through this gut-wrenching process in the U.S. in the

early æ80s and look where we are today. Let the poor-performing

companies go by the wayside in order to make more room for the

strong. Cull the herd. Except the government keeps stepping in.

As I mentioned in the beginning, the government”s latest stimulus

program continues the practice of loan guarantees to small and

mid-size corporations. In the long run, these kinds of subsidies

are counterproductive. And the government keeps wondering

why the people don”t spend.

The Japanese don”t spend because they see no real vision for the

future. The government doesn”t seem to be able to come up with

a plan for wealth creation. They keep trying the same old

hackneyed solutions. A little public works subsidy and some

social welfare there.

And when it comes to the government, some of the past policies

have been downright idiotic. Back in 1997 the government

actually raised the consumption tax at the height of the recession.

Then the economic turmoil across Asia hit all at once. And today

it”s possible that the government will interfere again.

It seems that Prime Minister Obuchi is afraid that his ruling

coalition is falling apart. While he doesn”t have to call for new

parliamentary elections until next October, he may call for them

sooner, in effect saying that he doesn”t stand a chance of staying

in power if he waits until next fall.

Obuchi is not a reformer. The moves his government have taken

so far are minimal (but admittedly important). Sentiment is,

however, ever so slowly beginning to improve. But here is the

crux of the matter. Business sentiment is improving but business

investment is still trending down because there is still a

tremendous amount of excess capacity and excess employees.

And the Japanese people still feel it”s best to hoard their cash

instead of going shopping.

It”s possible, though, that the global recovery which is beginning

to take shape in places like South Korea, Thailand and Malaysia,

will pull Japan along for the ride. [It”s important to note that the

recovery is still fragile.]

No, the only real way that Japan will resume a path of sustainable

growth is through a combination of loose fiscal policy (which

hasn”t worked, yet) along with a firm policy of corporate

restructuring. Japan still must go through some wrenching

societal changes. They have taken some solid steps, like in

banking and financial services reform, but there is a long way to

go and politics keeps stepping in the way.

Finally, there is the curious case of the government”s statement

last week that the citizens should stockpile food, water, fuel and

medicine in preparation for Y2K. No other government that I”m

aware of has issued a warning of this kind. So one can draw only

two conclusions. First, the government feels that they really do

have structural problems facing them come January (and the U.S.

had warned Japan last spring to get their Y2K house in order) or

second, that the government is trying to stimulate consumption.

There are also a lot of other major issues that will have to wait for

another day. Items like Japan”s aging population, coupled with a

declining birth rate, which is bound to place a severe strain on the

social services and pension systems. Then there is the situation

on the Korean peninsula and the “games” that North Korea has

been playing the past few years, firing missiles over Japan, scaring

the hell out of them. Plus there is the ever present issue of

organized crime in Japan. I might hold off on this last one for

awhile, if you catch my drift.

Next week I am going to embark on a rather politically sensitive

issue as I begin to explore the foundation of the religion of Islam

and what it has to do with today”s hot spots.

Brian Trumbore