Japan in Crisis

S. Javed Maswood
International Political Economy Series
General Editor: Timothy M. Shaw, Professor of Commonwealth Governance and
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Titles include:

Pradeep Agrawal, Subir V. Gokarn, Veena Mishra, Kirit S. Parikh and Kunal Sen
POLICY REGIMES AND INDUSTRIAL COMPETITIVENESS
A Comparative Study of East Asia and India
Roderic Alley
THE UNITED NATIONS IN SOUTHEAST ASIA AND THE SOUTH PACIFIC
Dick Beason and Jason James
THE POLITICAL ECONOMY OF JAPANESE FINANCIAL MARKETS
Myths versus Reality
Mark Beeson
COMPETING CAPITALISMS
Australia, Japan and Economic Competition in Asia-Pacific
Deborah Bräutigam
CHINESE AID AND AFRICAN DEVELOPMENT
Exporting Green Revolution
Steve Chan, Cal Clark and Danny Lam (editors)
BEYOND THE DEVELOPMENTAL STATE
East Asia’s Political Economies Reconsidered
Abdul Rahman Embong
STATE-LED MODERNIZATION AND THE NEW MIDDLE CLASS IN MALAYSIA
Dong-Sook Shin Gills
RURAL WOMEN AND TRIPLE EXPLOITATION IN KOREAN DEVELOPMENT
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INDUSTRIAL TRANSFORMATION IN EASTERN EUROPE IN
THE LIGHT OF THE EAST ASIAN EXPERIENCE
Takashi Inoguchi
GLOBAL CHANGE
A Japanese Perspective
Dominic Kelly
JAPAN AND THE RECONSTRUCTION OF EAST ASIA
L. H. M. Ling
POSTCOLONIAL INTERNATIONAL RELATIONS
Conquest and Desire between Asia and the West
Pierre P. Lizée
PEACE, POWER AND RESISTANCE IN CAMBODIA
Global Governance and the Failure of International Conflict Resolution
S. Javed Maswood
JAPAN IN CRISIS
Ananya Mukherjee Reed
PERSPECTIVES ON THE INDIAN CORPORATE ECONOMY
Exploring the Paradox of Profits
Cecilia Ng
POSITIONING WOMEN IN MALAYSIA
Class and Gender in an Industrializing State
Ian Scott (editor)
INSTITUTIONAL CHANGE AND THE POLITICAL TRANSITION IN HONG KONG
Mark Turner (editor)
CENTRAL–LOCAL RELATIONS IN ASIA-PACIFIC
Convergence or Divergence?
Fei-Ling Wang
INSTITUTIONS AND INSTITUTIONAL CHANGE IN CHINA
Premodernity and Modernization

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Japan in Crisis
S. Javed Maswood
School of International Business and Asian Studies
Griffith University
Nathan, Brisbane, Australia
© S. Javed Maswood 2002
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Contents

List of Tables vii

List of Abbreviations viii

1 Introduction 1
Economic stagnation in Japan 3
Structural adjustment in Japan 5
The Asian financial crisis 9
The Asian crisis as a catalyst for change in Japan 12
The structure of this book 16
2 Economic Stagnation in Japan 17
From a Japanese bubble to an Asian bubble 24
The Asian crisis and the Japanese economy 28
Explaining the failure of economic recovery packages 30
Conclusion 36
3 Financial Reforms in Japan 39
Crisis in the Japanese financial sector 40
Banking sector reforms in Japan 46
Regulatory controls and surveillance 54
Bank reform and persisting economic weakness 56
Conclusion 61
4 Corporate Reforms 62
Main features of the J-firm 63
Corporate reforms and convergence 68
Corporate reform in Japan 74
Conclusion 83
5 Regulatory Reforms 87
Regulatory politics in Japan and the United States 88
Regulatory reforms in Japan 93
Bureaucratic opposition to deregulation and reform in Japan 96
Structural reform in the context of Japanese party politics 97
Prime Minister Koizumi and Japan’s reform agenda 106
Conclusion 113

v
vi Contents

6 Japan’s Regional Economy and the Asian Monetary Fund 115

The Asian crisis as a foreign policy opportunity 119
Japanese aid to crisis countries 125
The Asian Monetary Fund 128
American rejection of the Asian Monetary Fund 132
The AMF revisited 136
Conclusion 142

7 Conclusion 144

Notes 155

Bibliography 168

Index 172
List of Tables

2.1 Official discount rates in Japan 24

2.2 Bank lending to emerging Asian markets at end June 1997 26
3.1 1998 Upper House election results 44
3.2 Bank support and restructuring goals 54
4.1 Corporate failures in Japan 70
4.2 Company restructuring in Japan 80
5.1 Amakudari in selected Japanese industries 97

vii
List of Abbreviations

ADB Asian Development Bank

AMF Asian Monetary Fund
APEC Asia Pacific Economic Cooperation
APT ASEAN Plus Three
ARC Administrative Reform Commission
ARF ASEAN Regional Forum
ASEAN Association of South East Asian Nations
CCL Contingent Credit Lines
CEFP Council on Economic and Fiscal Policy
CEM Comprehensive Economic Measures
CPSU Communist Party of the Soviet Union
DIA Deposit Insurance Agency
DPJ Democratic Party of Japan
DSP Democratic Socialist Party
EAEC East Asian Economic Caucus
EOI Export-Oriented Industrialization
EPA Economic Planning Agency
FDI Foreign Direct Investment
FDIC Federal Deposit Insurance Corporation
FRC Financial Restructuring Commission
GATT General Agreement on Tariffs and Trade
GDP Gross Domestic Product
IMF International Monetary Fund
ISI Import Substitution Industrialization
JNR Japan National Railway
JSP Japan Socialist Party
LDP Liberal Democratic Party
LTCB Long-Term Credit Bank
NLC New Liberal Club
NPL Non-Performing Loans
OPEC Organization of Petroleum Exporting Countries
PKO Peace Keeping Operations
RRC Regulatory Reform Committee
RTC Resolution Trust Corporation
SDPJ Social Democratic Party of Japan
UK United Kingdom

viii
 List of Abbreviations ix

UNCLOS United Nations Law of the Sea Conference

US United States
WTO World Trade Organization
1
Introduction

At the end of the Second World War the Japanese economy lay in total
ruin. Remarkably, however, recovery was rapid and growth rates exceeded
even the ambitious official targets. In the early 1960s, a government plan
to double national income over a ten-year period forecast annual GDP
growth of around 7 per cent. This was dismissed as unrealistic by most
observers but economic growth in the decade averaged 10 per cent a year.
Even more impressive was the unlikely combination of high growth and
equitable income distribution. In general, periods of high economic
growth tend to widen income differentials but the Japanese experience
was markedly different. Not without some justification, analysts have
used the term ‘miracle economy’ to highlight Japan’s unparalleled eco-
nomic achievements during the 1960s.
In the 1970s the Japanese economy continued to perform better than
those of other industrialized countries, despite a severe economic shock.
A sudden quadrupling of crude oil prices in 1973 by the Organization of
Petroleum Exporting Countries (OPEC) led to sustained stagflation1 in
most western countries, but Japan recovered quickly after only one year
of transitional poor economic growth despite its greater resource depend-
ency and vulnerability to oil supply uncertainties. Similarly, in the 1980s
the Japanese economy adapted quickly to a higher value of the yen and
exporters regained their international competitiveness after a brief period
of adjustment. Until the early 1990s, the Japanese economy appeared to
gain strength from adversity and with only the slightest hyperbole ana-
lysts speculated that Japan might overtake the United States as the lead-
ing world economy. Such predictions were based on trend lines for the
two countries.
The trend lines, however, were reversed in the 1990s and the past no
longer served as a prologue to the future. Economic performance in the

1
2 Japan in Crisis

West was exemplary. Led by the US, most western economies enjoyed
high growth rates and a boom in equity markets. Japan, by contrast,
remained mired in a Great Stagnation. The turning point for Japan was
the collapse of the bubble economy. Not only did growth falter but
Japan also experienced record levels of unemployment. Though in earlier
decades it would have been hard to imagine such a thing occurring, at the
end of the 1990s unemployment levels in Japan had risen above those in
the United States. The new millennium had been assumed to be going to
belong under Japanese and East Asian hegemony, but when it began any
hint of a Pax Nipponica had long been forgotten. Instead, analysts puzzled
over prolonged economic stagnation and wondered when Japan might
regain its economic vitality. In the space of ten years, Japanese success
had turned to failure and the ‘failed’ economies of the West had become
the new economic dynamos of the world.
The Japanese government reacted to its economic crisis with massive
injections of public funds but failed ultimately to revive growth. The gov-
ernment continued its pump-priming activities throughout the decade
with investments in infrastructure and major construction projects but
these produced only modest results in terms of growth. Instead, fiscal
profligacy succeeded only in exacerbating an already high public sector
debt. In early March 2001, Finance Minister Miyazawa Kiichi made the
candid admission that Japanese public finances were on the verge of a col-
lapse. This statement immediately triggered a sell-off of the yen, and
Miyazawa was blamed for his lapse in political judgment. Whether or not
he was correct to openly acknowledge the state of the government’s
finances, the fact that public sector debt had risen to 130 per cent of GDP
pointed to the veracity of his assessment. Other negative indicators
included sluggish consumer spending and the dramatic fall in the share
market index in March 2001 to levels predating the bubble economy.
Indeed, in the first quarter of 2001, the Japanese economy actually went
backwards. The economy was poised for further deterioration if the newly
appointed government of Prime Minister Koizumi Junichiro followed
through on its pledge to slash public sector spending in order to balance
the budget and reduce public sector debt. The prime minister’s other stat-
ed objective of introducing structural reforms threatened more hardship
for the people in the immediate future, even if these were necessary to
recreate the bases for long-term growth. Remarkably, though, despite
warnings of more economic hurt, Koizumi’s popularity rating reached a
high of about 80 per cent, a reflection perhaps of the promise of long-term
sustainable growth and an end to the decade-long frustration with eco-
nomic stagnation. Regardless, in mid-2001 economic growth seemed at
 Introduction 3

best to be a distant possibility. In late July 2001, the ruling coalition led by
the Liberal Democratic Party achieved an unlikely victory in elections for
the Upper House of the Japanese Diet and to the extent that this strength-
ened Koizumi’s determination and mandate to introduce reforms, the
stock market took a turn for the worse in anticipation of short-term eco-
nomic slowdown and difficulties.
Structural reforms, deregulation, and resolution of a festering financial
crisis are all critical elements of removing obstacles to growth and coping
with the challenges of economic globalisation. Expectations were high that
Prime Minister Koizumi would succeed where his predecessors had failed
but throughout the second half of 2001, the Japanese government was
strong on rhetoric but indecisive in action.
In early 2002, the prospect of structural reform seemed more remote
than before as the Prime Minister became distracted by instability within
the Cabinet. The popular but inept Foreign Minister, Tanaka Makiko, cre-
ated fresh controversy over reforms of the Ministry of Foreign Affairs and
the exclusion of some NGOs (non-governmental organizations) from a
Tokyo summit to organize financial assistance for the reconstruction of
Afghanistan. The Prime Minister was forced to remove her from Cabinet
but this had an immediate impact on his own approval rating, which
dipped below 50 per cent. Amid deteriorating economic conditions, equi-
ty markets sensed a lack of direction and this instigated a slide in share
prices. In early February 2002, the Nikkei average of 225 listed companies
had declined below 9,500, the lowest point in about 18 years.

Economic stagnation in Japan

Economic stagnation in Japan did not have a single cause and there were
no simple and easy remedies, but throughout the decade of the 1990s the
government continued its emphasis on fiscal stimulus packages. Even
after analysts began focusing on structural impediments to growth, the
Japanese government continued to rely primarily on fiscal measures to
stimulate the economy. A government that had previously been lauded
for successful state intervention in the economy and for implementing a
coherent industrial policy suddenly seemed unprepared to accept hard
policy choices to reverse the spreading rot.
In the middle of worsening economic conditions, the Asian crisis of
1997 jolted the Japanese government sufficiently to try additional meas-
ures. The government of Prime Minister Obuchi Keizo embarked on an
ambitious plan to deal with a banking crisis that had resulted in a domes-
tic credit squeeze. As government-sponsored reforms began the slow
4 Japan in Crisis

process of rehabilitating the financial and banking industry, the indus-

trial sector also began corporate reform and rationalization to regain lost
international competitiveness. However, rather than introduce extensive
restructuring, actual measures were patchy and inadequate. The same can
also be said of the half-hearted governmental attempts at regulatory
reforms. A large part of the blame for continued economic stagnation
can be attributed to political leaders who, apart from Prime Ministers
Hashimoto and Obuchi, failed dismally to appreciate the depth of the
problems and banked instead on time and good fortune to ride out the
storm. Prime Minister Mori in particular proved to be not only ineffec-
tual, but by backtracking from the reform agenda of his predecessors
added to economic uncertainty and pessimism.
In March 2001 the government unveiled its thirteenth stimulus package,
but given the state of public finances the main measures were designed to
encourage householders to draw on their savings and boost consumption
demand rather than use public works spending to spark economic activity.
Low consumption demand has deeply rooted historical antecedents, but in
the 1990s could be attributed also to uncertainties about future economic
conditions and employment prospects. Moreover, the state of public
finances did not inspire public confidence that the government would con-
tinue to provide necessary programmes and services for the retired. This was
an additional incentive for workers to maintain a high savings profile. As an
indicator of sluggish consumer demand, total retail trade in Japan dropped
from Y145644 billion in 1997 to Y135149 billion in 1999, with particularly
sharp falls in sales of motor vehicles, and apparel and accessories.2
Paradoxically, if future uncertainties were a factor in curtailing consump-
tion demand, there is evidence also to suggest that Japanese consumers were
not necessarily overwhelmed by a sense of crisis, and that public ambiva-
lence and an absence of strong societal pressure allowed the government to
avoid timely and decisive action. Ordinarily, a rapid drop in share prices as
happened in Japan would be expected to create panic, but the average con-
sumer remained relatively unaffected because of low levels of individual
and household participation in the stock market. Japanese shares are largely
held in cross-share holding arrangements among a group of companies and
only a small portion are actively traded by individual shareholders on the
stock exchange. The concern for many Japanese and for the government,
however, was that an undervalued share market exposed Japanese corpora-
tions to hostile foreign takeovers at bargain prices. In reality, foreign acquisi-
tion proved not to be an entirely negative outcome because foreign owners
were able to aggressively introduce necessary rationalization strategies to
restore companies to international competitiveness.
 Introduction 5

The Asian crisis was a shock to the Japanese economy and produced an
initial flurry of activities, especially in strengthening and restructuring
the financial sector. In that respect, at least, the crisis was a catalyst for
change. It did not, however, lead to any immediate and thorough reforms
to achieve sustainable recovery. This may have been because the worst of
the regional crisis was over in a relatively short period and early signs of
growth returned in less than two years. In Japan and in East Asia the
resumption of growth engendered a degree of complacency and removed
the urgency that was necessary to reform and to remedy the obstacles to
growth. Japanese recovery was short-lived, but by then the urgency had
dissipated. Still, the Asian crisis was significant in that it facilitated partial
financial sector and regulatory reforms in Japan that might otherwise
have been further delayed. Credit for this belongs to Prime Minister
Obuchi, who confounded his critics by being more resourceful and deter-
mined than his predecessor, who had projected an image of progressive
dynamism. Even if the Asian crisis was not ‘the main factor in Japan’s
financial sector problems coming to a head in 1997–98’,3 it still was sig-
nificant in that it occurred at a bad time for the Japanese economy.
Estimates of bad loans in the financial sector had almost tripled from Y 30
trillion in 1996 to Y 83 trillion in 1998, making it impossible for the gov-
ernment to persist in a policy of using bank profits generated in Asia to
write off bad loans. It also stymied the capacity of the Japanese Ministry of
Finance to continue the ‘convoy approach’ of not allowing bank failures,
and reinforced low consumer spending patterns. Ultimately, the response
of Obuchi’s administration was inadequate, but that was because the
worst of the crisis ended quickly and because his untimely death in office
stalled the reform initiative. Structural reform is difficult in the best of cir-
cumstances and was perhaps harder in Japan because it was difficult to
accept that the past formulas of success had become liabilities. The new
realities required a paradigm shift but one which proved difficult to
accept and to implement.

Structural adjustment in Japan

The inverted performance of Japan and most western economies in the

1970s and the 1990s reveals the inability of Japanese policy-makers to
make fundamental yet necessary structural adjustments in the absence of
a sharp and severe external shock. As described below, this is not without
parallel in Japanese history.
Fundamental structural reform is difficult for any country. This is
largely because structural reforms impose real costs on society and impose
6 Japan in Crisis

hardships on those unprepared for the changes. Like any public policy
initiative, reforms benefit some and disadvantage others and the ability
to sustain a reform-oriented public policy depends on government cap-
acity to create a coalition of support or to secure the support of the disaf-
fected through redistributive policies. However, since redistribution
rarely provides full compensation, reforms inevitably generate political
opposition. Understandably, wherever possible, governments seek to
avoid the pain of structural adjustment.
For instance, it is clear that trade liberalization imposes costs on some
sectors of the economy but instead of forcing structural adjustment to
phase out uncompetitive industries, governments frequently resort to
protectionism as an easier and less painful alternative. Similarly, recent
experiences with IMF structural adjustment programmes also highlight
difficulties that countries encounter in implementing mandatory reform
policies. There are numerous examples of countries signalling a commit-
ment to reform and then backtracking because of high political and
social costs. Still, countries do manage reforms. Western countries such as
the United Kingdom, the United States and Australia did introduce major
reforms in the 1980s and 1990s to improve economic efficiency and
enhance international competitiveness. There were considerable costs
associated with these reforms, such as loss of employment opportunities
and exacerbation of income inequalities, but conservative governments
rushed through reforms, claiming an electoral mandate to do so.
The costs of structural reform explain its infrequency and not only in
Japan. The general pattern of Japanese historical progression can be char-
acterized as ‘punctuated equilibrium’, where stability is upset only in
exceptional circumstances. Japan appears to find it more difficult than do
other countries to reform institutions, processes and structures on its own
initiative. If a generalization can be made, it is that Japan adapts well and
reforms poorly. The Japanese corporate sector has adapted well to exoge-
nous shocks, as for example following the appreciation of the yen in the
late 1980s. The exchange rate adjustment eroded Japan’s export competi-
tiveness and there were predictions of a ‘hollowing-out’ of Japanese man-
ufacturing, as industry relocated to cheaper production platforms in East
Asia. There was some transfer of capital but no overwhelming exodus of
industry from Japan and the gloomy scenario proved overly pessimistic.
Instead, many industries were able to adjust to the exchange rate shock
and Tsubame, a small town on the Japan Sea coast manufacturing stain-
less steel flatware for the export market, exemplified this process. At the
higher value of the yen, Tsubame’s exports were no longer competitive
with cheaper stainless steel knives and forks manufactured in South
 Introduction 7

Korea and elsewhere and the worst-case scenario was that small regional
towns like Tsubame would become industrial wastelands. In the end,
however, Tsubame’s small-scale industries, with the help of government
assistance, moved up the technology ladder and began manufacturing
small consumer electronics. The appreciation of the yen did destroy an
established industry at the low end of the technology spectrum, but
successful adjustment enabled small communities to negotiate the crisis
and remain in manufacturing. Adapting to a specific environmental
change, such as exchange rate movements and oil crises, is seemingly eas-
ier than fundamental reform in response to diffuse and general shifts in
environmental parameters.
In the 1990s, economic globalization had exposed limitations of
Japanese regulatory structures, constraints of management practices and
competitive weakness of sections of Japanese industry, especially the
financial sector. Still, public and private decision-makers were unable to
discard trusted formulas of the past and to make fundamental changes.
An inherent obstacle to structural reform in Japan is the relatively large
and influential role of the bureaucracy in policy processes. This is prob-
lematic simply because bureaucracies are averse to change and have an
inbuilt preference for stability and order, conditions that are ideal
for managing issues based on standard operating procedures. As such,
Japan’s poor record in reform can be attributed largely to bureaucratic
policy-making and the inability of political leaders to assert leadership.
The secretary general of the OECD, Donald Johnston, has remarked that
‘Responding to this [reformist] challenge requires leadership from Japan’s
politicians ... Without reform, our conclusion is that Japan will never be
able to fully enjoy the benefits of the world’s new economic environ-
ment.’4 Reforms are necessary to inject greater competition within the
Japanese economy, but as Edward Lincoln points out, the Japanese
bureaucracy is deeply committed to ordered markets and extremely suspi-
cious of unregulated, presumably chaotic market conditions. Its pen-
chant for order extended to regulations governing the location of liquor
stores based on population density so that each store had its own territory
and was not in competition with another liquor store in the area.5
Bureaucratic politics, in a democratic setting, implies a separation
between formally elected politicians, who ‘reign’, and the unelected
bureaucrats, who effectively ‘rule’. Although Japan today can be charac-
terized as a bureaucratic polity, the separation between those who rule
and those who reign is constantly repeated in Japanese history. Thus,
despite being reigned by an unbroken imperial lineage, actual political
power and authority in Japan has tended to reside elsewhere, whether in
8 Japan in Crisis

the Fujiwara clan, the Kamakura Bakufu, the shogun, or the Satsuma-
Choshu clique, at different times in Japanese history.6 This separation
between formal and real authority has deprived Japan of decisive leader-
ship and initiative in bringing about change. The present situation is
worsened by the dominance of a bureaucracy, which has entrenched
interests in maintaining the status quo rather than in introducing sub-
stantive change. In earlier periods as well, those who governed Japan had
a commitment to the status quo, as during the 250-year rule of the
Tokugawa shogunate, but the shogun proved himself willing to repeal
isolationism and introduce radical reform when the existing situation
became untenable and when confronted by a major international chal-
lenge.
Unlike other countries, Japan has always been a poor reformer, chang-
ing only after a sharp shock to the system, such as the arrival of American
warships off the coast at Tokyo in the mid-nineteenth century. This
resulted in a radical reorientation of Japan’s economy and politics in
order to avoid western subjugation and colonization. The objective of
reforms at this time was to renegotiate the so-called ‘unequal treaties’,
which forced Japan both to surrender trade sovereignty and grant extra-
territorial privileges to western treaty partners. Japan transformed itself
within a short period of three decades, renegotiated the treaties and
emerged as a major world power. Another radical transformation took
place after Japan’s defeat in the Second World War, when the occupying
Allied forces remade Japan to reflect liberal political and economic prin-
ciples. The shock of defeat had deprived the previous militaristic regime
of its domestic legitimacy and the Japanese people readily accepted the
imposed reforms. The foreign powers, expecting major domestic resist-
ance, were pleasantly surprised by the ease with which the Japanese
accepted the new structures. In each of these two instances, the readiness
to embrace reforms can be attributed to a sense of acute national crisis,
which eroded the legitimacy of the old regime and created a basis for its
transformation.7
With that historical pattern, I argue that the Asian financial crisis of
1997, as mediated through large-scale bankruptcies in Japan, had a similar
if less enduring impact on Japanese policy-makers and facilitated the long-
delayed process of reform and restructuring. Others8 have pointed out
that the debate on reforms began in the early 1990s, but I will argue that it
was only in the post-Asian-crisis phase that key actors in Japan agreed,
albeit loosely, on common purpose and objective. Prior to that different
sections of the Japanese community approached the issue of reforms from
divergent starting points and this stymied outcomes and achievements.
 Introduction 9

To the extent that the Asian crisis was a critical event, I will look at the pre-
1997 response of the Japanese government to its economic malaise and
the results since then in three areas: banking and financial sector reform,
corporate rationalization, and regulatory and administrative reforms. I
should add the caveat however that, even after the Asian crisis reforms
were not as far-reaching as may have seemed necessary and one explana-
tion may be that, despite failing economic performance and large-scale
bankruptcies, there was no sense of real or impending national catastro-
phe at a personal level, as in the mid nineteenth century or immediately
after the Second world war. Certainly there existed in the late 1990s an
economic crisis or a Great Stagnation but neither was the average Japanese
consumer overwhelmed by a sense of gloom nor were existing economic
structures perceived as having completely lost their performance legitima-
cy. Thus, while consumption demand had been affected by future uncer-
tainties, there was no great loss of a sense of prosperity. The material
standard of living of the average Japanese consumer was not drastically
diminished even though unemployment had climbed to record levels of
about 5 per cent. This was unprecedented by postwar Japanese standards
although enviably low by western standards. For instance, Australia expe-
rienced an economic boom throughout the 1990s but unemployment lev-
els there were still substantially higher than those in Japan despite Japan’s
depressed economy. Moreover, while the Asian crisis triggered reform ini-
tiatives, urgency was soon dissipated by a nascent recovery a couple of
years later. This, together with bureaucratic politics, political indecision
and the absence of policy competition among the leading political parties,
explains the unevenness of the reform process. But in 2001 the reform
message was rekindled by Prime Minister Koizumi after the Japanese econ-
omy had slipped back again into economic stagnation.

The Asian financial crisis

The significance of the Asian crisis is two-fold. First, it was the first real cri-
sis of economic globalization and a sharp demonstration of the conse-
quences of ignoring global market forces. Second, it was a regional crisis
and not one that was contained within the four main affected countries
of Thailand, Malaysia, Indonesia and South Korea. It was also a serious cri-
sis for Japan, especially for the banking sector already burdened by a high
ratio of non-performing loans. Its implications extended beyond domes-
tic policy issues to Japanese foreign policy. Before looking at how this cri-
sis became a defining moment for Japan it is useful to reflect briefly on
crises in general and the Asian crisis in particular.
10 Japan in Crisis

Crises are dysfunctional interventions that disrupt the normal flow of

events. They are also difficult to predict. Yet crises rarely strike out of the
blue. Warnings signals are often ignored or misinterpreted, and conse-
quently fail to alert policy-makers to impending danger. Instead, the full
import of warning signals becomes obvious only after the fact. As well,
each crisis is different from the ones that precede it, and while it may be
possible to prevent a recurrence of past crises it is nearly impossible to
forecast and forestall the occurrence of a new one. Since we cannot antic-
ipate the future, strategies for crisis prevention are usually modelled on
past experience and have limited success. Crises, as Martin Feldstein put
it, are as inevitable as death and taxes.9
Just as crises feed upon and exploit existing weaknesses they can,
in turn, suggest ways of effecting systemic improvements. Indeed, in
Japanese and Chinese understanding, crises reflect, simultaneously, a dis-
turbance in the stable evolution of events and an opportunity to improve
existing structures. The Japanese term for crisis, kiki, consists of two char-
acters meaning danger and opportunity, respectively. Crises are therefore
critical events that can be harnessed to achieve a superior equilibrium. It
must have been this sense of historical opportunity that convinced
Ishibashi Tanzan, a future Japanese prime minister, to argue, amid the
gloom of August 1945, that ‘there is a future of boundless plenty ahead for
a renewed Japan’. He explained that all that is necessary is for the people
of Japan not to be ‘led astray by obstacles because they fail to see the broad
path before them’.10 This was a rather unlikely statement at a time of
unprecedented national crisis following Japan’s surrender in the Second
World War. It revealed a thought process that placed a premium on
opportunities offered by crises.
The magnitude of the Asian crisis and its contagion effect came as a
complete surprise to analysts accustomed to the prevailing wisdom that
East Asian economies were immune to the kinds of economic dislocation
experienced by Latin American countries in the 1980s. East Asian
resilience was attributed to export-oriented industrialization (EOI) strate-
gies that ensured the serviceability of accumulated debt. Latin American
vulnerability, by contrast, was attributed to import substitution industri-
alization (ISI) strategies, which failed to generate sufficient export rev-
enue to meet debt-service obligations.
The Asian crisis began with speculative attacks on regional currencies
that also undermined and weakened the real economy in the affected
countries. The crisis affected four Asian economies in particular: Thailand,
Indonesia, Malaysia and South Korea. It began in Thailand and spread
quickly to other regional countries. It wiped away some of the achieve-
 Introduction 11

ments of the East Asian countries and resulted in economic hardship and
impoverishment for a large segment of the population that had become
accustomed to continuous improvements in living conditions.
Understandably, there is considerable interest in explaining the origins of
the crisis. In the few years since its onset a substantial literature has
emerged on its various aspects.
It is noteworthy that the Asian crisis was a sequel to a still unresolved eco-
nomic malaise in Japan. Both were related to failed globalization strategies
and involved a bursting of speculative economic bubbles. All speculative
bubbles involve a boom that is fed by an expansion of bank credit and all
speculative bubbles inevitably end in a crash, often in magnitude parallel-
ing the preceding boom. Speculative bubbles and their dramatic collapse
have a long history, and in the past most such crises have had considerable
international causal implications. According to Charles Kindleberger, the
development of a speculative bubble is a two-step process. He calls the first
stage the ‘sober stage of investment’, in which rational investors pursue
production gains and profits, this then being overwhelmed in the second
stage by ‘rogues interested only in quick profits’.11
The second stage is that of the bubble economy. In Japan and in East
Asia, during the bubble economy phase there was excessive speculation
in real estate and the equities market solely for the purpose of quick prof-
it. The construction boom may have had sound beginnings but at some
point it acquired a momentum of its own. In Japan, the speculative boom
in real estate was fed also by demand for inheritance properties because of
generous tax regulations. According to established guidelines, land
received as inheritance was taxed at well below fair market values, and
this provision accounted for the popularity of real estate as an investment
asset. In a bubble economy, property and stocks are not necessarily the
only focus of speculative activities. In the seventeenth century, for ex-
ample, there was an enormous speculative boom in tulips which led to
inordinately excessive prices for tulip bulbs, such that one bulb could be
exchanged for a new horsedrawn carriage.12 During the Japanese and
Asian bubble economies, ‘irrational’ price increases extended to many
commodities and products beyond property and stocks. In Japan in the
1980s, for example, the price of a pet stag beetle (ohkuwagata) went up as
high as US$7000 before coming down to more ‘reasonable’ levels, around
$300 by the late 1990s.13 When normality returns following the collapse
of a bubble economy, many are left with high levels of debt, deflated asset
prices and huge losses.
In his study of speculative economic bubbles and financial crises in the
nineteenth and twentieth centuries, Kindleberger has observed that such
12 Japan in Crisis

crises tended to be transmitted through psychological infection, the rise

and fall in prices of securities and commodities, short-term capital move-
ments, interest rates and the rise and fall of world commodities mar-
kets.14 In the Asian crisis a distinguishing feature was the swiftness of the
transmission process, which was a function of improved communica-
tions technology that had eroded boundaries between national econo-
mies and integrated them in an almost seamless web.
To fully understand the regional dimensions of the crisis and of crisis
resolution it is necessary to highlight the fact that the success of East
Asian states had been achieved substantially through increased intra-
regional trade. While Japan had not featured prominently in this
intra-regional trade expansion, it was imperative for regional recovery, that
it compensate for the collapse in intra-regional trade by fostering greater
trade linkages and by opening its large economy to regional exports. The
expectation that Japan be a constructive partner in crisis management
added to the importance of Japanese economic recovery. For all these rea-
sons, the Asian crisis was an important defining moment in Japan’s reces-
sion-plagued economy because it highlighted the urgency of measures to
introduce structural reforms in order to restore economic growth and move
beyond the earlier reliance on time and public sector spending.

The Asian crisis as a catalyst for change in Japan

Since the collapse of the bubble economy in the early 1990s, the Japanese
economy has been relatively stagnant. The government seemed content
to let a stagnant economy run its course, convinced that time would
allow weak sectors of the economy, especially banking and finance, to
recover their competitive edge. The Asian crisis, however, robbed eco-
nomic planners and policy-makers in Japan of the luxury of time. The dis-
tress of several large-scale bankruptcies was a rude awakening to policy-
makers that a policy of benign neglect was no longer tenable. Political
leaders were forced to accept the imperative of an activist strategy to
repair structural weaknesses and restore the bases of growth.
As mentioned above, the Asian crisis was a catalyst for change in two
important aspects. First, in domestic policy, it forced the Japanese govern-
ment to begin a constructive process to resolve persisting economic stag-
nation. Administrative and regulatory reforms had received considerable
rhetorical emphasis in earlier periods, but according to Lonny Carlile the
agenda for administrative reform had been linked to a need to control a
pork-barrel politics that was contributing to a fiscal crisis of the state.15 In
the pre-Asian crisis period, he has identified three phases of the adminis-
 Introduction 13

trative reform and deregulatory agenda. The first phase was from the early
1980s to 1985 when the initial concerns were first articulated and resulted
in the establishment of reform commissions to provide recommenda-
tions. In the second phase, 1985–93, reform was held in abeyance as the
fiscal crisis was, at least temporarily, resolved by high growth based on
speculative economic activities – the so-called bubble economy. In the
third phase the collapse of the bubble economy in the early 1990s
renewed pressure for reforms. In all these three phases, the primary objec-
tive of government was to tackle a burgeoning public sector debt. Public
sector debt in Japan is extremely high by international standards and it is
understandable that the government was concerned about reducing
overall levels of debts, especially in view of an ageing population, a
declining revenue base and anticipated future demand for welfare bene-
fits. Nonetheless, there were other groups and institutions which advo-
cated reform for the sake of efficiency. For example Keidanren (Federation
of Economic Organization), a leading industry association, advocated
reforms to revitalize the private sector and unleash creativity and produc-
tivity. It campaigned for bureaucrats to loosen their grip on market forces.
Similarly, the Mitsubishi Research Institute argued that

We must recognize that the framework of Japan’s economy is, by inter-

national standards, so far divorced from market economic principles
that it not only creates friction with other countries, but also stands in
the way of Japan’s growth in the 21st century.16

The Asian crisis comprehensively linked reforms to economic globaliza-

tion and in so doing moved the debate to a different plane. The period
since 1997 may be seen as the fourth phase in the reform and restructur-
ing debate, when reforms assumed a new purpose.
In Japan it was critical to initiate banking sector reforms, and a year
after the crisis the Obuchi administration took the first steps to finally
resolve a festering sore in the banking industry – the large proportion of
non-performing loans (NPLs). This had affected provision of new loans to
the private sector and starved industries of necessary capital injection.
Resolution of the banking crisis was critical and was actively implement-
ed, but in other areas Japanese reform efforts were less enthusiastic. Japan,
of course, has a reputation as a poor reformer and the government found
it particularly difficult to prosecute other necessary reforms, such as
deregulation.
If the crisis was a window of opportunity to introduce regulatory
reforms, it should be noted that there was also resistance to it, especially
14 Japan in Crisis

within the bureaucracy. Opponents of reform were apprehensive of its

impact on social stability, harmony and, importantly, equity and egalitar-
ian achievements. As noted above, one of the remarkable achievements
of the Japanese economic miracle had been the realization of high growth
rates along with relative equity in income distribution, as measured by
the Gini coefficient. Nonetheless the Asian crisis generated a new-found
commitment to domestic structural reform, which included:

1. Regulatory reform and corporate rationalization in order to cope with

global market pressures, create new markets and reinvigorate interna-
tional competitiveness.
2. Financial system reform in order to overcome problems posed by a
high percentage of non-performing loans and increased competition
as a result of big-bang reforms.
3. Administrative reforms in order to streamline a sprawling bureaucracy,
enhance the influence of elected politics in the policy-making process
and subject the bureaucracy to political subordination and governance.

These will be some of the main issues that will be explored in this book,
but the reform agenda extends further to include social welfare reforms to
deal with, as mentioned above, a smaller revenue base and a declining
population.
Second, the Asian crisis also affected Japan’s regional diplomacy. It
effectively created an opening for the Japanese government to step in to
contribute to crisis resolution and thereby enhance its regional role and
influence. Without cynically dismissing Japanese contributions as self-
serving, it cannot be denied that the crisis had just such a positive flow-on
effect. Since the end of the Second World War, Japan’s regional identity
and influence have suffered as a consequence of atrocities committed by
Japanese forces in East Asia. There remains an element of lingering hostil-
ity towards Japan, fed also by a refusal of the Japanese government either
to formally apologize for wartime misconduct or to compensate sur-
vivors, such as the so-called ‘comfort women’. In East Asia, the fact that
Japan possessed the largest economy did not bestow on it a natural leader-
ship role. This became painfully evident in the mid-1960s when Japan
took the initiative in establishing the Asian Development Bank (ADB),
but the Asian countries voted to establish the headquarters of the ADB in
Manila in the Philippines rather than in Tokyo. This reminded the
Japanese that Asian countries would not accept Japan’s self-appointed
leadership role in East Asia simply on the basis of economic achieve-
ment.17
 Introduction 15

Certainly, the negative images of Japan have faded with time but the
Asian crisis was a further opportunity for Japan to offer positive policy ini-
tiatives and provide financial assistance to consolidate its East Asian
links. It was an opportunity to substitute a negative perception with posi-
tive and responsible images. Apart from generous financial assistance
programmes, particularly noteworthy was Japan’s proposal to establish
and finance an Asian Monetary Fund (AMF) to assist regional countries in
future crises. The proposal for an AMF was particularly noteworthy
because it defied explanations of Japanese foreign policy as devoid of ini-
tiatives. Common explanations of Japanese foreign policy suggested that
Japan was incapable of providing leadership or that leadership had differ-
ent conceptual connotations for the Japanese, for instance ‘leadership
from behind’. The AMF proposal marked a new departure. It showed that
Japanese policy-makers were not incapable of developing innovative new
solutions to resolve problems and crises, even if implementation was
more difficult. Japan failed to make the proposal a reality, but that should
not detract from its readiness to take the initiative and play a responsible
role in managing the Asian financial crisis.
The establishment of an AMF was meant to assist regional countries to
withstand global economic pressures, but also to safeguard Japanese eco-
nomic interests. In the decade leading up to the Asian financial crisis the
Japanese economy had become much more deeply embedded in the
regional economy, such that the crisis had serious economic ramifica-
tions for Japan. The spread of economic interdependence within the East
Asian region meant that individual countries could no longer safeguard
their economic prosperity from regional influences. The new reality was
that Asian economies would prosper collectively and suffer collectively.
Under these circumstances, it was logical for the Japanese government to
propose measures to strengthen the regional financial architecture in
order to contain regional instability and minimize adverse flow-on
effects.
The US government rejected the AMF proposal as being in competition
with the International Monetary Fund and hence an exercise in institu-
tional redundancy. Later, sober assessments of the AMF suggested that
such an institution might have been useful in limiting the fallout and
magnitude of the crisis, but the immediate American rejection of the pro-
posal when it was first announced meant that an AMF would not receive
the formal go-ahead. Still, the initiative was both interesting and import-
ant considering that Japanese foreign policy had in the past been criti-
cized as lacking in vision and initiative. I will explain the logic and
rationale for an AMF and look also at how the Japanese government used
16 Japan in Crisis

other means to realize much the same objectives as those the AMF was
expected to fulfil. The project was abandoned when it encountered
American resistance, but it is interesting nonetheless that the Japanese
government had formulated a policy initiative and that when forced to
abandon it it continued to promote it through other means, such as the
‘New Miyazawa Initiative’ and the ‘ASEAN Plus Three’ concept. Japanese
foreign policy remains sensitive to American interests, but the AMF is an
interesting case-study of Japanese activism, and a useful counterpoint to
the common depiction of Japan as reactive.

The structure of this book

The book deals with the impact of the Asian crisis not only on Japanese
political economy and the reform agenda but also on Japan’s regional
relations. It thus uses the Asian crisis as a prism to explain developments
in Japan’s domestic politics and policy as well as international relations.
In order to set the stage for discussion of the domestic reform agenda,
Chapter 2 will provide a discussion of the Japanese economy in the 1990s
following the bubble economy and the onset of the Great Stagnation. The
next three chapters will discuss specific reform agendas and outcomes.
Chapter 3 will look at measures taken by the Japanese government to
resolve the domestic banking crisis. At the root of Japan’s poor economic
performance in the 1990s was a financial system teetering under the pres-
sure of non-performing loans. This was a critical problem but successive
governments failed to deal with it in a resolute manner. Chapter 4 will
look at issues relating to corporate rationalization and Chapter 5 will con-
sider administrative and regulatory reform. Regulatory reform has pro-
duced very modest results even though it is now seen as the key to
resolving Japan’s economic malaise. In Chapter 6, I will look at the impli-
cations of the Asian crisis for Japan’s foreign policy and for the so-called
network capitalism, linking Japan’s economic trajectory to the success
and failures of regional economies. In this chapter, I will look at the pro-
posal for the AMF and at recent developments in creating a financial safe-
ty-net for regional countries and safeguarding Japan’s regional economy.
The concluding chapter will explain the domestic political and structural
deficiencies that have impeded the reform process, and look at the
prospects for Japanese regional diplomacy.
2
Economic Stagnation in Japan

Before the onset of Japan’s contemporary economic crisis, economic per-

formance was unsurpassed in terms of growth rates, equity or resilience to
external shocks. There were many factors that contributed to Japan’s bub-
ble economy, including a determined official push to move the economy
from excessive dependence on foreign demand to reliance on domestic
demand. Foreign exports and increasing balance of payments surpluses
frequently led to trade friction with the United States. As disputes emer-
ged and were resolved after some acrimony, the only constant was a pro-
gressive worsening of the American trade balance with Japan. In the
mid-1980s, American frustrations led to a growth in sentiment in favour
of protectionism directed at Japan which at its worst could have under-
mined the foundations of international liberal trade in general. As a des-
perate measure to stave off threats to liberal trade, the Plaza Accord, an
agreement among the Group of Five (G-5) countries in 1985, sought to
restore the trade balance through exchange rate adjustments. A lagged
decline in exports and fears of impending economic downturn prompted
the Japanese government to stimulate domestic demand to compensate
for slowdown in export demand. With the purpose of providing relief to
domestic manufacturers, the government announced plans to inject an
additional Y6 trillion into public works programmes. The Bank of Japan
also cut interest rates from 5.0 per cent in 1985 to 3.0 per cent in
November 1986 and to 2.5 per cent in February 1987. The interest rate
cuts had the anticipated stimulatory effect on stock and property
markets.
High levels of domestic economic activity sustained the bubble econo-
my, and indeed during this period Japan’s trade surplus actually declined,
as was anticipated in the Plaza Accord. The economic bubble did not
recreate the double-digit growth rates of the 1960s, but economic

17
18 Japan in Crisis

performance was still strong compared with other advanced industrial

economies. Increases in the stock market index and in property prices
exceeded all expectations and, buoyed by cheery expectations that the
growth cycle would last, individuals and corporations engaged in specu-
lative activities lured by cheap credit and the prospects of quick capital
gains. The structure of corporate financing in Japan played a part in
fuelling the boom in speculative activities.
In general, the corporate sector can obtain financing either from equity
markets or from banks and financial institutions. In Japan, unlike western
countries, the corporate sector had relied on bank financing with little
emphasis on equity financing. This had the advantage of freeing corpora-
tions from the tyranny of a short-term time horizons and immediate
returns on investments that is demanded typically by equity investors.
Instead, corporations were able to concentrate on long-term strategies for
increasing market shares even at the expense of short-term profitability.
Lending institutions ensured corporate responsibility in investment deci-
sions through an active and intrusive management role. In this structure,
the company’s main bank, the primary lending institution, exercised pru-
dential oversight and ensured that investment decisions adhered to basic
principles of financial responsibility and market rationality. However, in
the mid-1980s, as a result of financial market liberalization, corporations
were no longer dependent entirely on the domestic banking sector for
their capital needs. Large corporations could obtain cheaper funds in
global money markets and consequently became more independent of
bank oversight. Their investment decisions too became more irrespon-
sible. Unlike in western corporations, the absence of an external and
independent board of directors in Japanese corporations meant there
were few constraints of accountability on management.1 Accountability
and protection from egregious investment and managerial decisions had
traditionally been the purview of the main banks, but this constraint was
weakened by the new-found financial freedom of corporations. It should
be noted, however, that even in the best of times bank oversight was less
than perfect and was compromised by a close relationship between lend-
ing and borrowing institutions built up over an extended period of time.
The main bank was rarely in a position to exercise arm’s-length surveil-
lance and control. In the bubble economy, corporate investment activity
had few effective checks and controls and investment activity exceeded
rational economic expectations.
On a per capita basis the Japanese investment in new plant and equip-
ment was nearly twice the American. Total Japanese capital investments in
1989, for example, were US$549 billion, compared with only US$513 bil-
 Economic Stagnation in Japan 19

lion for the US. Japan was investing more than the US in new productive
capacity despite having an economy that was only 60 per cent the size of
the American.2 At one level, the high level of Japanese investment activity
was potentially ominous for the West because new and presumably more
efficient manufacturing facilities would inevitably enhance the export
competitiveness of Japanese industries and the manufacturing sector. The
relentless drive for modernization and expansion of plant capacity could
be expected to trigger an export surge in future, to the detriment of US com-
petitors. This scenario did not eventuate, and instead Japanese corpora-
tions were left with considerable excess production capacity.
With many Japanese firms turning away from their main banks for
investment financing, banks increased their lending to small and
medium-sized businesses, to the real estate sector and to individuals. Just
as the corporate sector escaped bank surveillance as a result of deregulato-
ry policies, the financial sector too had increased autonomy of lending. In
the early postwar period, the Japanese government had used administra-
tive guidance to force financial institutions to expand lending to either
the most productive or the potentially productive sectors of economy.
However, starting in the 1970s, administrative guidance was slowly
phased out in favour of the market mechanism. Interestingly, in the late
1980s, banks were lending to the some of the most unproductive sectors
of the economy, such as real estate and property development. This was a
radical departure from the early postwar years.
According to a survey by the Ministry of Finance, total lending to the
real estate sector at the end of 1991 stood at Y120 trillion. In terms of total
outstanding bank loans, the property sector accounted for 11.6 per cent
in 1991. This may not seem very high, but it had increased from only 5.6
per cent in 1980. Moreover, the annual rate of lending to the property sec-
tor increased very quickly, especially in the late 1980s. On average, lend-
ing to the property sector increased at an annual rate of 14.1 per cent in
the late 1980s; in 1986 and 1989 it increased at 29.2 per cent and at 24.3
per cent, respectively.3 The flow of funds to the property sector led to
sharp increases in property prices and in the share market. For example,
while production increased 1.35 times between 1985 and 1990, the
share market index rose 3 times and Tokyo property prices 2.5 times.4 The
Nikkei share market index increased from 13 137 in early 1986 to 38 915
by the end of 1989 and total residential land value in Tokyo increased
from Y139 trillion in 1983 to Y521 trillion in 1989.5 In 1988, capital gains
in the real estate sector alone reached Y416 trillion or about 1.2 per cent of
GNP. By comparison, in the US capital gains in the property sector in 1988
amounted to only 0.3 per cent of GNP.6
20 Japan in Crisis

Competition among Japanese banks was so intense that as long as prop-

erty could be put up as collateral they were prepared to advance loans
without questioning its use.7 Lending policies were so lax that loans were
being made without regard to the crucial question of whether they could
in fact be repaid at a later date. Such lending practices were not very dif-
ferent from those of western financial institutions in the 1970s, which led
ultimately to the Latin American debt crisis. Japanese financial institu-
tion had obviously not internalized the lessons of that episode. But specu-
lative bubbles invariably collapse, and when property prices fell in Japan
the banks were left with a large number of non-recoverable loans. They
found comfort in the knowledge that the government had a policy of not
allowing the failure of any major financial institution.
In general, popular euphoria and ‘irrational exuberance’8 (This was a
term used by Chairman of the US Federal Reserve Bank, Alan Greenspan,
to explain the surge in Dow Jones index in the 1990s) sustained the belief
that the economic bubble would last if not indefinitely then for a relative-
ly long period. The bubble produced a false sense of security but a crash
was inevitable and the succeeding economic stagnation lasted consider-
ably longer than the bubble economy. Although Charles Kindleberger
had concluded, from an analysis of previous economic bubbles, that pru-
dential monetary policies could moderate some post-bubble economic
crises, he was also certain that ‘even optimal policies would leave a
residual problem of considerable dimensions’.9 Still, Japan’s prolonged
economic crisis was not inevitable and was a result mainly of government
inaction and mismanagement.
What burst the Japanese economic bubble was a decision by the Bank of
Japan to increase discount rates in May 1989. The bank explained its deci-
sion as necessary to control inflationary pressures but in reality there
were, apart from increases in asset prices, not many signs of inflation in
the economy. Koichi Mera has speculated that the actions of the Bank of
Japan were actually inspired by lack of faith in free markets and a conse-
quent desire to regain control over markets that appeared to have escaped
bureaucratic regulation. Moreover, he suggests that there was another,
more selfish reason why the government chose to reverse the asset price
inflation. According to Mera, spiralling property prices had made home
ownership more difficult for public sector employees because they typic-
ally acquired property after retirement and could not therefore afford a
long mortgage term that was inevitable if property prices continued to
spiral or remained high.10
At the same time, the Ministry of Finance tried to halt asset price infla-
tion with new restrictions on lending to the real estate sector. These
 Economic Stagnation in Japan 21

remained in force until December 1991. However, the directives of the

Ministry of Finance had little immediate effect as housing loan compa-
nies (jusen) continued to provide such loans. Real estate lending increased
after the ban was lifted. In the year to March 1993, outstanding loans by
the big commercial banks to the property sector increased by 8.8 per cent
even though total lending over the same period increased only 0.3 per
cent.11
Interest rates were increased again in 1990 following the Iraqi invasion
of Kuwait. Conflict in the Middle East had an adverse impact on Japan’s
economic outlook because it heightened uncertainties about oil supplies.
Of all the advanced industrial economies, Japan is particularly sensitive
to pressures on oil supplies because of its dependence on imported oil,
mainly from the Middle East. Economic uncertainty, according to Cargill
et al., prompted the Bank of Japan to further tighten monetary policy.12
By July 1991, the discount rate had been pushed up to 6 per cent before
the Bank of Japan began to ease back on monetary policy. During the bub-
ble, the Bank of Japan had progressively cut discount rates to only 2.5 per
cent. The shift in monetary policy sparked the economic collapse and the
Nikkei share market index, for instance, tumbled steadily from a peak of
nearly 40 000 to below 15 000.
Although the Bank of Japan hoped to engineer a soft landing of the
economy, contractionary monetary policies produced the longest period
of economic stagnation in postwar Japan. We must not be too critical of
the Bank of Japan. It could perhaps have phased in tight monetary policy
beginning in 1988, rather than in 1989, without causing any yen
appreciation or hurting Japanese exporters, but such criticisms of the
bank understate the difficulties of micromanaging economic cycles. It is
unlikely that the Bank anticipated the consequences of its action, even if
we accept suggestions put forward by Leon Hollerman that financial
authorities in Japan used the crisis to pursue structural reforms and weed
out less competitive firms, and by Karel Van Wolferen, in early 1993, that
the recession in Japan was part of a planned restructuring of the economy
to make Japanese manufacturing even more competitive.13
The post-bubble economic meltdown resulted in an asset price loss of
Y1000 trillion. Corporations and individuals that had borrowed large sums
based on inflated property prices were left with high total debt and declin-
ing asset prices. In turn, banks were left with a large proportion of unrecov-
erable debt. Exporters were affected by a rising value of the yen, which
increased from Y145 to the dollar in 1990 to Y127 in 1992 and to Y100 in
late 1994. In early 1995, the Mexican currency crisis rocked confidence in
the US dollar and the yen appreciated sharply to Y79.75 to the dollar. The
22 Japan in Crisis

rising value of the yen through the early 1990s worsened the export out-
look for Japanese corporations and encouraged a push to establish manu-
facturing facilities in East Asia where production costs were lower.
In the past, Japan had always exported its way out of economic difficul-
ties. That route was no longer available given the sensitivities of trade dis-
putes with the United States, its major trading partner and export
destination. As it is, Japan was continuing to amass large trade surpluses
against the United States and further export growth could lead to more
aggressive trade disputation. Indeed, the two countries did stumble towards
the precipice of a trade war in the mid-1990s over alleged Japanese trade bar-
riers that impeded the import of automobiles and auto parts. The American
government insisted on numerical import targets from the Japanese gov-
ernment, but when it encountered stiff resistance the US judiciously decid-
ed to drop its demands rather than risk a protracted and bitter trade conflict.
Such an event would have had enormous consequences for the global trade
system and for the newly established World Trade Organization, which
might have been called in to resolve the dispute. In terms of established
international trade regulations the American case for numerical targets was
weak, but whether the WTO would have been able to dictate terms to either
one of the two leading economic powers is uncertain. In order to safeguard
the credibility of the WTO at a time when it was in its infancy, the US was
wise in not pursuing its demands and in stepping back from a full-blown
trade conflict with Japan. In the context of American disenchantment with
unbalanced trade relations with Japan, it was impossible for Japanese manu-
facturers to boost exports to revive domestic growth.
Domestic demand also could not be relied upon to revive growth. In
sharp contrast to the bubble economy years, Japanese consumers had
increased savings in response to concerns that economic condition might
worsen further. An ageing population, increased unemployment and the
fiscal crisis of the state also permitted no certainty that public welfare and
pension programmes would be adequate to cope with changing demo-
graphics and the post-retirement needs of the retirees. It is interesting
that while unemployment did increase it did so by a mere two percentage
points between 1990 and 1998.14 This was hardly a harbinger of tremen-
dous social and economic dislocations, but in the context of earlier
employment statistics it generated considerable uncertainties about
future employment prospects. Coupled with the inadequacies and poten-
tial collapse of the national welfare system and its inability to cope with
an ageing population, economic uncertainty was a strong incentive to
save for the future. Thus, it would not be too much of an exaggeration to
attribute weak domestic demand to the psychological makeup of the soci-
 Economic Stagnation in Japan 23

ety and to worries about future economic prospects. Indeed, there were
concerns also that Japan would end up as a second-class economy.
Just as the bubble economy had been sustained by a pervasive optimistic
outlook that the boom would continue indefinitely, Japanese consumers in
the 1990s were gripped in the fear that economic stagnation would not only
continue but might indeed become worse. This perception fed off itself and
made economic recovery that much more difficult to engineer. In terms of
consumer psychology, therefore, the 1990s might be described as a period of
‘reverse bubble economy’,15 with consumer confidence severely shaken.
As individual and household demand collapsed, the government intro-
duced numerous public works programmes and cut interest rates. Since
1992, the Japanese government has spent a total of US$800 billion in
demand stimulus packages and public works expenditures, including the
record biggest stimulus package of US$195 billion that was announced in
January 1998.16 Critics, not without some justification, are convinced that
the vast increase in public sector expense was more a result of a pork-barrel
politics to benefit construction industries associated with the ruling LDP
than an attempt to boost domestic consumption demand. Thus, the gov-
ernment invested in large construction projects and infrastructure develop-
ments instead of in programmes that could alter the gloomy psychological
makeup of consumers and increase individual and household consumption
demand. As a result, Japan realized the worst of both worlds: patchy growth
and higher public sector debt. As a measure of the fiscal crisis of the state, it is
worth noting that Japan has the highest levels of public sector debt relative
to GDP among the OECD group of countries. In 1997, for example, total
public sector debt in Japan was Y476 trillion or 92.6 per cent of GDP, com-
pared with the United States’ public sector debt of 64.1 per cent of GDP, the
United Kingdom’s 60 per cent and Germany’s 64.4 per cent. In 2001, public
sector debt in Japan had increased to around 130 per cent of GDP. The only
comfort was that the debt was owed at home, not to foreigners.
In early March 2001, as the government prepared its thirteenth eco-
nomic recovery package since 1991, Finance Minister Miyazawa
acknowledged that Japanese public finances were at virtual collapse. The
state of public finances meant that fiscal stimulus did not figure promin-
ently in the package and instead the government emphasized tax relief to
boost consumer spending and measures to support the stock market.
Over the longer term, the reality is that ultimately taxes have to increase
to pay off accumulated debt and to prepare for Japan’s demographic tran-
sition. Throughout the long period of economic stagnation, the govern-
ment faced the dilemma of having to choose between pump-priming
measures and tackling the fiscal crisis of the state. In this contradictory
24 Japan in Crisis

Table 2.1 Official discount rates in Japan

30 August 1990 6.0

1 July 1991 5.5
14 November 1991 5.0
30 December 1991 4.5
1 April 1992 3.75
27 July 1992 3.25
4 February 1993 2.50
21 September 1993 1.75
14 April 1995 1.00
8 September 1995 0.50

Source: Economic Statistics Monthly, no. 615, Bank of

Japan, June 1998, p. 22.

tussle, policies have alternated between the two. For instance, as well as
expansionary fiscal policies the Japanese government felt it fiscally pru-
dent to increase consumption tax from 3 per cent to 5 per cent in 1997.
This, however, dealt a fresh blow to economic recovery.
The fiscal measures were accompanied by progressive reductions in
interest rates (see Table 2.1). The Bank of Japan undertook its first rate cut
in July 1991 when the discount rate was cut to 5.5 per cent. Two addition-
al rate cuts that same year lowered it to 4.5 per cent. By the mid-1990s, the
Bank had progressively lowered its discount rate to only 0.5 per cent. As
well, the Bank lowered reserve requirements for banks, a move that was
expected to release more than US$15 billion in cash into the banking sys-
tem for the provision of new loans.17
In Japan, progressive interest rate cuts were meant to stimulate domes-
tic demand and economic growth but this failed to materialize. This was
not very surprising, as investment activity during the bubble economy
phase had already resulted in excess production capacity. Instead, the rate
cuts only made it less attractive for investors to hold Japanese yen. This
depreciated the value of the yen and yen-based loans to regional coun-
tries became more attractive. In the case of Thailand, the flow of capital to
the private sector went up from US$12 billion in 1994 to nearly US$21 bil-
lion in 1995. While the exchange rate movement made yen-based loans
more attractive for regional countries, there was also a down side.

From a Japanese bubble to an Asian bubble

As mentioned above, collapse of Japan’s bubble economy left banks sad-

dled with a high proportion of non-performing loans and few lending
opportunities within Japan. In order to write off NPLs, they had to devel-
 Economic Stagnation in Japan 25

op new markets and profit streams. It was this imperative that encouraged
Japanese financial institutions to lend aggressively to East Asian coun-
tries, where investment opportunities were both promising and prof-
itable. Loose lending practices had created the Japanese economic bubble
and now Japanese banks became important players in generating an
Asian economic bubble. The role of Japanese banks cannot be understood
without reference to official government policies. The Ministry of
Finance, according to Merton Miller, encouraged banks to offer loans in
Japan and elsewhere to improve their profitability and cover bad debts
remaining from the Japanese bubble economy. But since there were few
lending opportunities within Japan, there was an acceleration of lending
to East Asian countries. Hence, Miller argues, the roots of Asian financial
crisis can ‘be traced ultimately to Japan’.18 In the process of overcoming
their own domestic economic crisis, the actions of the Japanese Ministry
of Finance and of the commercial banks recreated the same bubble econo-
my on a regional scale and ultimately contributed to a regional crisis.
Japan’s regional investment began initially with foreign direct
investment (FDI), but progressively through the 1990s foreign indirect
investment also increased. In Indonesia, for example, up until 1992 FDI
was well in excess of investment in securities, but in the three years 1993
to 1995 short-term investment was either equal to or well in excess of FDI
flows into the country. In Thailand, FDI investment exceeded short-term
capital flows between 1987 and 1992 but this pattern was reversed in the
next four years. A similar pattern prevailed also in South Korea. According
to Callum Henderson, Japanese banks were keen to lend in Asia, mainly
to the growing Japanese corporate sector in Asia, but were ‘not shy about
making loans to the Asian corporate sector’.19 The exposure of Japanese
banks to East Asia was not uniform, and at the end of 1996 ranged from
US$37.5 billion in Thailand through $24.3 billion in South Korea and $22
billion in Indonesia to $8.2 billion in Malaysia.20
Most Japanese bank lending was to the offshore centres of Singapore
and Hong Kong rather than to the five crisis countries of Indonesia, South
Korea, Thailand, Malaysia and the Philippines. This is shown in Table 2.2.
However, there was no reason to be sanguine, because these offshore cen-
tres had on-lent to the rest of Asia and confronted collapsed property
prices in their own markets.
While the EU countries had lent more capital, Japanese banks were
more vulnerable because of their smaller capital base. For the crisis coun-
tries, the principal worrisome aspect was that much of the increased bank
lending in the couple of years before the crisis was short-term. In
Thailand, Indonesia and Korea the ratio of short-term debt to foreign
26 Japan in Crisis

Table 2.2 Bank lending to emerging Asian markets at end June 1997

US Japan EU

(US$ billion)
Asian emerging markets 43.3 271.4 353.3
5 crisis countries 23.8 97.2 98.1
China 2.9 18.7 28.1
China Taipei 2.5 3.0 14.4
Singapore, Hong Kong 14.1 152.4 212.8
(as percentage of bank capital)
Asian emerging markets 12.4 109.5 48.5
5 crisis countries 6.8 39.2 13.5
China 0.8 7.6 3.9
China Taipei 0.7 1.2 2.0
Singapore, Hong Kong 4.0 61.5 29.2

Source: OECD Economic Outlook, June 1998, p. 21.

Notes: The five Asian countries are South Korea, Indonesia, Thailand, Malaysia and the
Philippines. The EU countries are Germany, France, Italy, UK, Austria, Belgium, Finland,
Luxembourg, Spain and the Netherlands.

exchange reserves exceeded one and moreover, according to David

Marshall, there was anecdotal evidence that much of the new lending had
been invested in real estate rather than in productive activities.21
The flow of Japanese capital that sustained the Asian economic bubble
did not simply result from pure market conditions but was due also to
specific government policies that encouraged financial institutions to
expand foreign operations and investment opportunities following the
end of the Japanese economic bubble. In the United States, when a similar
crisis confronted the savings and loans corporations, banks were encour-
aged to aggressively increase their loan loss reserves and quickly work
their way out of their difficulties. In Japan, however, according to
Christopher Wood, there was a ‘continuing collective attempt on nearly
all sides to pretend the losses never happened’.22 A better explanation is
that the Japanese government pretended that whatever problems were
confronted by banks would be resolved in time through profits generated
in East Asia and without resort to harsh restructuring programmes. In the
process, the Japanese government allowed the domestic economic
malaise to drag on and fester without any clear and decisive attempt to
reverse economic stagnation. It was also at least partially culpable for
implementing policies that fuelled the East Asian economic bubble and
culminated in a regional economic crisis.
A common criticism of the Japanese financial system was that it had not
kept pace with financial globalization and was susceptible to crises. The
 Economic Stagnation in Japan 27

weaknesses stemmed from low capital reserve ratios for Japanese banks
and inadequate regulation and reporting requirements. Japanese
banks operated with a very low reserve ratio, which, moreover, was inflat-
ed because banks included their shareholdings in their reserves. In 1988
when the major industrial countries agreed to establish minimum capital
requirements for international banks, the Japanese government secured a
concession that would permit Japanese banks to include latent capital
gains on their stock portfolios as part of capital reserves. This was an
important concession in view of the extensive shareholding of Japanese
banks related to their respective keiretsu groupings. The same factor also
worked to their advantage in the context of the bubble economy and a
booming share market, which inflated their latent capital gains. The
health of the financial sector was seriously undermined when the bubble
burst and it is worth noting that in 1990, in a single calendar year, the
Nikkei share market index declined to half the level it had reached in 1989.
As Japanese economy continued to stagnate, the government attempt-
ed to lift growth through fiscal measures to stimulate domestic demand
but without much effect. The problem was that business activity remain-
ed low and bank lending for new investment had also stalled. While
banks were reluctant to add new loans to their books, their existing bad
loans to the real estate sector meant that these bad loans had to be pro-
tected from default, and consequently loans to the real estate sector grew
faster than overall business loans.
Given existing bad loans and poor economic conditions, the Ministry
of Finance planned to restore banks to profitability by encouraging them
to generate profits through overseas investments. And the Bank of Japan,
which had earlier tightened monetary policy and burst the Japanese eco-
nomic bubble, eased monetary policy by lowering interest rates. The pro-
gressive reduction of interest rates brought rates down to nearly zero. As
short-term rates tumbled, lending for marginal investment purposes
became more worthwhile and it was this process that led to an accumula-
tion of risky investments in East Asia. The bubble economy was restored,
not in Japan but in East Asia. For Japanese banks, the risks must have
seemed low because of the unwritten official policy of not permitting any
financial institutions to fail. This government guarantee distorted lend-
ing policies that otherwise might not have occurred under purely com-
mercial considerations. The nominal interest rates, of course, could only
be lowered to near zero per cent and once that had happened the cycle of
issuing marginal loans was bound to crash.
In the process of solving one crisis, official directives paved the way for
a second crisis, of a similar nature, and which further exacerbated the
28 Japan in Crisis

position of Japanese financial institutions. The crisis originated when

Japanese authorities, in a bid to shore up the falling value of the yen,
alluded to a potential increase in interest rates. The talk of an interest rate
increase worried commercial and investment bankers about their invest-
ments in Southeast Asia and they ‘immediately began to sell Southeast
Asian currencies, setting off a tumble not only in the currencies but in the
local stock markets as well’.23 The threatened interest rate increase did
not become a reality but had the same effect as the interest rate increase of
the early 1980s which sparked the Latin American debt crisis of 1982.
Most of the sovereign debts contracted in the 1970s and early 1980s
were short-term under low interest rates, but when western countries
embarked on an anti-inflationary policy by increasing interest rates it
became the trigger for the debt crisis. There were other causes for the
Asian crisis including slipping economic and export performance. For the
regional countries, depreciation of the yen may have made yen-based
loans more attractive, but since their currencies were linked to the US dol-
lar their exports to the US, constituting a bulk of total manufactured
exports, became less competitive, even allowing for the lower cost of
imported parts and secondary products from Japan.

The Asian crisis and the Japanese economy

The Asian crisis was a clear indication that Japan’s banking crisis could
not be resolved by the preferred strategy of using an Asian economic
boom to progressively write off non-performing loans. The Japanese gov-
ernment had to implement more direct measures to deal with NPLs and
remove a key obstacle to domestic economic recovery and growth. The
Asian crisis also heightened expectations that a sense of international
responsibility would encourage the Japanese government to decisively
act to restore domestic growth and use economic expansion to facilitate
an export-led regional recovery. By contrast, the Economic Planning
Agency (EPA) remained emphatic that macroeconomic policy measures
should not be used to placate foreign critics or in response to foreign
expectations, but should be used only for domestic policy objectives.
According to Komine Takao, it was unfair to expect that Japan would
accelerate economic growth simply to help other Asian countries. He
insisted that Japanese macroeconomic policies should be used for domes-
tic policy objectives, not to rescue foreign countries.24 The economic
bureaucracy considered it more important to tackle the fiscal deficit in
the belief that economic recovery was imminent and required no addi-
tional governmental measures. EPA officials insisted that the pace of
 Economic Stagnation in Japan 29

recovery should be dictated by domestic factors rather than by regional

considerations. Komine Takao also expressed the view that while demand
expansion might assist regional economies, it was not the secret remedy
or panacea for the Asian economic crisis which critics assumed it to be.25
In this early debate on Japan’s international role and responsibility, the
Ministry of Foreign Affairs was less influential than the economic min-
istries because it lacked a powerful domestic constituency.
Before the Asian crisis, successive Japanese governments had failed to
address the real reasons behind economic slowdown. Even after the crisis,
however, Prime Minister Hashimoto continued to ignore the banking cri-
sis. Worse still, a commitment to fiscal austerity further weakened growth
prospects. The austerity measures included an increase in consumption
tax at a time when the government should instead have introduced meas-
ures to stimulate a depressed economy. When the negative consequences
of fiscal austerity became apparent, the government announced a pack-
age of comprehensive economic measures (CEM) in late April 1998 to
stimulate the economy. The government had been forced to acknowledge
the gravity of the economic crisis when Yamaichi Securities, a leading
stock brokerage, collapsed in late 1997.
The CEM package involved a total of Y16 trillion (US$124 billion or 3.2
per cent of GDP) comprising mainly fiscal expenditures (US$93 billion)
on social infrastructure development. At the time, Prime Minister
Hashimoto declared this package of fiscal stimulus as ‘necessary and
sufficient’ to restore confidence in the Japanese economy and halt the
continuing economic slump.26 Instead, the economic situation contin-
ued to deteriorate. The problem was that economic recovery in Japan
could not be achieved simply by increasing public works expenditures
and other fiscal measures. This strategy had been tried through the 1990s
and had produced no lasting benefit. Ultimately, Japanese economic
malaise was a result of the adverse situation confronting banking institu-
tions plus weak consumer confidence that had depressed domestic con-
sumption demand.
The lack of consumer confidence underpinned low consumption
demand and high savings. To restore confidence it was necessary to offer
substantial tax cuts to stimulate consumer spending, but the government
promised only US$31 billion in tax cuts and that, too, only as a temporary
measure. The Economic Planning Agency estimated that the impact on
economic growth would be to increase it by 2 per cent after a year, but
markets remained unconvinced. The temporary tax cut did not have the
stimulatory effect the government might have expected, and this added
to pressure on the government to offer permanent and meaningful tax
30 Japan in Crisis

cuts to stimulate domestic demand. As well, critics argued that the gov-
ernment had to adopt real and meaningful measures to tackle the bad
debt situation of domestic banks.
The Japanese government remained confident that no additional
measures were necessary and that recovery was simply a matter of time. It
chose to focus instead on its deficit reduction targets. When the economy
plunged deeper into crisis, a popular backlash forced Prime Minister
Hashimoto to resign from office.

Explaining the failure of economic recovery packages

With a prolonged economic downturn and a failure on the part of the

government to stop the haemorrhaging of the economy, several econo-
mists offered their own prescriptions to end the recession in Japan. For
Paul Krugman the Japanese economy was in a ‘liquidity trap’ of excessive
savings and the solution was to encourage and indeed force consumers to
increase consumption levels. To achieve this he recommended a policy of
managed inflation, 4 per cent a year for a period of 15 years, which would
be a disincentive to save and also lead to currency depreciation. The key
was to ensure that inflation stayed above existing low interest rates and
since nominal interest rates could not be reduced to below zero, the logic-
al solution was to target and generate higher inflation rates.27 Needless to
say this was a controversial prescription and critics argued that it was fool-
ish to assume that governments could induce and manage inflationary
expectations without another crisis occurring if they lost control of the
inflationary process.
A policy of managed inflation makes a heroic assumption about the
state’s capacity to control inflation. It is fair to say that when the Bank of
Japan increased interest rates to control speculative activities, in late 1989
and thereafter, it had little inkling that its actions would lead to sustained
economic stagnation. If post-bubble deflation had proved difficult to
control and manage, there was no reason to assume that inflation could
be managed any better. In January 1999, the governor of the Bank of
Japan, Hayami Masaru quashed the idea of experimenting with managed
inflation, saying that it was inappropriate to set an inflation target or raise
prices to a certain level.28 Moreover, there was little certainty that even
induced inflation would lower the propensity to saving among Japanese
households. In the past, neither inflationary periods (after the oil crises)
nor deflationary periods (after the collapse of the economic bubble)
affected the savings rate. Thus, according to Ichimura, ‘Inflation does not
seem to reduce savings rate in Japan.’29
 Economic Stagnation in Japan 31

Others proposed that since the problem in Japan was the financial sys-
tem the only remedy was to increase interest rates to strengthen the value
of the yen and induce capital inflows to generate fresh capital injec-tion
for banks and restore their financial viability.30 An even more ambitious
plan to end the deflationary bout in Japan was the suggestion for curren-
cy reform. According to Brendan Brown, head of economic research at
Tokyo-Mitsubishi International Plc, London, it might be possible to boost
consumption and propel economic recovery if the Bank of Japan
announced a plan to exchange old notes for new ones in five years’ time,
but at a loss of, say, 10 per cent. Thus, for each Y1000 turned in, the Bank
would issue only Y900 in new notes. A simultaneous imposition of bank
charges on deposits and a cut in the discount rate to below zero would
leave consumers with a stark reality of either increasing present consump-
tion to minimize future exchange losses or else continuing to spend less
and risk higher losses in future. Brown argued that such measures would
give consumers a strong incentive to spend and provide the ‘spark for a
miraculous recovery from a period of malaise’.31
These proposals were bold and innovative and tempting, therefore, to
dismiss as impractical given the history of bureaucratic policy-making in
Japan. Bureaucracies are generally committed to routine and standard
operating procedures and unprepared to accept bold and risky policies.
The reality, however, is changing, even if slowly. Elected politicians in
Japan have steadily increased their influence in policy-making at the
expense of the national bureaucracy. This shift in the balance of power
has continued since the 1980s but the momentum of change has been
particularly rapid in recent years and since the establishment of the
Obuchi government. Politicians are beginning to assert themselves more
and this is true of, for example, the minister for international trade and
industry, in the Obuchi government, Yosano Kaoru. According to Yosano,
‘Politicians must bear the responsibility for what they do. In the past,
many tended to avoid the onus of responsibility of their decisions. That
was irresponsible. The final decision should be made by politicians. . .’32
Several factors explain relative decline in the powers of the bureaucracy
in Japan. First, the standing and prestige of the national bureaucracy
has suffered considerably following a series of corruption scandals. The
Japanese bureaucracy had the reputation of being professional and
scrupulous – unlike the political system, which was periodically exposed
as corrupt and scandal-ridden – but in the 1990s the bureaucracy too was
tainted by corruption scandals. Symptomatic of bureaucratic malfea-
sance was a finding that Ministry of Finance officials were guilty of hav-
ing accepting bribes. The Health Ministry was also exposed for its role in a
32 Japan in Crisis

cover-up involving tainted blood transfusions. Until the mid 1980s, the
Ministry of Health and Welfare did not require heat treated blood for
transfusion despite knowing of potential HIV risks. Consequently, 1800
haemophiliacs contracted the AIDS virus but ministry bureaucrats contin-
ued to deny responsibility until forced to do so by Health Minister Kan
Naoto in 1996. This was one of the rare instances in Japanese politics when
an elected politician had forced bureaucrats to admit to their incompe-
tence. To settle the affair, the Minister offered both an apology and a com-
pensation package to the victims. More recently, in 2001, several senior
bureaucrats in the Ministry of Foreign Affairs were implicated in financial
scandals, again to the detriment of bureaucratic influence and prestige.
Second, prolonged economic crisis was attributed by many to bureaucrat-
ic mismanagement and this worsened the stock of the national bureaucracy.
The Ministry of Finance had the primary responsibility for regulating the
financial sector in Japan, but it was slow to react to the debt problems of
banks and initially expected a quick recovery in the real estate sector to
restore the banks to profitability. According to Leon Hollerman, four factors
explain the inaction of economic ministries in the post-bubble recession:

1. The Ministry of Finance was not accustomed to dealing with structural

recession as opposed to cyclical recession.
2. The MOF traditionally has followed the dictates of austerity not only
for the government but also for the average consumer. Even during the
recession, it was convinced that Japanese lifestyle was ‘extravagant
and profligate’.
3. The MOF realized that apart from deregulation there was no other
long-term remedy to the problem, and unfortunately the ministry was
not an enthusiastic supporter of deregulation.
4. Bureaucrats calculated that the structural recession would remove the
less competitive, low-technology firms from the industrial stage and
assumed this to be desirable in the age of globalization.33

Third, rather than allow the bureaucracy time to repair damage to its
public standing, politicians turned up the heat and moved to pare down
the bureaucracy to reduce its policy-making influence. In January 1999,
in the process of negotiating a coalition government with the Liberal
Party, the ruling LDP agreed to cut the size of the national bureaucracy by
25 per cent over the 10 years beginning in 2001.34 Reducing the size of the
bureaucracy had been vigorously argued by the leader of the Liberal Party,
Ozawa Ichiro, as a way of reining in bureaucratic influence and increasing
the role of elected representatives in policy-making.
 Economic Stagnation in Japan 33

The more conservative LDP had, in the past, resisted the push to cut
the size of the bureaucracy by that much, but eventually agreed to do so
in order to form a coalition government and obtain the support of the
Liberal Party in the upper house of the Diet. The two coalition partners
also agreed to introduce a bill in the Diet that would abolish the common
practice of bureaucrats responding to questions during parliamentary
question time. This practice not only was inconsistent with democratic
principles but also was criticized as stifling debate in the parliament.35
The coalition partners agreed also to increase the number of parliamen-
tary appointments in each of the bureaucratic institutions as a way of tak-
ing charge of the policy process. It appeared that politicians and political
parties were willing to reform existing structures, but the coalition agree-
ment did not last, and, besides, there are reasons to doubt the LDP’s
capacity to implement genuine reforms (see Chapter 5).
Genuine administrative reforms will inevitably take time and it still
remains to be seen whether a clear demarcation can be made between pol-
icy-making by elected politicians and policy implementation by bureau-
crats. Moreover, even if the Japanese bureaucracy holds less away than
before, it still retains considerable influence, as well as expertise and spe-
cialized knowledge, in policy choices; and there is no doubt that like
bureaucracies everywhere it is committed to cautious conservatism rather
than to creative solutions to existing problems.
The many attempts to stimulate growth had little effect on the sluggish
economic conditions. Despite large public works spending programmes
and fiscal stimulus, the economy remained depressed and this was
unprecedented in postwar Japanese economic history. At the same time,
however, some manufacturing sectors were still performing well and this
reduced the urgency and need to act quickly to tackle the underlying
problems within the economy. The sectors that were performing poorly
were the financial and real estate sectors of the economy, but the lead
manufacturing industries like automobiles and electronics appeared to be
weathering the recession reasonably well.
Of course, in blaming the bureaucracy for economic mismanagement
we cannot exonerate political leaders. Elected politicians entrusted with
economic management were unprepared for the task. There were, of
course, no clear and unambiguous pressures on political leaders to act
speedily to overcome the economic crisis. Had the weight of public opin-
ion been strong there is little doubt that political leaders in Japan would
have acted much sooner to resolve the economic crisis. The recession in
Japan continued because of political indecision, due largely to lack of
pressure from the voters. Through much of this period, the Liberal
34 Japan in Crisis

Democratic Party (LDP) was in power and it suffered little voter backlash
over its handling of the economy. The LDP, therefore, was not very con-
cerned that opposition parties could use the economic malaise to their
political advantage. This was true until 1998 when poor results in the
Upper House elections forced the ruling LDP to reconsider its policy prior-
ities.
For much of the 1990s, if political leaders felt any domestic political
pressure, it was to revamp the political system and reduce the incidence of
money politics and corruption. In the early 1990s the political system was
shaken by a series of corruption scandals which led to demands for elec-
toral reforms. Japan’s multi-member political districts were associated
with the prevalence of money politics, and to placate voter anger Prime
Minister Miyazawa promised electoral changes to reduce the costliness of
elections and the incidence of corruption scandals. Miyazawa, however,
failed to reach a compromise agreement with opposition political parties
on the nature of reforms. This prompted a parliamentary no-confidence
motion sponsored by the opposition political parties and passed when a
sizeable number of reform-minded LDP politicians crossed the floor to
vote with the opposition parties. This open breach of party unity was the
first step to large-scale defections and the establishment of new conserva-
tive political parties. Weakened by defections and suffering voter back-
lash, the LDP, for the first time since 1955, lost its hold on political power
in the 1993 elections. After a short interregnum, however, the party
returned to government the following year.
The loss of office did not necessarily represent a popular rejection of
conservative politics. Indeed, the total conservative vote remained rela-
tively intact and the LDP lost office only because that vote was now
spread over several competing political parties. Defections and the forma-
tion of new political parties were the main reasons for the LDP’s electoral
failure. At the same time, the 1993 elections offered no comfort to the
main opposition party, the Social Democratic Party of Japan (SDPJ),
which was also decimated. To the extent that voters were dissatisfied with
the party in power, the same dissatisfaction extended to the opposition
parties as well. The election result was not necessarily an endorsement of
opposition policies.
The election results were disastrous for the LDP as well. Throughout the
postwar period, the LDP had provided political stability within Japan but
its loss of the election plunged the political system into several years of
instability and stalemate, as parties formed and re-formed. The period
after the 1993 elections was a period of intense political turmoil and fluid-
ity and, naturally perhaps, economic management suffered. In the
 Economic Stagnation in Japan 35

absence of political direction, the bureaucracies remained in control and

their management of the economy lacked the determination and deci-
siveness to tackle a worsening problem.
Between 1991 and 1998, the economic stimulus measures of the
Japanese government centred on increased public expenditure and inter-
est rate reduction. These had little real impact on economic growth. There
were few steps taken to deal with the plight of financial institutions in
Japan and resolve the credit crunch by sorting out the bad debt of banks
and financial institutions. The EPA belatedly acknowledged this, and in a
report published in December 1998 it noted that failure of the economic
stimulus packages was due to governmental neglect of the sorry state of
the nation’s financial structure.36 In a sense this recognition was forced
upon the Japanese government by the Asian crisis and by increased inter-
national pressures to play a positive role in managing the crisis by reflat-
ing the economy and increasing Asian imports.
Failure to deal with the domestic financial and banking crisis was a
main reason for the prolonged economic stagnation in Japan. Bad debt
impeded bank lending capacity, which in turn held back economic recov-
ery; moreover, given very low interest rates, it was natural that depositors
fled the banking sector for other safer and more rewarding institutions.
One problem here was the inadequacy of a depositor insurance system.
Without an adequate insurance system and the known difficulties of the
banks in Japan, it was to be expected that bank deposits were no longer
regarded as completely safe. In Japan the Deposit Insurance Agency (DIA)
had been established about twenty years earlier, but as Shimada has
argued, this was done more to establish an international ‘alibi’ than to
perform any real function.37 The DIA was placed under the jurisdiction of
the Ministry of Finance and until recently had only 14 employees. More
recently, the DIA has acquired a higher profile and increased its staff size
to 280, but it still lags well behind the equivalent American agency, which
has 21 000 employees, including 3000 inspectors.
During years of rapid economic growth, the government was often
credited for its sagacious economic policies. The post-bubble economic
crisis altered that popular perception of the Japanese political system. The
crisis did not necessarily expose government failures that had somehow
escaped detection during years of high economic growth, but political
instability added to economic woes. In the first half of the 1990s, the
Japanese political system was rocked initially by a series of scandals and
crises and later by uncertainties surrounding electoral and political
reforms. However, when the opportunity for decisive and strong leader-
ship presented itself the Japanese government proved singularly unable
36 Japan in Crisis

to rise to the challenge. Political mismanagement thus became an import-

ant source of prolonged economic stagnation in Japan especially during
the administration of Prime Minister Hashimoto. In 1996, the Japanese
economy appeared to be on the brink of economic recovery with a 3.9 per
cent growth in GDP but the government, unintentionally, killed that
with an increase in consumption tax from 3 per cent to 5 per cent in 1997.
This ensured there would be no resurgence of consumer spending to
sustain a fragile economic recovery. The government of the day was
more concerned with repairing its fiscal health than with quick economic
recovery. Admittedly, this was at the behest of the conservative Ministry
of Finance and served only to discredit its ability to manage the economy.
Moreover, political leaders and bureaucrats generally felt that time
would inevitably produce recovery as asset prices recovered from their
depressed state. They were convinced that property prices would eventu-
ally increase and resolve the bad debt situation of the banking sector.
They were seemingly prepared to wait for that to happen, but in the
process wasted nearly the entire decade of the 1990s, just as the decade of
the 1980s had been a decade of lost developmental opportunities for the
Latin American countries as a result of their own debt crisis.

Conclusion

In July 1998 the Diet appointed Obuchi as the new prime minister and
soon after taking office he announced fresh plans to revitalize the econo-
my with an injection of Y6 trillion in permanent tax cuts and a supple-
mentary budget of Y10 trillion. The new government also prepared
various bailout strategies using public funds, but in mid-September 1998
the Diet for the third time rejected a plan to bail out Japan’s banking sec-
tor. Opponents argued that it was inappropriate and wasteful to use pub-
lic funds to bail out banks, which should instead be forced to close.38 This
went to the heart of the ‘moral hazard’ issue, according to which commer-
cial enterprises that engaged in risk-taking behaviour for profit must not
expect to receive public assistance to compensate for losses resulting from
management errors. This is based on the view that since profits and losses
are the opposite sides of the same coin, the market, unfettered by govern-
ment bailout operations, should be the sole arbiter of investment out-
comes. The moral hazard issue also suggests that governmental bailout of
insolvent corporations will only heighten expectations of future bailouts
and diminish corporate responsibility in managing risks.
In reality, however, few governments are able to resist pressures to inter-
vene to ensure the survival of strategic and major industries. In particular,
 Economic Stagnation in Japan 37

democratic governments are extremely susceptible to domestic popular

pressures and may find it harder to resist bailing out a troubled industry
for fear of adding to unemployment and popular discontent. Thus, even
in the US, where the government is more committed to free market prin-
ciples than elsewhere, there was no choice but to bail out, for example,
the Chrysler Corporation when it faced bankruptcy owing to its inability
to compete with Japanese imports. In Japan, the difficulties confronting
the Long Term Credit Bank (LTCB) prompted Prime Minister Obuchi to
state in an interview that ‘Obviously, we cannot tell LTCB to quit operat-
ing simply because the management of that bank was incompetent.’39
Prime Minister Obuchi insisted that the government could not permit the
failure of a large bank like the LTCB because of the effect this would have
on the economy as a whole. The LTCB had liabilities exceeding 1.2 to 1.3
times the entire GDP economy of Indonesia and its liquidation
would, argued the government, have enormous detrimental effects on
the Japanese economy. These statements by the prime minister merely
reflected a long-established Ministry of Finance policy of not permitting
bank failures. By late September 1998, however, agreement had been
reached between the ruling LDP and the opposition parties led by the
Democratic Party of Japan to rescue the ailing LTCB and pave the way for
a resolution both to the banking crisis and the general economic malaise.
As mentioned above, the Japanese government has relied on extensive
fiscal measures to revive economic growth. These have not had the
desired impact, but it is possible that economic conditions would have
been much worse without fiscal pump-priming. Certainly the growth
outcomes would have been considerably worse and that would have led
to high levels of corporate sector bankruptcies and unemployment. On
the other hand, it is possible that the severity of economic crises, without
fiscal intervention, might have been the necessary condition for mean-
ingful reforms in Japanese political economy. These counter-factuals are
impossible to assess and evaluate.
After muddling through years of economic stagnation, Prime Minister
Obuchi began the difficult task of banking and structural reforms. Prime
Minister Koizumi revived the reform agenda in 2001, and declared also
that sustainable recovery was unlikely without some short-term econom-
ic pain. As ‘pain’ began to look more like recession, the government also
warmed to the idea of price stability, even inflation, to combat the defla-
tionary spiral that had dampened consumer spending, in the expectation
of cheaper prices in future. The government was desperate to change con-
sumer spending habits and in the thirteenth economic recovery package
announced in early March 2001 urged the Bank of Japan to lower interest
38 Japan in Crisis

rates and set targets for price stability.40 Interest rates were already hover-
ing near zero and had failed to impact on consumption or investment
decisions of consumers and corporations. However, in mid-August 2001,
having previously rejected suggestions for managed inflation, the Bank of
Japan agreed to inject additional liquidity into the Japanese economy
to fuel inflation and end price deflation. It decided to increase its
monthly purchase of government bonds and raised cash reserves avail-
able to the banking sector. The Bank of Japan, independent from the gov-
ernment, had been under sustained governmental pressure to play a
constructive role and it ultimately succumbed to pressures to print
money and fuel inflation. The move was calculated to absolve the bank
from future blame for worsening economic conditions and Governor
Hayami Masaru made it clear that only the government could be held
responsible for any failure to achieve economic recovery.41
3
Financial Reforms in Japan

Economic growth in Japan in the 1990s was intermittent and modest.

Recovery from the post-bubble crisis was complicated by the interplay of
low consumer spending, regulatory inefficiencies and bottlenecks, non-
performing loans in the banking sector, corporate indebtedness and
structural impediments. Of these, the crisis within the financial sector
was a fundamental impediment to growth. A sharp fall in real estate prices
had devalued the worth of loan collateral and borrowers also experienced
difficulties in meeting their repayment obligations as a result of the eco-
nomic downturn. Given the nature of relationship banking in Japan,
banks were reluctant to move against debtors and to dispose of collateral
at market value in order to recover outstanding loans. The rise in non-per-
forming loans (NPLs)1 led to a contraction of new lending by financial
institutions and this adversely affected business conditions.
Japanese financial institutions were also undercapitalized and con-
fronted other structural problems that did not bode well for their
competitiveness in a deregulated financial market and under global mar-
ket pressures. Insufficient capital reserves meant that banks could not
write off bad loans and they also had no recourse to an institution such as
the American Resolution Trust Corporation to dispose of non-performing
loans. According to publicly disclosed figures, total loan loss provisions
for all financial institutions in Japan was 2.11 per cent of total outstand-
ing loans in March 1996, compared with total NPLs of 4.88 per cent of
total loans.2
Analysts and policy-makers were not completely oblivious to problems
that plagued the Japanese economy, but for much of the 1990s a policy of
benign neglect characterized the government’s response to the banking
crisis. The government assumed that, in time, bank profitability would
gradually recover and enable them to retire their NPLs without the

39
40 Japan in Crisis

necessity of government intervention to resolve the crisis. The strategy

was upset by the Asian crisis, which became a catalyst for a new approach
to resolving the domestic financial crisis. The initial emphasis of govern-
ment measures in the post-Asian crisis phase was to strengthen the finan-
cial position of the banks, but little was done to resolve the problem of
non-performing loans and corporate indebtedness, whether by encour-
aging banks to forgive debt or by moving against debtors by confiscating
and disposing of loan collateral in order to recover their losses. Resolution
of NPLs within the banking and corporate sector received considerably
more attention in the aftermath of a stock market crash in early 2001. In
particular, Prime Minister Koizumi indicated that his government would
seek a complete elimination of NPLs within the next two to three years. In
this chapter, I will look at the nature of the banking crisis in Japan and rel-
evant policy measures before and after the Asian financial crisis. I will
focus mainly on efforts to recapitalize and restructure the banks in the
late 1990s and in 2001.

Crisis in the Japanese financial sector

There are several explanations why Japanese financial institutions were

beset by a protracted crisis in the 1990s. For much of the postwar period,
Japanese banks and financial institutions were regarded as part of the
virtuous cycle that ensured continued economic growth and prosperity.
They exercised due diligence over client firms and borrowing institutions,
ensuring in the process profitability for the firms and for themselves. The
system fell apart in the 1990s.
Financial deregulation for example, had opened up new sources of cap-
ital for large firms, such as borrowings on capital markets. This forced
financial institutions to broaden their client base, loosen lending criteria
and increase lending to more risky customers, even for speculative eco-
nomic activities. These practices of Japanese financial institutions were
sustained by excessively inflated prices of real estate and other assets used
as collateral for borrowed capital. When the bubble burst, asset prices also
collapsed and lending institutions were left with a high proportion
of unrealizable loans. The increase in NPLs had an adverse effect on bank
lending policies, and the ensuing credit squeeze meant that even viable
and profitable firms were denied access to investment and operating
funds.
In order to promote overall economic recovery, it was essential to first
resolve the crisis confronting banks, but successive governments refused
to commit public funds to assist in a bank-led economic recovery.
 Financial Reforms in Japan 41

Instead, financial institutions were encouraged to increase lending

to overseas markets, primarily in Asia, and use foreign profits to cover
domestic losses. Unfortunately, NPLs accumulated faster than could be
written off from profit streams, and even this avenue was foreclosed by
the Asian financial crisis of 1997, which added to the non-performing
loan burden of Japanese financial institutions and exacerbated their dis-
tress. The dire predicament of Japanese financial institutions, previously
concealed by the limited availability of statistical information, became
more apparent after the collapse of some domestic banks. The official pol-
icy of protecting banks from collapse now lay in tatters, and the govern-
ment was forced to abandon its policy of benign neglect to intervene
actively to resolve the banking crisis.
The other underlying problem for Japanese financial institutions
was that, apart from high levels of non-performing loans, they were
also at a competitive disadvantage compared with large western finan-
cial institutions. In a global economy, relatively small Japanese financial
institutions were at a distinct disadvantage, and to the extent that finan-
cial liberalization was unavoidable it was necessary also to reform and
strengthen Japan’s banks to enhance their international competitive
strength. As well as the size factor, regulatory processes also had to be
brought into line with international practices to ensure the proper sur-
veillance and monitoring of financial institutions. The lack of regulatory
transparency and surveillance was similar to the situation in the 1970s
and early 1980s, which had contributed to the Latin American debt crisis.
At that time, western financial institutions were unaware of the total
debts of borrowing countries and continued to offer loans beyond safe
and prudential levels. The remedial tasks of financial sector reform in
Japan, neglected through the 1990s, became a focus of attention for the
government after 1997 when the Asian crisis exacerbated an already
critical situation. In December 1997, Yamaichi Securities, one of the
largest brokerage firms in Japan, was forced into bankruptcy. Likewise,
the Hokkaido Takushoku Bank was also forced to file for bankruptcy.

Lax Japanese banking regulations had led to a breakdown of market disci-

pline during the period of the bubble economy and the task now for the
Japanese government, according to the Bank of Japan, was to construct
an efficient and stable financial system:

With respect to efficiency, what is required of the new financial system

is the full functioning of the market mechanism, incorporating the lat-
est innovations and other developments taking place in the markets.
42 Japan in Crisis

With respect to stability, if the market check mechanism functions

effectively, it should urge prompt review of the management of a
financial institution to correct problems at an early stage, thereby
averting the possibility of risk being amplified. Disclosure is a means to
stimulate such a market check mechanism, and to thereby ensure
financial system stability. Improved disclosure practices are necessary
in view of rapid technological innovation in financial markets and the
sophistication of risk management systems, they will strengthen indi-
vidual institutions’ competitiveness in the global financial markets,
and will also benefit the financial system as a whole.3

Even before the Asian crisis, Prime Minister Hashimoto had emphasized
the imperative of reform in various sectors of the Japanese political econ-
omy. The government portrayed itself as reformist by highlighting its
commitment to the so-called ‘six plus one’ reforms.4 The six areas target-
ed for extensive reforms and deregulation were the public sector, eco-
nomic structure, fiscal policy, social welfare, financial structure and
education. The ‘plus one’ referred to the declared objective of decentral-
ization and relocating some administrative structures outside Tokyo in
order to alleviate population pressures in the metropolitan Tokyo district.
The reform agenda was ambitious but necessary to recreate the bases of
economic growth and end the long period of stagnation. However, imple-
mentation of reforms suffered from lack of a clear sense of direction and
from opposition emanating from various vested interests in the domestic
society. While regulatory controls had the effect of reducing domestic
competition, some sectors had emerged as beneficiaries and they were
determined to resist deregulation. These recipients of economic rent
attempted to undermine the reform agenda by suggesting that regulatory
controls were essential not only for economic reasons but for social, cul-
tural, health, safety and environmental considerations.5 These were argu-
ments that the Japanese government had itself employed in the past to
resist foreign demands for liberalization.
Nonetheless, the Hashimoto administration can be credited with the so-
called big-bang financial reforms. At the same time, however, the govern-
ment faltered in the task of resolving the banking crisis and this continued
to impede economic growth and recovery. This failure stemmed from a
misreading of the economic situation and the consequent prioritization of
deficit reduction policies. The Hashimoto government failed to alter its
policy priorities even after the Asian crisis. Despite acclaimed Japanese
‘flexible rigidity’, the government was more rigid than flexible and at a
critical juncture in the late 1990s was wedded to a policy of fiscal conser-
 Financial Reforms in Japan 43

vatism and austerity. Policy flexibility is not a term that could be applied to
describe the Hashimoto administration. Yet, the commitment to deficit
reduction was understandable, as total public sector deficits were close to
annual Japanese GDP. This was a figure considerably higher than for any
other advanced industrial democracy and, coupled with the certainty that
an ageing population would place greater pressure on public finances in
future, meant the task of deficit reduction had to be taken seriously.
Japan has a rapidly ageing population, which means there will be fewer
people in the productive age groups to support the aged beneficiaries of
social welfare programmes. Indicative of changing Japanese demograph-
ics is the fact that the number of individuals in the productive age bracket
of 15 to 64 will decline from 86.5 million in the year 2000 to 73.8 million
by 2020. Concomitantly, the number of individuals aged 65 and above
will increase to 33.3 million by the year 2020, from 21.8 million in 2000.
Interestingly as well, these changes are taking place in the context of a
shrinking population base. The fertility rate in Japan, at 1.4, has fallen
well below the replacement rate of 2.1 and as a result the total Japanese
population, which was 127 million in the year 2000, will decline to 124
million in the year 2020 and to only 67 million by the end of the century.6
The ageing population profile will add to future demands on public wel-
fare provisions, and prudent fiscal management dictates the generation
of current surpluses in readiness for future deficits.
During the Hashimoto administration, the malaise within the banking
sector was allowed to fester, with no credible plan to restore the viability
of financial institutions. The broad policy parameters remained un-
changed and the government also approved a controversial increase in
consumption tax. The magnitude of tax increase was not particularly
large but the immediate outcome was to further dampen consumer
spending and stymie an incipient consumption-led economic recovery.7
In mid-June 1998, to mark the close of the 142nd session of the Diet,
Prime Minister Hashimoto acknowledged the urgency of tackling the
banking and economic crisis. However, before he could chart a new pol-
icy direction, he was forced to resign following a disastrous setback in the
Upper House elections in early July 1998 (Table 3.1). A large number of
voters had deserted the LDP and dealt a severe blow to pre-election LDP
hopes of regaining control of the Upper House.8
In the Upper House elections half of the 252 seats were contested and
the expectation was that the LDP would win a few more than the 61 LDP-
held seats being contested. These, together with the 58 seats held over,
would still not give the LDP a majority in this chamber, which required
it to win at least 69 of the contested seats. But analysts agreed that if
44 Japan in Crisis

Table 3.1 1998 Upper House election results

Party Seats won Seats held over Total

Liberal Democratic Party 44 58 102

Democratic Party of Japan 27 20 47
Komei Party 9 13 22
Social Democratic Party of Japan 5 8 13
Japan Communist Party 15 8 23
Liberal Party 6 6 12
Kaikaku Club 0 3 3
Sakigake 0 3 3
Niin Club 0 1 1
Independents 20 6 2

the LDP improved its representation, even if marginally, then the results
would permit the party to proclaim victory. In the end, the LDP won only
44 seats and the result was particularly poor in the urban centres of Japan.
The party failed to win a single seat in Tokyo, Osaka, Aichi, Kanagawa,
Saitama or Kyoto. The LDP’s electoral failure was due to a high voter
turnout in the urban centres, which in turn reflected popular disenchant-
ment with the policies of the government and its failure to deal with a
mounting crisis. Unlike the previous Upper House election, three years
earlier, when voter turnout was only 44.5 per cent, in the 1998 election
voter turnout increased sharply to 58.8 per cent. High voter turnout was
damaging to the LDP, and urban voters swamped the strong electoral sup-
port for the LDP among farmers in the rural districts of Japan. As is the
norm in Japanese politics, Prime Minister Hashimoto accepted respon-
sibility for LDP’s poor electoral performance and resigned from office.
Hashimoto’s failure to deal decisively with the banking crisis belied his
image of a dynamic politician intent on introducing sweeping reforms to
restore the bases of economic growth. Following his resignation, the
more powerful Lower House of the Japanese Diet, dominated by the LDP,
selected Obuchi Keizo as the new prime minister. The policy activism of
the new government was apparent from the beginning. The contrast
between the two administrations was particularly striking because
Hashimoto had cultivated an image as a charismatic and dynamic leader
whereas Obuchi was berated as dull and uninspiring. When Obuchi
became prime minister, he had the dubious distinction of being the least
popular of new prime ministers. Indeed, he was also the least popular,
in terms of public opinion, of the three candidates competing for the
position of party presidency, which included Koizumi Junichiro and
Kajiyama Seiryoku. John Neuffer, publisher of a political newsletter in
 Financial Reforms in Japan 45

Tokyo, used the analogy of a ‘cold pizza’ to describe the new prime minis-
ter, who could offer only the lame rejoinder that a cold pizza could at least
be warmed up.
With an image as a weak politician and an uninspiring leader, few
expected much from Obuchi. Apart from personality issues, expectations
were low also because of the electoral success of opposition political par-
ties, particularly the Democratic Party of Japan and the Japan Communist
Party, which were better placed to obstruct government bills in the
parliament and derail LDP’s policy agenda. Since both these parties had
strengthened their parliamentary position by distancing themselves
from the LDP, analysts expected that the LDP would face increased diffi-
culties in passing bills through the parliament and in pursuing its eco-
nomic agenda. Indeed, in late 1998 the Democratic Party of Japan was
able to mount a serious challenge to LDP dominance and stymie the pas-
sage of a couple of bills in the Diet to restructure the financial institutions
in Japan and provide capital injections to strengthen their capital base.
Given the potential legislative impediments facing the Obuchi govern-
ment, its achievements were striking and it proved intent and resolute in
addressing the problems confronting the Japanese economy. With the
benefit of hindsight, even John Neuffer was prepared to be more charit-
able to the prime minister, acknowledging that he had exceeded all
expectations.9 Obuchi could not overcome the tag of a dull leader but he
was still an effective politician. An Asahi Shinbun poll in April 1999 found
that 37 per cent of those polled supported the Obuchi government. This
was a record high for any Japanese prime minister in recent years, and cer-
tainly a sharp contrast with the approval rating of his successor Mori,
whose popularity was in single digits in early 2001.
In his public speeches as a candidate for the LDP presidency, Obuchi
stressed the importance of domestic recovery by declaring it an ‘inter-
national responsibility’ and ‘duty’ that Japan had to fulfil. Upon taking
office he pledged he would implement measures to stop the economy
contracting for the third straight year. He took his cue from the July 1998
election results and political backlash against the Hashimoto administra-
tion. The focus on economic recovery was necessary also in order to pre-
vent the newly established Democratic Party of Japan from mounting a
credible challenge to the LDP at the next general elections. Elections were
not due until the year 2000 but that still did not give the LDP much time
to reverse either the course of the economy or the fortunes of the LDP.
In their bubble economy period the East Asian countries, like Japan
earlier, had invested in considerable additional production capacity. The
1997 crisis led to a collapse of both domestic consumption demand and
46 Japan in Crisis

export trade, and these countries were left with considerable under-
utilization of capacity. East Asian economic recovery depended on access
to new markets to absorb surplus production capacity and, obviously,
expectations were that Japan would step in to fill the breech. US President
Bill Clinton, for instance, stated that

it is difficult to see how any actions of the world community can be

successful in restoring growth in Asia in the absence of growth in
Japan, which would enable Japan to lead the region out of its present
condition.10

The Japanese economy constituted 70 per cent of the region’s economy

and it had substantial capacity to absorb surplus regional production.
According to estimates, a 1 per cent expansion of the Japanese GDP
would increase Asian (excluding Chinese) imports by 0.8 per cent to
2.94 per cent, with a resulting Asian GDP expansion of 0.04 per cent
to 0.15 per cent.11 Clearly a robust Japanese economy could play an
important role in an export-led regional recovery.
The difficulty was that Japan was mired in its own economic crisis and
surplus production capacity. At the same time, the Japanese government
could not ignore the crisis in its region because of its potential to drag the
Japanese economy into a deeper crisis. This became palpably clear when
in late 1997 the Japanese economy was rocked by the collapse of Yamaichi
Securities, one of the leading brokerage firms in Japan. Thus in 1997–98,
apart from international pressures to reflate the economy to contribute to
Asian recovery, there were legitimate reasons of self-interest for the
Japanese government to stimulate economic growth.

Banking sector reforms in Japan

After some marginal improvement in economic conditions in the mid-

1990s, the Japanese economy actually contracted in fiscal year 1997
(April 1997 to March 1998), the year of the Asian crisis. The contraction
was small – 0.7 per cent below the previous year – but the outlook was
worse for 1998. In late 1998 the Japanese government endorsed an EPA
estimated economic contraction of 1.8 per cent for fiscal year 1998. It was
the first time in the postwar history of Japan that economic contraction
was predicted for two consecutive years. In the third quarter of 1998 the
economy actually shrank at an annual rate of 2.6 per cent. This marked
the fourth consecutive quarter of economic contraction in Japan and was
the longest period of contraction in postwar Japanese history. Reflecting
 Financial Reforms in Japan 47

the poor state of the economy, the Nikkei share market index, on 5
October 1998, closed below 13 000 for the first time since late January
1986.
In forming his cabinet, Prime Minister Obuchi appointed Miyazawa
Kiichi as minister of finance. Miyazawa, a former prime minister, was con-
sidered ideal for the position given his reputed expertise in economic
management and market credibility. He had been the finance minister in
the late 1980s at a time when the economy was beset by a sense of gloom
brought on by the Plaza Accord of 1985 and the appreciation of the
Japanese yen. To prevent excessive exchange rate realignment, Miyazawa
authorized market intervention to shore up the value of the dollar and
lower the value of the yen. He is also credited with the subsequent cuts to
the official discount rate (to 3.0 per cent in November 1986 and to 2.5 per
cent in February 1987) which were made to stimulate economic activity.
His reappointment as finance minister in 1998 was intended to reassure
markets that the government was serious about achieving economic
recovery.
After years of ignoring a problem, the Obuchi administration finally
began the important task of resolving the bad debt problem that plagued
Japanese banks. In October, the government secured legislative passage of
a bank bailout bill that committed US$506 billion (Y 60 trillion) in
financial assistance to banks burdened by bad and questionable loans.
According to findings of the Financial Supervisory Agency (FSA),12 the
total amount of problem debts, defined as loans whose recovery was
either dubious or unlikely, of all national banking institutions, at the end
of September 1998, was Y 73 trillion, an increase of Y 1.3 trillion since
March that year.13 The amount the government committed to the bailout
plan was five times the amount the US government had used to clean up
the debt of savings and loans banks a few years earlier (see p. 49 below).
As ever, opinion was divided, some critics claiming that the rescue pack-
age was still insufficient while others cautioned that the system was too
weak to withstand restructuring.
Previous governments had rejected the use of public funds to bail out
banks because of perceived popular antipathy. Following an earlier
bailout of housing loan corporations ( jusen) associated with the ruling
Liberal Democratic Party, public opinion had turned against the use of
public funds to assist companies in distress. The jusen had been estab-
lished by banks and other financial institutions in the 1970s to provide
loans to for housing and other purposes. The banks, by contrast, limited
their lending largely to corporate clients. When the economic bubble burst
and real estate prices collapsed they were saddled with large unrecoverable
48 Japan in Crisis

loans. In 1996 the government was forced to bail out the jusen with about
Y 685 billion in public funds. The amount spent on the bailout plan was
not large but still generated considerable public opposition. Noting the
strong public distaste for taxpayer-funded bailouts of private enterprise,
Cargill et al. predicted that ‘policymakers are likely to be very reluctant in
the future to propose public funding as part of any solution in dealing
with financial problems’.14 In 1998, however, the government and
opposition parties finally reached agreement on the use of public funds to
bail out ailing financial institutions. The agreement was made possible by
changed circumstances and shifting public sentiments. The high-profile
failure, in late 1997, of Hokkaido Takushoku Bank, Sanyo Securities and
Yamaichi Securities eroded public confidence in the safety of their savings
and deposits and there was now no great outcry against the use of public
monies to help the banks. Popular opinion now favoured whatever meas-
ures were necessary in order to guarantee the safety of their deposits.
In order to proceed with the task of resolving the banking crisis,
the Japanese Diet approved the Financial Rehabilitation Law in late
1998. This also led to the establishment of the Financial Restructuring
Commission (FRC) to oversee banks that were temporarily nationalized
as part of the restructuring programme. The FRC was located in the Prime
Minister’s Office and headed by a political appointee holding ministerial
rank. Its chairman, Yanagisawa Hakuo, was a relatively obscure LDP
politician who without this opportunity would have finished his political
career without any noticeable achievement. He now had the chance to
distinguish himself and quickly established himself as an important
member of both the Obuchi and the successor Koizumi administrations.
His reformist determination and rise to prominence became a source of
tension between himself and his faction leader, Kato Koichi. Most unusu-
ally, in the context of Japanese politics, Yanagisawa subsequently left the
Kato faction of the LDP to set up an ‘anti-Kato’ group.
The appointment of a political figure to chair such a crucial institution
and the decision to keep the FRC independent of the Ministry of Finance
were indicative of the shifting balance of power between elected politicians
and bureaucrats. However, the FRC was still written off as a lapdog of the
Ministry of Finance since it was to be staffed by bureaucrats from that min-
istry. The FRC was also derided as yet another institutional response that
would ultimately fail to effectively regulate the banking sector. Nevertheless,
it demonstrated its independence and in six months had achieved more to
strengthen the banking industry than had the Ministry of Finance since the
onset of economic stagnation in Japan. The FRC proved its worth by insist-
ing on genuine restructuring efforts in the banking sector based on informed
 Financial Reforms in Japan 49

and accurate assessment of the problems. Christopher Mahoney, the man-

aging director of Moody’s Investment Services, gave a strong vote of confi-
dence to the FRC when he said, ‘The government rescue of the Japanese
banking system has finally begun in earnest. It appears coherent and well
conceived, and a full-blown banking crisis will be avoided.’15
Under the FRC rescue plan, banks which were near bankruptcy were to
be nationalized and restructured with the assistance of a government
injection of funds. Other banks with serious debt problems would be
encouraged to apply for public funds to write off bad debts and would in
return be required to undergo tough restructuring and cost-cutting
measures. The model for the Japanese plan was the Resolution Trust
Corporation (RTC) that existed in the United States between August 1989
and December 1995 to resolve the crisis in the savings and loans institu-
tions. The American savings and loan crisis affected small institutions
that were adversely affected by problems in the energy sector and the col-
lapse of several major real estate markets. In terms of the magnitude of
the crisis, between 1980 and 1994, nearly three thousand banks with
more than US$900 billion in assets either were closed or received finan-
cial assistance from the Federal Deposit Insurance Corporation (FDIC).
The resolution of the crisis had the following three components:

1. Purchase and assumption of transactions This involved the purchase by

a healthy financial institution of all the assets of a troubled institution
in return for assuming, at a minimum, all insured deposits and pos-
sibly all deposits.
2. Deposit payoffs When no purchaser could be found, the FDIC or RTC
would pay depositors of the failed institutions the amount of insured
deposits, and depositors with uninsured deposits and other creditors
would receive a proportion of the proceeds from the sale of assets.
3. Open bank assistance The FDIC provided loans to financial institutions
in return for restructuring and new management structures.16

In Japan, banks that were forcibly nationalized had their stocks and
shares declared void and the FRC was given the powers to appoint a new
management team to reorganize and run the bank. Interestingly, the
process of public acquisition of private banks and the nullification of
shares could possibly be seen as unconstitutional, as it violated individual
property rights that are guaranteed under the constitution. The measures
adopted by the government, however, were not challenged in the courts.
The main task of the FRC was to separate the bad and the healthy assets of
individual banks and to submit a plan for the disposal of bad ones.
50 Japan in Crisis

The Long-Term Credit Bank of Japan (LTCB), the tenth largest bank in
Japan, was the first banking institution to be nationalized and placed
under the rescue programme. The LTCB’s financial difficulties began with
questionable loans to the EIE Group, an ambitious and high-profile
international resort development firm. High exposure to the property
sector was the undoing of the LTCB. Loans to EIE alone, at their peak,
totalled more than US$3 billion and nearly a quarter of that loan ulti-
mately became unrecoverable once the economic bubble had burst.17
In late October 1998 the government declared the LTCB insolvent and
acquired all its shares. Earlier in that same month, the Financial Supervisory
Agency had reported that the LTCB, as of 30 September 1998, had more
liabilities than assets. LTCB shares, had in February 1998 been trading at Y
373 but slumped to Y 2 before share trading on the Tokyo stock exchange
was suspended. The rescue of the LTCB came too late for one of its sub-
sidiaries, the Japan Leasing Company, which was forced to declare bank-
ruptcy in September 1998. Japan Leasing had total liabilities of Y 2.14
trillion and was the biggest postwar bankruptcy in Japan. In mid-
February 1999, the FRC decided that it would sell Y 2 trillion of LTCB’s
Y 4.6 trillion in bad debts to the Resolution Trust Corporation (RTC),18
which had been established to dispose of the bad debt of the nationalized
banks. The remaining bad loans were to be kept on the LTCB’s books
because it was considered too difficult to dispose of them to the RTC.
The FRC also announced that it eventually would sell LTCB to another
financial institution after it had been returned to financial viability. The
FRC appointed Goldman Sachs to find a suitable buyer for the LTCB. In
mid-1999, Mitsui Trust & Banking and Chuo Trust and Banking, which
were to merge in 2000, were reported to have begun talks to take over the
LTCB. Later that year, however, the government gave US-based Ripplewood
Holdings first right of negotiations to take over the LTCB, in preference to
Mitsui and Chuo, because of the latters’ demand for additional govern-
ment assistance to facilitate the takeover.19 Under Ripplewood, the LTCB
was restructured and resumed trading as Shinsei Bank.
When the FRC began the task of financial rehabilitation, it was com-
monly understood that of the 17 major banks in Japan, 5 were reasonably
safe, 7 were in dubious shape and the remaining 5 could be nationalized
and brought under the official rescue programme. However, only one
other bank, Nippon Credit Bank, was nationalized. Obviously therefore,
the government’s rehabilitation plan was only going to provide a partial
solution to the crisis in the financial sector but it still reflected poorly on
the unwritten policy of the Ministry of Finance that no major banking
institution would be permitted to fail.
 Financial Reforms in Japan 51

Another aspect of the bank rescue programme was the injection of public
funds for the recapitalization of the capital base of banks. According to Bank
for International Settlement guidelines, banks which maintain an interna-
tional presence are required to maintain an equity ratio of 8 per cent of total
assets, a stipulation negotiated in Basle, Switzerland, in 1988. At that time,
the British and American governments expected that bank reserves would
be in the form of equity capital. However, the Japanese government and
banks obtained the concession that they could apply the unrealized gain on
their equity (stocks and so forth) portfolio toward the minimum reserve
requirement. Under the agreement, Japanese banks had to keep 4 per cent of
assets as equity but could include unrealized gains toward the remaining 4
per cent. At the time of the bubble economy and a soaring stock market this
suited their purposes, but once the Nikkei share market index crashed
Japanese banks became non-compliant with BIS reserve requirements.
As of 30 June 1998 the top 19 banks in Japan had outstanding loans of
US$3.1 trillion but reserves of only 4 per cent.20 To return to compliance,
banks could either reduce their assets portfolio or withdraw from interna-
tional transactions. Only a few banks opted for the latter option because
of a perceived danger that any de facto acknowledgement of the full extent
of bad loans would jeopardize long-term survivability. That seemed to be
the lesson of the failure of Hokkaido Takushoku Bank’s, which had
withdrawn from international transactions but still collapsed under the
weight of bad debt. Only Daiwa Bank and Mitsui Trust and Banking
Company announced, in October 1998, that they would close interna-
tional operations because of their inability to meet capital adequacy
requirements. Most banks took the former option, which in turn led to a
debilitating credit crunch that exacerbated deflationary pressures in
Japan. By using public funds to recapitalize the banks’ equity base, the
government hoped to enable banks to resume lending in Japan and ease
the credit crunch.21 The funds were to be used to wipe out bad debt.
The government encouraged major banks to apply for financial assist-
ance, but in the initial stages only a handful of banks asked for public
funds, the others opting to maintain the fiction that they could ride out
their existing difficulties. There was also a fear that an application for
public funds would lead to a disclosure of the true state of their financial
position and that this transparency might only weaken them further. The
reluctance of banks to apply voluntarily for public funds prompted the
Financial Supervisory Authority to begin an examination of all banks
in the expectation that a process of dialogue between banks and the
FSA would lead to a restructuring programme for the banking sector. FSA
activism was to ensure that more banks actually applied for funds from
52 Japan in Crisis

the government before the end of the fiscal year, once the restructuring
plans had been finalized.
In January 1999, the FRC urged the 17 banks to accept public funds to
write off a substantial portion of their bad debt by the end of the fiscal
year. The minister promised favourable terms for capital injections on
condition that banks restructured their business and streamlined their
management. By early 1999, banks had only taken up Y 5.8 trillion of the
available funds, which represented a strengthening of capital base by
only 1 per cent for the city and regional banks.22 The precariousness of
financial institutions can be seen from the example of the Sumitomo
Bank, which was considered healthy and, at one time, a good prospect to
take over the LTCB prior to its nationalization. In November 1998 the
Sumitomo Bank itself applied for public funds, though only for Y 500 bil-
lion, under the recapitalization plan to help it write off bad debt.
For the fiscal year 1998, banks had to apply by 15 February to obtain
public funds to write off bad debt. The FRC insisted that banks prepare
and demonstrate a genuine commitment to reform. The determination
shown by the FRC to resolve the banking crisis impressed financial mar-
kets and banking shares were among the best-performing stocks in the
Tokyo market in early 1999. Confident that banks would acquire new
capital through the FRC and undertake genuine reform, the vice-minister
of finance, Sakakibara Eisuke, in early February 1999 declared that the
Japanese banking crisis would be resolved in a week or two.23 This was
unduly optimistic. Before the end of the fiscal year in March, only the
Bank of Tokyo-Mitsubishi, the largest Japanese bank, felt confidence in its
strength to ride out the bad loan situation confronting the Japanese bank-
ing sector in general. All the other major financial institutions were
forced to apply for public sector funds and submit to a planned restruc-
turing programme. With the injection of public sector funds, the major
banks, in mid-March, announced that they expected to write off all non-
performing loans and end years of losses, at least for the next four years.24
The rehabilitation of the banking sector is essential to the recovery of
the Japanese economy. The credit squeeze, which has crippled the
Japanese economy, will ease only after banks have recovered from their
bad debt, and similarly liquidity pressures facing banks will ease only
after consumers have regained enough confidence in banks to trust them
with their savings and deposits.
The policies introduced by the Obuchi government addressed primarily
the liquidity requirements of Japanese financial institutions. They left unre-
solved the other important issue of whether Japanese banks could survive
competition in the global financial market. This became a more pressing issue
 Financial Reforms in Japan 53

with the introduction of big-bang financial reforms in 1998. These reforms

opened up Japanese financial markets to foreign competition and the worry
was that Japanese banks, already saddled with bad loans, might not be able to
withstand increased competition from foreign financial institutions.
According to Morinaga Takuro, there are a number of internal manage-
ment problems that impede the capacity of Japanese banks to compete
successfully in the international market place. For instance, he has point-
ed out that Japanese banks were managed by individuals who had been
trained as generalists rather than as specialists in international banking
and finance. He concluds that such a management structure would disad-
vantage Japanese banks but acknowledges also that a transition to a more
competent management system might take as long as 20 to 30 years.25
This, he argues, was because of the nature of the employment system in
Japan and the ‘moral’ constraints in dismissing redundant employees.
The lifetime employment system that was dominant in the large corpor-
ate sector of Japan is changing, however, and in the banking industry the
changes are also being forced along by the demands of the restructuring
required under the government assistance programme. In return for
funding from the Financial Restructuring Commission, the banks have
committed themselves by 2003 to eliminate 20 000 jobs, or roughly 14
per cent of the present workforce.26 The main impact of this rationaliza-
tion will probably be felt more in the lower echelons of the banking
industry but may also lead to a streamlined management structure. A
summary of the amount of financial support of the 14 major banks and
their restructuring objectives is shown in Table 3.2.
For its part, the government encouraged mergers and tie-ups that
would give banks an expanded capital and resource base to compete in
the global economy. In 2000 Mitsui Trust Bank and the smaller Chuo
Trust Bank merged their operations to create the largest trust bank in
Japan with assets of Y 45 600 billion and 170 branch offices. Other banks
also initiated merger discussions as part of a broader restructuring agenda
to create large financial groups, in place of the 21 major banks, plus the
dozens of insurers and countless number of brokerage firms. Mergers were
facilitated by a decision, in take 1997, to lift the ban on holding compa-
nies that had been in place since the Second World War.
In late August 1999, Daiichi Kangyo Bank, Fuji Bank and the Industrial
Bank of Japan announced plans to merge operations in late 2000 creating,
in the process, the worlds largest commercial bank with assets of more
than Y 141 trillion.27 The merger, based on the establishment of a new
holding company, was the ‘first effective use of the holding company
framework for a large scale consolidation’.28 Two other Japanese banks,
54 Japan in Crisis

Table 3.2 Bank support and restructuring goals, 1999

Bank Financial Executive Workforce cuts Repayment

support cuts date
(Y billion)

Asahi 500 39–31 12 800–11 800 7–9

Chuo Shintaku 150 55–32 9 980–8 900 9
Daiichi 900 35–25 16 130–13 200 8
Daiwa 408 31–20 7 640–6 300 12
Fuji 1 000 41–34 14 250–13 000 6
Kogin 600 35–18 4 776–4 482 5
Mitsui Shintaku 402 – – 9
Mitsubishi Shintaku 300 34–30 4 932–4 695 5
Sakura 800 51–21 16 700–13 200 10
Sanwa 700 40–15 13 600–11 400 5
Sumitomo 501 43–38 15 000–13 000 6
Sumitomo Shintaku 200 32–18 5 900–5 200 5–7
Tokai 600 15–17 11 125–9 731 10
Toyo Shintaku 200 30–18 4 100–3 400 7

Source: Shukan Toyo Keizai, 17 April 1999, pp. 32–3.

Sumitomo and Sakura, also agreed to merge. The resulting rationalization

of cost structures should enhance profitability of the new banks, but these
and other big banks will have to improve their network and global pene-
tration to compete successfully with global financial institutions, like the
Citigroup or Deutsche Bank.
As a result of mergers in late 2000 and early 2001 the banking scene was
radically transformed, and in place of a large number of financial institu-
tions there emerged four large financial groupings. These were:
Sumitomo-Mitsui Banking Corporation Composed of Sumitomo Bank
and Sakura Bank (April 2001).
Mizuho Group Composed of Daiichi Kangyo Bank, Fuji Bank and the
Industrial Bank of Japan (April 2001).
Mitsubishi Tokyo Financial Group Incorporated Composed of Bank of
Tokyo-Mitsubishi, Mitsubishi Trust & Bank, and Nippon Trust Bank
(September 2000).
United Financial of Japan Sanwa Bank, Tokai Bank and Toyo Trust (April
2001).

Regulatory controls and surveillance

Important though restructuring and recapitalization of the banking sec-

tor was to the rehabilitation of the banks, Akiyoshi Horiuchi points out
 Financial Reforms in Japan 55

that the crisis in Japan’s financial sector was not unrelated to internal and
governance aspects of the banking institutions. Banks, he says, were
undisciplined in their operations because governmental supervision,
potential capital market controls and competitive pressures were either
inadequate or weak.29 A governmental safety net that ensured bank sur-
vivability during crises and regulatory controls on excessive competition
within the financial industry and protection to weaker banks weakened
prudential management within the financial sector. In the absence of
outside disciplinary pressures, bank management became entrenched
and, according to Horiuchi, entrenched ‘bank managers tended to take
excessive risks under the comprehensive safety net during the latter half
of the 1980s’.30 To install a better regulatory regime of surveillance and
monitoring, the Hashimoto administration introduced the so-called big-
bang reform measures. The prime minister announced the government’s
reform intentions in November 1996 and instructed Ministry of Finance
bureaucrats to prepare detailed measures, based on the principles of free-
dom, fairness and global standards. The big-bang reforms liberalized
Japanese financial industry, ending the segmentation between, for exam-
ple, banking, insurance and securities operations. To regulate the deregulat-
ed financial sector, the cabinet, in March 1997, approved a bill to establish a
Financial Supervisory Agency and this was formally enacted by the Diet in
June 1997. The FSA was established in late June 1998 with the task of licens-
ing, inspecting and supervising financial institutions. These functions had
previously been performed by the Ministry of Finance but given the failings
of the ministry the government decided that it was inappropriate for one
ministry to be responsible for both budgetary and taxation matters, as well
as surveillance of financial institutions. However much MOF officials may
have disagreed with these objectives, they were constrained in their ability
to obstruct the devolution of authority because of their diminished reputa-
tion, power and influence. According to Stephen Harner:

The MOF’s supervision and management of the financial sector was a

particular focus of criticism. As Japan’s banks, securities companies,
and insurance companies sank further towards insolvency, and in
many cases, like the jusen housing loans companies, Hyogo Sogo Bank,
the Hokkaido Takushoku Bank, required massive bailouts using tax-
payer funds, it was correctly concluded that the MOF had failed in its
prudential management role.31

Thomas Cargill points out that, among the many policy blunders of the
MOF, although its officials knew of the magnitude problems facing the
housing loan companies as early as 1993, they chose not to act until
56 Japan in Crisis

1996 when the problem could no longer be denied or ignored.

According to Cargill, ‘There is every indication the nonresponse policy
was based on the hope that land and equity prices would soon
recover.’32
Under the new structure, the FSA had responsibility for supervisory and
surveillance functions while the MOF retained taxation and budgetary
functions. Like its sister institution, the FRC, the FSA inspired little hope
of significant change largely because it too was to be staffed by MOF offi-
cials. However, it quickly established a formidable reputation for finan-
cial rectitude and arm’s-length dealing with financial institutions to the
extent that inspectors ‘will not accept even a cup of tea or coffee from
financial institutions’.33
Upon its establishment, the FSA also instituted a working committee to
review financial inspection manuals. The final report of this committee
was handed down in April 1999 and it established the basis for moves
away from (a) regulator-led inspections to self-management-style inspec-
tions and (b) emphasis on the assessment of asset quality to inspection of
risk management. Under the new guidelines of prudential management,
banks are required to periodically self-assess their capital adequacy ratios,
subject to external audit.
In July 2000, the government merged the Financial Supervisory
Agency and the Financial System Planning Bureau of the Ministry
of Finance to establish the Financial Services Agency (FSA), under the
leadership of Yanagisawa Hakuo, who had successfully led banking
reforms as head of the FRC. The new agency has greater powers to exer-
cise surveillance over financial institutions, including public disclos-
ure of critical financial situations and the prescription of corrective
actions. Banks have also been required to accept internationally accept-
ed accounting practices and be more transparent in disclosing financial
details so that markets can exercise greater controls over bank lending
policies.

Bank reform and persisting economic weakness

Despite the reform initiatives of the late 1990s, recovery remained weak
with mixed signals about the trend line. The Obuchi administration had
taken the first partial steps toward resolving the banking crisis but, as is
often the case, partial solutions proved to be no solutions at all. Thus,
even as banks disposed of some of their non-performing loans, they con-
tinued to accumulate new non-performing loans, leaving the overall
problem intact.34
 Financial Reforms in Japan 57

A quarterly survey of business sentiment in December 2000 revealed

that businesses were no more optimistic than they had been in the
September quarter, when economists had in fact anticipated an improve-
ment. In early 2001, Japanese economic outlook was worse than it had
been in recent months and years and the Nikkei share market index even
dived below the 12 000 mark. The Tankan survey of business confidence
by the Bank of Japan in September 2001 revealed continuing business
pessimism. The survey polled 8 800 businesses and found the biggest
drop in business confidence in three years. The Confidence Index regis-
tered a decline to –33 from –16 in the previous survey. Not surprisingly,
the share market index also trended down, falling below 9 500 in
February 2002.
This decline meant that the stock market had given up all the gains of
the bubble economy years. For the Japanese government, the major con-
cern arising from the stock market crash was that the corporate sector was
underpriced and an attractive target for foreign takeover. Worrisome
though the collapse of the stock market was for the future of the corporate
sector, it was not, however, expected to have a major impact on an already
sluggish consumer demand. This is because shares are largely held in
cross-share holding arrangements among companies and only a small
proportion is held by individual investors. At the end of the 1980s the
combined total of shares owned by financial institutions and ordinary
businesses reached 61.7 per cent of the whole. The Mitsubishi Group of
companies owned an average of 29 per cent of the shares of each member
of the Mitsubishi Group.35 The purpose of mutual shareholding was to
prevent attempts at hostile takeover of firms and to weaken the rights and
influence of ordinary retail shareholders. The Mitsubishi Group, for
example, had a controlling interest in each of its group of companies as
the major shareholder, giving managers greater autonomy from share-
holder pressures.
The collapse of the stock market, according to Kiuchi Takashi, econom-
ic adviser to the Shinsei Bank (formerly the Long Term Credit Bank of
Japan), was prompted by a scramble among banks and businesses with
large share portfolios to unload their portfolios to free themselves from
future capital losses and, in response to new requirements, in 2001, to
accept international accounting practices and prepare consolidated
accounts. In the past, corporate accounting standards allowed share port-
folios to be listed at book value rather than market value, a practice not
permissible under accounting standards new for fiscal years 2001 onwards.
In the lead-up to the close of the fiscal year, firms scrambled to unload
their equity holding while making as little financial loss as possible. In
58 Japan in Crisis

terms of divestiture, the process already had the effect of reducing bank
holdings of stocks in the year 2000. For example, at the end of fiscal year
1989, the total bank holding of shares outstanding on the domestic stock
exchange was 46 per cent, but at the end of fiscal year 1999 (March 2000)
total the bank holding had dropped to 36.5 per cent.36
This led to a very volatile share market, which closed the fiscal year at
slightly under the 13 000 mark. A closing level substantially below the
13 000 mark would have exacerbated the situation for banks. Given the
nature of share ownership in Japan, the stock market collapse was unlike-
ly to add to consumer pessimism, but it still presaged difficult times for
the Japanese economy.
According to Kiuchi Takashi, the sudden economic decline in 2001 was
not directly related to the on-going malaise within the Japanese economy
but was rather a reflection of a dramatic slowdown of American and other
western economies, with adverse consequences for Japanese exports.37
In late March 2001, the Bank of Japan (BOJ) felt compelled to lower
overnight call rates effectively to zero, less than a year after it increased
interest rates confident that sustained economic recovery was imminent.
The rate cut was to be achieved through expansionary monetary policy,
and the Bank of Japan announced that it was prepared to purchase bills
and government bonds aggressively as long as the deflationary spell con-
tinued. This was a significant concession by the BOJ that it was prepared
to halt the deflationary spiral. Yet, rather than overtly confirm any merit
to demands for controlled inflation, the BOJ only acknowledged the
importance of price stability. In its statement the Bank said that measures
being introduced would remain in place ‘until the consumer price index
registers stably at zero per cent or an increase year-on-year’.38 This was
only a modest shift in BOJ policy preference despite calls from Finance
Minister Miyazawa and other Ministry of Finance officials for the BOJ to
substantially expand money supply, to 5 per cent a year instead of 2 per
cent, to halt the deflationary spiral and spur inflation. The governor of
the BOJ, however, had been reluctant to follow this course of action,
convinced that deflation was a healthy indicator that the economy was
benefiting from innovations such as e-commerce, rather than a sign of
fundamental economic problems.39
With interest rates at marginally above zero and expansionary mone-
tary policy, the Bank of Japan also indicated that it might almost have
exhausted its means to reflate the economy. In March 2001, as it effective-
ly lowered interest rates to revive growth, it therefore added a warning
that sustainable recovery was unlikely without ‘painful restructuring’.40
This was a signal that prospects for recovery were beyond the sole control
 Financial Reforms in Japan 59

of the Bank. The Bank emphasized the importance of structural reform,

including a sweeping and complete resolution of the bad debt problem
even if it meant a large number of corporate failures and bankruptcies. In
the aftermath of the Asian crisis banks were recapitalized and emerged as
stronger institutions, but they still carried non-performing loans on their
books. The alternative was that many of the debtor firms would be forced
to declare bankruptcy and instigate a period of industrial dislocation. The
BOJ was effectively telling the government that it was time to take the dif-
ficult decisions.
In his review of Craig Freedman’s book on the collapse of the Japanese
economy, Richard Katz points out that the Japanese government by
pumping Y 46 trillion (US$434 billion) into recapitalizing the Japanese
banks had essentially overcome the supply-side problem. To the extent,
however, that there remained a large number of unprofitable, debt-laden
firms, Katz added the dismal caution that the crisis was likely to be
prolonged without decisive measures to eliminate the burden of non-
performing loans.41 Since the late 1990s, banks had been retiring some of
their bad debt as part of their recapitalization process, but the pace of
retiring bad debt did not keep pace with the accumulation rate. In fiscal
year 1999 the 16 major banks in Japan wrote off about Y 4.5 trillion in bad
loans and in fiscal year 2000 the amount of writeoff was Y 4 trillion, about
Y 1 trillion more than profits for the year. However, as existing bad debt
was being written off more was being acquired and the problem instead of
diminishing in magnitude became progressively worse.
There are several options that could be utilized to achieve the desirable
reduction in levels of non-performing loans. The banks could, first, sell
their bad loans to an American-style Resolution Trust Corporation, sec-
ond, engage in debt forgiveness in exchange for corporate restructuring
programmes and, third, call in their loans even if it meant forcing com-
panies into bankruptcy. Market principles would require companies to be
held accountable for accumulated debt and for past policy and investment
failures and, indeed, in explaining its decision to return to a zero interest
rate policy in March 2001 the BOJ also added its voice to the imperative of
resolving the non-performing loans issue by calling for corporate reform
and restructuring, even at the extent of forcing companies into liquid-
ation. It emphasized that it had few other policy tools left to deal with the
economic stagnation. Any invocation of market principles and respon-
sibility would entail banks confiscating corporate assets and collateral and
disposing of these at market prices to recover at least a part of their losses.
Understandably, however, there are now concerns as well that the fail-
ure and bankruptcy of such large corporations as Kumagai Gumi would
60 Japan in Crisis

do more harm than good in exacerbating market sentiment and imped-

ing economic recovery. The government certainly is not keen to see a
repeat of late 1997 and the failure of, for example, Yamaichi Securities.
Instead, the government appears to favour debt forgiveness and waiver,
a strategy that forces lending institutions to accept partial responsibility
for loose lending policies in the 1980s. Still, rather than penalize
banks, Takeo Hiranuma, in charge of the Ministry for Economy Trade
and Industry (METI, formerly the Ministry of International Trade and
Industry, or MITI) suggested that it might even be possible for banks to
deduct the cost of debt waiver from pre-tax profits. He explained that a
formal plan for resolving the debt problem was likely to be announced
early in fiscal year 2001.42
In early April, the government announced a set of measures to facilitate
the disposal of existing bad loans within the space of two years and new
bad loans within three years, through debt forgiveness, or by enforcing
loan conditions to force borrowers into bankruptcy. Expectations, of
course, were that banks would engage in debt forgiveness in return for
corporate restructuring to avoid the social costs that would accompany
large-scale bankruptcy. To the extent that corporate restructuring might
entail involuntary redundancies, the government announced plans to
provide better jobless allowances to those forced into involuntary retire-
ment than were available to the unemployed.43 However, considering
that banks, in fiscal years 1999 and 2000, had managed to write off only
Y8.5 trillion in bad debt, it is excessively optimistic to assume that banks
will somehow manage to retire the remainder of bad debt in either two or
at most three years, without considerable financial support from the
government. Even then, there may be serious deflationary consequences
through rising unemployment as a result of forced and rapid elimination
of non-performing loans. Credible estimates of the unemployment effect
of any rapid disposal of non-performing loans are that the number of
unemployed will rise by 2 to 3 million.44 This will no doubt be a severe
drain on the public purse and it is uncertain, as yet, how the government
can marry its social safety net obligations with the other objective of
reducing public sector debt.
Renewed pressure on banks to dispose of non-performing loans within
a short period has other implications for the future of the corporate sec-
tor. Client firms that are cast aside by protective banks will become targets
for foreign takeovers, and the concern is that many Japanese industries
could pass into foreign ownership. For example, Ripplewood Holdings of
the US which acquired the Long Term Credit Bank of Japan (now renamed
Shinsei Bank) for US$1.2 billion has also set up Ripplewood Holdings
 Financial Reforms in Japan 61

Japan (RHJ) with a capital base of US$1.2 billion to acquire distressed

corporations. It has already made three acquisitions and plans to acquire
another six or seven Japanese companies by 2005, to be disposed of at a
profit after rehabilitation in another 5 to 7 years. The policies of the
Koizumi government have created opportunities for foreign investment
funds, which are seen as vultures circling over the weakened Japanese cor-
porate sector as they wait to acquire companies in short-term distress.45
After many decades of holding off foreign investors, the Japanese
corporate sector is likely to undergo a major traumatic upheaval as a result
of foreign acquisitions.

Conclusion

The prolonged economic crisis, despite positive reforms in the banking

sector and massive injections of public funds into new infrastructure and
construction projects, suggests that problems go beyond supposedly
simple solutions. Until the outbreak of the Asian crisis, however, the
main measure for economic recovery constituted of large public works
programmes to compensate for sluggish consumer demand. In the
process the government added to its overall debt levels but failed to purge
the impediments to growth. In the aftermath of the crisis, government
measures have been more varied, and have included a serious and suc-
cessful attempt to resolve the banking crisis through recapitalization and
reform. According to Kiuchi, while most big banks in Japan were on
sounding financial footings, it was still possible for small and regional
banks to experience fresh difficulties in the recurrent phase of economic
slowdown in 2001. Reform and recapitalization of the financial sector
may have been a necessary precondition for sustainable growth, but with-
out a resolution of the bad debt situation banks have continued to hold
back on new lending, which has continued to post year-on-year decline.
Many analysts have been convinced that it is essential to undertake sig-
nificant structural reforms before growth can be sustained, but to date
actual reform efforts have been modest.
4
Corporate Reforms

Apart from the well-known explanations of Japan’s economic success

offered by mainstream economists (sound fiscal, monetary and taxation
policies) and by developmental state theorists (state intervention in the
economy), many analysts also regard the particular organizational and
governance features of the Japanese corporation, the J-firm, as impor-
tant determinants of economic success. Japan, however, has a bifurcated
industrial structure and there are considerable organizational differences
between the two types of firm. The first category is composed of a small
number of large, modern corporations, many of which are interlinked
into keiretsu groupings1 that are held together by cross-ownership of
shares and by links to a main bank. The second category is made up of a
large number of unaffiliated small- and medium-sized enterprises. The
focus in this chapter will be on the former, which have driven Japan’s
export success and international competitiveness. Because the keiretsu
structure is specific to Japan, these are conveniently labelled ‘J-firms’, and
there is an extensive literature on the main characteristics of the J-firm
and its differences from western or American firms or ‘A-firms’.
In the keiretsu-linked corporate structure, the central position is usual-
ly occupied by a ‘main bank’, so called because of its primary lending
responsibility to keiretsu members. The position of the main bank was
enhanced by a relatively high level of corporate dependence on bank
finance for capital activities and investments. The main bank system had
specific advantages for Japanese companies because relational, rather
than arms-length, banking had the practical effect of liberating man-
agement from short-term profit considerations to focus instead on
increasing market shares, both domestically and overseas. This proved
particularly useful in ensuring the long-term success of Japanese firms in
overseas markets where they were engaged in head-to-head competition

62
 Corporate Reforms 63

with western firms. This was, of course, not the only source of Japan’s
international competitive advantage. The industrial relations practices of
large Japanese firms, with an emphasis on cooperative labour–manage-
ment relations rather than the adversarial relationship found in western
corporations, also contributed to their success. Western firms had few
answers to the Japanese onslaught, but the resultant protectionist senti-
ment in western countries was based on other assumed or real factors,
such as unfair Japanese trade practices, government support and subsidy,
dumping, and denial of access to the Japanese market. Another ‘coping’
strategy was to try and emulate the Japanese model. Largely because
of the many successes of Japanese corporations and their competitive
strengths, Japanese management structures became a model for study
and for emulation by western corporations seeking to derive the synergies
of, for example, a more cooperative and less hierarchical work environ-
ment.

Main features of the J-firm

The J-firm differed from western corporations and from ideal-typical

models of corporate efficiency, as embodied in Taylorist principles. At the
turn of the twenteenth century, Taylorist models of production efficiency
emphasized specialization within the firm such that the entire produc-
tion process was segmented into simple motions and specialized tasks. A
high degree of specialization meant little sharing of knowledge and infor-
mation across job classifications, and production workers operated as re-
latively atomized entities. This was a process of de-skilling the workforce
and of replacing the craft and artisanal basis of commodity production
with a production process that was simpler and highly specialized. But
the absence of shared understanding of complex production processes
contributed to a relative incapacity to cooperatively resolve periodic pro-
duction problems and shop floor emergencies.
By contrast to the way production was organized in A-firm, the J-firm
relied less on specialized mechanical activities and more on cooperative
skill-sharing. This was achieved by frequently rotating employees to per-
form different tasks in order to equip them with a better grasp of the total
production process. This allowed for horizontal cooperation and such
innovative strategies as shop floor quality control circles. This difference
between the J-firm and the A-firm was reflected also in the nature of
labour unions, which in Japan were organized across functional job clas-
sification within a specific company, rather than across company struc-
tures but around a specific functional task, as in the West.
64 Japan in Crisis

Although the quality control circle was a western innovation, it was

most enthusiastically embraced first by firms in Japan. The introduction
of quality control circles on the shop floor empowered production work-
ers to deal with specific problems and issues. It also led to significant qual-
ity improvements and enabled Japanese manufacturers to discard their
image as producers and exporters of cheap but low-quality products. This
prompted some US firms, like the Lockheed and Honeywell corporations,
to try and replicate the Japanese success story in the early 1970s. Each was
able to generate substantial savings by introducing quality control circles.
Large Japanese corporations also maintained a system of long-term
employment and seniority-based wages. Under long-term employment,
employees were retained across business cycles and a seniority-based
remuneration system discouraged labour mobility and promoted loyalty
to the company. It was beneficial for companies to try and retain workers
because of the high costs of in-house training, and similarly workers
found it beneficial to remain with one employer rather than lose seniority
in a new position. Neither practice was, rigid, however, nor were all
employees of the same company accorded the privileges and certainty of
long-term employment. Seniority also was only one factor in determin-
ing wages, and Arne Holzhausen has pointed out that qualifications and
competence were not overlooked. According to Holzhausen:

As employees get older and obtain higher positions . . . the level of

qualifications and competence . . . gains more influence on compen-
sation and promotion decisions. Regular annual wage increases
according to age and tenure continue, but their impact on overall
income growth diminishes.2

A key difference, as noted above, was that J-firms relied heavily on bank
financing, rather than on equity or capital markets. This, consequently,
led to the development of strong organizational and contractual linkages
with the primary lender, the main bank. By law, banks were restricted to
share holding of no more than 5 per cent in any one firm, and a main
bank usually held close to 5 per cent of outstanding shares of its client
firm. The banking sector mediated the flow of funds from the household
sector to the corporate sector and this was facilitated by government regu-
lations to prevent banks from underwriting and brokering bonds, restric-
tions on bond issuance, and artificially low deposit rates that gave banks
de facto subsidies.3 The banks were at the centre of the keiretsu-based
industrial structures that emerged in the postwar period, following the
 Corporate Reforms 65

dissolution of the prewar zaibatsu with family-owned holding companies

as their core.
In Japan, the main bank also had a role in monitoring firms and in
ensuring prudential corporate governance in the absence of an external
board of directors, a common feature of western corporate governance
and management. In the J-firm, boards of directors were made up largely
of individuals promoted from within the firm. The external members
included former government and public sector employees (a practice
known as amakudari, or descent from heaven), representatives of large
block shareholders – often other firms within the same organizational
grouping – and an executive from the firm’s main bank. The bank repre-
sentative on the board of directors was not formally or technically an
‘outsider’, because the nominated individual would usually resign from
the bank to become a ‘permanent employee’ of the firm. Even as an
employee of the firm, the bank representative was still a useful source of
information for the main bank and an important part of its monitoring
and surveillance structure. When a firm encountered serious financial
difficulties, however, the main bank often dispatched a current employee
to act as director.4 The prevalence of relationship banking, as opposed to
arm’s-length and rules-based banking, was often pointed to as a strength
of the Japanese industrial structure, accounting for the superior competi-
tive strength of the J-firm over the A-firm.
Between 1945 and 1952, holding companies that held the zaibatsu
together were disbanded so as to end their monopolistic grip and create
a competitive industrial structure. Under Occupation directives, share
ownership was widely dispersed among ordinary citizens, reaching a peak
of 70 per cent in 1949. This period of shareholder democracy did not last
very long, and share ownership quickly became concentrated in banks
and other companies, as a result of mutually agreed cross-ownership of
shares. By the late 1980s, individual ownership of shares in Japan had
declined to about 25 per cent, compared with 60 per cent in the United
States. There are various explanations for this shift from dispersion to
compression of share ownership, one being that concentration of share
ownership was prompted by fears of foreign takeover at a time when equi-
ty prices were low and Japanese companies an attractive target for acquisi-
tion; cross-ownership of shares, according to Miyajima Hideaki, emerged
as the dominant strategy to block the foreign acquisition of shares and
takeover of companies.
Another explanation, suggested by Yishay Yafeh, is that the emergence
of ownership concentration was related to efficiency considerations,
since dispersed ownership allowed shareholders no means to control
66 Japan in Crisis

managers and ensure good governance. He has questioned the threat of

hostile takeover as a credible explanation and argues that the reason indi-
vidual and small holding lasted only briefly was simply that it left man-
agement unchecked and inefficient.5 To support his conclusion, Yafeh
finds evidence that, other things being equal, ‘the greater the percentage
of a firm’s outstanding shares expropriated and resold by the American
authorities, the worse was the firm’s performance in the early 1950s’.6 A
third explanation for the prevalence of share cross-ownership is that it
was a deliberate strategy to protect companies from demands for ‘share-
holder value’ and demands on their earning from outside interests. This,
according to William Lazonick, prompted banks and industrial com-
panies to take equity off the market by holding each other’s shares.7
Maximization of shareholder value is the essence of contemporary west-
ern capitalism, but Japanese firms colluded among themselves to
enhance managerial autonomy from shareholder demands and to con-
centrate, instead, on increasing market shares.
Whatever the specific advantages and strengths of the J-firm, it is not
surprising that prolonged post-bubble economic crisis and corporate sec-
tor weaknesses raised doubts about the efficacy of main bank monitoring
of business and investment decisions. Certainly, the industrial landscape
of Japan still contained many examples of internationally competitive
firms, such as Sony and Toyota, but a dramatic reversal in the fortunes
of many other companies that had previously been successful raised
inevitable doubts about prevalent management structures and practices.
One of the basic weaknesses was that bank oversight of management and
investment priorities was neither strict nor independent. The main banks
could not exercise arm’s-length control because of their long association
with client firms and the common practice of business-related socializa-
tion, such as drinking and entertainment. Banks were also perhaps less
diligent because of an established government policy not to permit any of
the major banks and financial institutions to fail. The ‘convoy strategy’ of
the Japanese government was designed, first, to ensure that no single
bank became so powerful as to undermine the viability of another finan-
cial institution and second, to ensure that ailing financial institutions
were assisted by others to recover.
The main banks were lax in ensuring prudential governance but, at
least in the early postwar period, relationship banking had the advantage
of releasing firms from the pressures and demands of a short-term profit
horizon that confronted managers of A-firms, which relied extensively
on equity markets for investment capital. Managers in Japan were not
constrained by the imperative of having to declare profits and dividends
 Corporate Reforms 67

on an annual basis. As discussed earlier they concentrated on strengthen-

ing market position, a long-term strategy of survival, rather than on prof-
itability to satisfy shareholders’ demands for annual dividends. Also,
because of the common practice of cross-shareholding among a group of
firms (as discussed in the previous chapter), managers of corporations
had considerable autonomy. Smaller but independent shareholders
could not be relied upon to ensure prudential management. Indeed,
cross-shareholding was intended to ensure that retail and small share-
holders would have no managerial influence.
Over time, and especially as a result of financial liberalization, the
firm–main-bank relationship tended to weaken, and firms progressively
increased their reliance on low-cost equity markets and international
capital markets. This was true mainly for large successful firms with inter-
national brand image and presence. As a result, bank debt in corporate
finance declined from 39 per cent in 1972 to about 13 per cent in 1997 for
large Japanese companies, the latter figure not substantially more than
the 9 per cent for large American firms.8 The erosion of main bank link-
ages, according to Hoshi Takeo, was particularly prominent for firms with
large amounts of collateral, which sought other avenues of raising capital,
such as bond and equity markets.9
In the 1990s, relationship banking was strained also by economic stag-
nation, which made it harder for banks to continue to stand by and sup-
port struggling corporations. These changes to relationship banking were
clearly manifest in the collapse of Sogo department store in 2000, as
a result of its main bank’s refusal to bail out a large client. In general,
according to Lazonick, the increase in the number of bankruptcies in
1997 and 1998 among large Japanese companies was a result of the
unavailability of bank credit.10 In earlier periods, banks could be expected
not to push a large client firm into bankruptcy, but now they were con-
strained by a rising proportion of non-performing loans. Still, the col-
lapse of Sogo was probably an exception rather than a harbinger of
immediate changes in the nature of main bank and firm relationship.
Negating the symbolic value of Sogo’s collapse, the reality was that many
banks continued to hold onto non-performing loans, preferring to pre-
serve the firm–main-bank relationship rather than allow market rational-
ity to determine the fate of unprofitable firms. In 2001, this re-emerged as
a focus of attention as Japan reversed into recessionary conditions amid
concerns that non-performing loans and bank willingness to carry such
loans on their books were impeding recovery.
In early April 2001, the government declared its intention to push for a
complete resolution of non-performing loans within a short period of
68 Japan in Crisis

two to three years. Japanese banks had progressively tackled the problem
of non-performing loans, writing off about Y59 trillion in such loans over
a nine-year period since fiscal year 1992, but this had been achieved with-
in the framework of main bank relationships. It is estimated that problem
loans amount to Y150 trillion and their resolution, based essentially on
balance sheet considerations as is being suggested, will likely have a seri-
ous impact on bank–client relationships.11 Despite government assur-
ances of financial assistance, a quick resolution of remaining problem
loans will no doubt lead to major bankruptcies but also have a flow-
through effect on small and medium-sized corporations. In future the
firm–main-bank relationship is certain to change very significantly as a
result of the proposed resolution of NPLs.
As mentioned above, financial liberalization had expanded the menu
of choice for managers. Access to new sources of corporate finance under-
standably affected the behaviour of firms, but there was little funda-
mental change in the way their production was organized, in their
cooperative labour–management relations or in their employment prac-
tices.

Corporate reforms and convergence

As was to be expected, the long period of economic stagnation in the

1990s cast fresh doubts about the merits of the Japanese model of cor-
porate governance in the era of economic globalization. Japanese man-
agement practices became associated with loss of creativity and
competitiveness firms, since remuneration was based not on excellence
and merit but on seniority and corporate loyalty. Almost imperceptibly
but with enormous economic consequences, the so-called strengths of
Japanese industries were recast as weaknesses to be avoided rather than
emulated. Increasingly, the J-firm came to be seen as part of the overall
problem plaguing the Japanese economy. The new understanding was
that J-firms had become too ossified and unable to respond quickly to
changing market conditions, no small disadvantage in a globalized world
economy. Consequently, there emerged a robust debate on the import-
ance of restructuring the basic organizational principles of the J-firm.
Interestingly, however, this debate was more a feature of western analysis
of Japanese management and less in evidence within Japan itself.
At a more subdued level, corporate rationalization and reform has
been debated in Japan since the early 1990s as being essential to over-
coming lingering economic malaise and to improve company outlook.
Actual initiatives were incremental and adaptive rather than radical. This
 Corporate Reforms 69

prompted the former chair of the Financial Restructuring Commission,

Yanagisawa Hakuo, to lament the absence of a bold and decisive leader to
reform an ailing Japanese economy, like John Reed who had successfully
turned around Citicorp and saved it from collapse in the early 1990s.12
The slow pace of reform belied the worsening state of some of the leading
manufacturing sectors, such as the automobile industry. This industry,
an outstanding success in the postwar period, was beset with problems
arising from excess capacity. Two of the leading manufacturers, Nissan
and Mitsubishi, were hit particularly hard by the slump in sales. The diffi-
culties facing some auto manufacturers also affected other industries.
The pain was not uniformly shared, however. Toyota Motor Corporation
was a prominent exception and able to maintain its international com-
petitiveness and profitability into the 1990s. Likewise, Sony Corporation
too remained strong and profitable and defied the gloomy conditions
facing others. Nonetheless, the general picture was one of poor perform-
ance and declining profitability. Stagnant and declining domestic con-
sumption levels added to the woes of Japanese corporations.
In the US, the decline of net after-tax profit of non-financial domestic
firms from 10 per cent in 1965 to less than 6 per cent in the late 1970s13
was a signal for large-scale corporate restructuring and rationalization,
but declining profitability in Japan produced no similar outcomes. In
Japan the ratio of operating profits to operating capital for small and
medium-sized companies in the manufacturing sector declined from 3.9
per cent in 1990 to –0.3 per cent in 1998, and in chemical industries the
decline was from 5.8 per cent to 2.2 per cent.14 But, as noted above, the
Great Stagnation did not affect all industrial sectors equally. Some indus-
tries, such as electrical machinery, continued to post good growth
through the 1990s, but in iron and steel, for example, the production
index declined from 109.8 in 1990 to 88.7 in 1998 (1995 = 100). The fall in
general machinery was from 116.0 to 89.1 and in the transport equip-
ment industry from 113.5 to 103.8.15
The crisis in the Japanese corporate sector was plainly manifest in fail-
ures and bankruptcies. Compared with 1990, when there were 6468 cases
of bankruptcy, in 1997 and 1998 the number reached 16 365 and 19 171,
respectively. The number of corporate bankruptcies was also high in 1985
(18 812) but the total amount of liabilities owed by these firms was only
Y4.2 trillion, compared with Y14.0 and Y14.4 trillion in 1997 and 1998,
respectively (see Table 4.1). It should be emphasized that the rise in bank-
ruptcies in Japan in the 1990s was not a result of reckless management,
which was a contributing factor in a relatively small percentage of total
bankruptcies. Instead, poor economic performance and the stagnation of
70 Japan in Crisis

Table 4.1 Corporate failures in Japan

Bankruptciesa Amount of Cause of bankruptciesa

liabilitiesb
Reckless Stagnation of
management sales

1980 17 884 2 707 5 778 5 230

1985 18 812 4 186 5 336 6 416
1990 6 468 1 945 2 851 1 613
1995 15 086 9 033 3 085 7 745
1996 14 544 7 994 2 728 7 546
1997 16 365 14 021 2 802 8 716
1998 19 171 14 381 2 785 11 229

Source: Japan Statistical Yearbook 2000, Statistics Bureau, Management and Coordination
Agency, Government of Japan, Tokyo, 1999 (November), p. 204, table 5–14.
Notes: (a) = number of cases; (b) = yen in billions.

sales were responsible in a high proportion of cases. In 1990 reckless man-

agement practices had contributed to 44 per cent of corporate failures,
whereas stagnation of sales accounted for 30 per cent of all bankruptcies.
By contrast, in 1997 and 1998, stagnation of sales accounted for 53 per
cent and 58 per cent respectively of all bankruptcies, whereas reckless
management was responsible for only 17 per cent and 14 per cent of total
failures.16
It appears, therefore, that management practices and the much-
vaunted Japanese model were not directly to blame for corporate failures
in the 1990s, but these statistics do not provide a full understanding of
the complex corporate situation in Japan. As mentioned in the previous
chapter, there are a large number of unprofitable and debt-laden firms
(confirmed, as noted above, by the higher liabilities of firms that were
forced into bankruptcy) which have somehow avoided foreclosures
because lending institutions have been prepared to carry the non-
performing loans on their books. It is clear that many corporations have
been allowed to continue trading which under full market discipline
would face liquidation and bankruptcy. The full extent of problems with-
in the corporate sector is unascertainable, and statistics do not provide a
complete picture. During the bubble economy years Japanese corpora-
tions were guilty of profligate spending and unwise capital investment
decisions, but aided and abetted by their main banks avoided the conse-
quences of their inappropriate decisions.
At the same time, it needs to be emphasized that good management
assumes an ability to respond to changing market conditions. In Japan, a
sustained sales slump should have prompted firm-level rationalization
 Corporate Reforms 71

and restructuring, but that did not eventuate to any significant degree.
There is no suggestion that corporate reform and rationalization is a solu-
tion to the macro-level problems confronting the Japanese economy, but
corporations were slow to admit to their own weaknesses and overcome
hindrances to international competitiveness. Crises and adverse econom-
ic conditions confront many firms across the world, but what was un-
usual about the Japanese crisis was that firms opted not to undertake
necessary reforms for an inordinately long time. The crisis had more com-
plex causes and it represented uncharted waters for Japanese managers
and for a management model that was universally acclaimed as superior.
As mentioned, there were crises before, but corporations had dealt with
them more successfully than in the 1990s. For instance, after the oil crisis
of 1973 Japanese corporations quickly adapted to changes in manufactur-
ing outlook and resumed their normal growth trajectory after a short set-
back. The yen shock of the mid-1980s, resulting from its rapid appreciation,
was also quickly overcome with minimal disruptions to economic pros-
perity. Corporate response to the crisis in the 1990s was, as before, to try
and adapt rather than submit to a regimen of radical and uncertain
changes. In a similar situation in the 1980s, western firms had engaged in
extensive corporate rationalization and exited their economic crisis in a
much stronger position.
Clearly however, reform is over-due in Japan. It is tempting to attribute
the irresolute nature of reforms to labour market rigidities and a long-
term employment system that denied individual firms the capacity to
rationalize production and shed excess workers or to treat labour costs as
a variable. The reality is that long-term employment in the large corpor-
ate sectors is less rigid than it may appear, and historically firms were able
to manage and manipulate labour costs by shifting surplus workers to
subsidiary corporations and subcontractors. Japanese enterprise union-
ism also meant that employees could be redeployed within a firm
across functional skills, and in the past firms had relied on this to manage
‘permanent’ employees and in response to shifting market conditions.
Another source of flexibility for corporations was the wages structure,
composed of fixed monthly salary and half-yearly bonuses. Even though
the base monthly wage was fixed and linked to employee seniority,17
firms had considerable latitude in adjusting bonuses to reflect operating
conditions and profitability. These measures could assist firms in coping
with only short-run difficulties rather than a prolonged recession.
Consequently, observers and analysts have puzzled at the timid nature
of response from Japanese managers. One explanation may be that,
despite poor performance, there was no perceived need within Japan for
72 Japan in Crisis

radical corporate reform in the expectation of economic recovery.

Conversely, the need for reform may simply be a manifestation of western
expectations of a desirable convergence on western management strate-
gies. Indeed, it might be argued that much as the West, in particular the
United States, expected Japanese reform, Japanese executives themselves
seemed determined to avoid it. American expectations may perhaps be
traced to the history of US sponsored reforms during the American occu-
pation of the country, and influenced, in the contemporary period, by
reforms in East European countries and elsewhere.
It may have been patently obvious to many outside observers that
Japanese management practices were compounding existing economic
difficulties, but within Japan the imperative of reform was neither
uncritically nor commonly accepted. Within Japan there was still a con-
siderable body of opinion that minor adjustments and modifications of
the acclaimed Japanese management model, rather than wholesale
reform, would suffice to overcome present difficulties. The absence of
urgency might be attributed to the fact that average annual GDP growth
rate in the 1990s remained positive, even if it was low by historical stan-
dards or in relation to other advanced industrial economies. In the 1990s,
GDP grew by an average of about 1 per cent per year and while this was a
far cry from the heady days of the 1960s, it did not necessarily point to a
massive breakdown of the system in place. Certainly, unemployment in
Japan had reached record high levels, but at 5 per cent in 2002 was not a
critical social problem. In reality, despite sluggish economic performance,
there was no critical or vocal majority that demanded radical reform.
Moreover, Japan’s changing demographics meant that the unemployed
would ultimately be absorbed into the workforce as a result of the labour
shortage anticipated in the not too distant future. It is for this reason that
the chairman of Toyota Motor Corporation, Okuda Hiroshi, expressed the
view that corporate rationalization was unnecessary, and might even
damage company prospects of retaining and recruiting workers in future
if it resulted in a loss of workers’ trust in the company. In place of corpo-
rate rationalization, he argued, management had a responsibility to retain
and retrain workers, and to redeploy them in new business activities.
According to Okuda, the real task confronting Japan was to transform
an ‘economy of worry’ into an ‘economy of confidence’. He suggested
that this could be achieved by dropping the obsession with ‘income
equality’, as reflected in the seniority-based wages structure, and
instead by generously rewarding successful entrepreneurs and innova-
tors, through a system of incentive pay. This, according to Okuda, would
create a culture of creativity and enable Japan to regain the lead in inter-
 Corporate Reforms 73

national competitiveness.18 In effect, this was an argument against eco-

nomic rationalization and in favour of adjustment, even abandonment,
of only one component of Japanese labour—management practices.
There have been many arguments in favour of reform, including sug-
gestions that technological creativity increasingly demands a more indi-
vidual-centred structure rather than the cooperative, group-oriented
management style prevalent in Japan. It is not uncommon to find sugges-
tions that the bias in favour of rewarding conformity rather than indi-
vidual excellence is self-defeating in the new phase of competition in
information technology and globalization, and that Japan faces an
important task of repositioning itself to compete at the frontiers of mod-
ern technology. As with any transformation, emulation of western man-
agement practices will entail costs and for that reason proposals to that
effect have not generated overwhelming support. Ronald Dore, for ex-
ample, has rejected any need for Japan to move towards a more individ-
ual-centric system and away from cooperative structures.19 According to
Dore, radical reform would only undermine the valuable gains of the
postwar period. He argues that Japan has developed a better form of cap-
italism, compared with the American type of individual-centric capit-
alism, based on social solidarity, cooperative employee–management
relations and respect for egalitarianism. He expresses the concern that the
push for rationalization would erode the bases of Japanese capitalism,
namely on equality and social justice.
Even if we discount the technological imperative as a factor necessitat-
ing changes, the rationalization of Japanese industry is an imperative of
economic globalization, which demands an ability to respond flexibly to
global economic forces. Rationalization does not necessarily imply that
Japanese practices will converge on western practices. The main advan-
tage of Japan’s consensus oriented, knowledge-sharing and inclusive
industrial relations is that these practices tend to erode artificial barriers
between management and workers. By contrast the western style of shar-
ing knowledge only on a ‘need-to-know’ basis limits the flow of informa-
tion from management to production workers and maintains a divide
that has had many deleterious consequences. For example, in the West,
globalization is perceived by workers as a threat to employment and job
security and have led to conflict and resistance, as when the World Trade
Organisation or the World Economic Forum, institutions seen as instiga-
tors of globalization, have held meetings in the US, Australia and Europe.
Each meeting was disrupted by pitched battles and demonstrations to
convey the message that globalization was unacceptable to many sec-
tions of the population.
74 Japan in Crisis

On the other hand, globalization has not raised the same concerns in
Japan. In Japan employment may be more secure because of the anticipat-
ed labour shortage, but it is so also, at least partially, because of a manage-
ment style that is inclusive and empowering. Even as Japanese firms
embrace rationalization and streamline their production processes, there
is no evidence to suggest that the cooperative and sharing style of indus-
trial management is being abandoned. Managers are likely to give greater
emphasis to the bottom line and shareholder interests, largely because of
increased sensitivity to market discipline as a result of weakened ties with
main banks and increased reliance on non-bank finance arrangements,
but there is no reason to assume that this must be at the expense of stake-
holder (employee) interests and the cooperative features of Japanese
labour–management relations.

Corporate reform in Japan

According to Pempel, contemporary pressures for reform in Japan stem

also from the series of adaptive changes in the 1970s and 1980s that had
introduced contradictions into the system which can be resolved now
only through major reform, not adaptive change. Some of the series of
adaptive changes T. J. Pempel cites as having led to the need for major
reform, or regime shift, include overseas investment, which weakened
organized labour, subcontracting firms and main bank relationships;
deficit financing, which produced a backlash within the business com-
munity and the Ministry of Finance against following western-style
welfare politics; and the politicization of policies which initially was ben-
eficial for the ruling LDP but ultimately produced the demand for change
when it was blamed for rising corruption in politics.20 Through it all, the
rise of conservative forces and demise of left-of-centre and socialist inter-
ests may be seen as providing the context for economic reform and
rationalization.
Socialist politics and stagflationary pressures in the 1970s were part of
the forces that produced the Japanese style of capitalism through a series
of adaptive changes. The process of adaptive change was similar to
what Imai described as kaizen, the progressive improvement of existing
processes and structures. According to K. Imai, Japanese-style capitalism
and management are typified by a commitment to improving existing
technologies. He argues also that this differs from western emphasis on
innovation and major reform, which is concerned more with replacing
existing technologies with superior forms.21 It is possible, as Pempel has
argued, that the cumulative effects of adaptive change had produced a
 Corporate Reforms 75

situation that was more dysfunctional than productive, and that it was
this realization that was driving the pressure for comprehensive rationali-
zation and restructuring. As well, declining profitability of previously
competitive industries is a powerful incentive for reforms to regain lost
international competitiveness. It is understandable that the reform
movement has gathered momentum since the Asian crisis and banking
reforms. According to Sato:

If Japan is to remain viable in the new era, there must be systemic

change as fundamental and momentous as the 1868 Meiji Restoration
and the 1945 postwar reform. However, the current change must come
from internal sources and in peaceful conditions. This will certainly be
difficult to achieve.22

Unlike in 1868 and 1945, the impetus for reform and rationalization at
the turn of the century has to come from inside. This makes the current
task more difficult to achieve. Moreover, even as reforms are initiated,
there can be no expectation that this will produce some kind of conver-
gence. It is likely that corporate rationalization will change the topog-
raphy of Japanese capitalism, but it requires a considerable leap of
imagination to assume that there will be a comprehensive convergence
on western patterns or that issues of social justice and equity will be com-
pletely subsumed by western-style competitiveness.
The Japanese corporate sector in the late 1990s appeared to be taking its
cue from financial sector reforms to restructure and rationalize domestic
production. These were forced upon businesses in order to reduce produc-
tion costs and enhance international competitiveness. As noted above,
the chairman of Toyota Motor Corporation cautioned against downsiz-
ing, urging instead that firms should deploy redundant workers into new
activities. At the same time, he noted also that Toyota had survived the
1990s better than other car manufacturers in Japan by assiduously con-
centrating on its core business rather than following the trend of the late
1980s and becoming involved in new activities and zaiteki (financial
technology). And he conceded that in the final instance he too would be
prepared to shed workers but that he would also tender his own resigna-
tion to accept responsibility for mismanagement. For many Japanese
companies faced with stiff international competitiveness and declining
profitability there is no option but to concentrate on core activities and
shed redundant workers.
Porter et al. argue that in order to survive in a competitive global envir-
onment, Japanese firms must rediscover ‘strategy’, the ability of making
76 Japan in Crisis

hard choices about what not to do and what not to produce. Instead of
simply converging on their competitors, Japanese firms have to seek out a
distinctive and unique product niche as have American firms where, for
example, Dell, Gateway and Apple ‘have each had distinctive strategies
and been highly profitable in most years . . . ‘23 These authors suggest that
the real problem confronting Japanese firms has been that they have
become too broad-based rather than concentrating on their specific com-
petencies. This may be attributed to the penchant for imitation and for
becoming more like others rather than standing alone and focusing on
doing what they do best. Thus, instead of concentrating ‘on certain prod-
ucts or groups of customers, Japanese companies succumb to the tempta-
tion of pursuing broadly based strategies . . . By doing everything,
though, Japanese companies become unique at nothing.’24 This ‘me-too
strategy’ of imitation and excessive product and consumer diversification
was a product also of an obsession with market shares, which led to excess
capacity25 and exacerbated profitability problems. Companies worried
more that their market share was slipping instead of being concerned
about sliding profitability.
The strategy of prioritizing market shares over profitability was under-
pinned by low levels of reliance on equity capital and was acceptable to
the main banks, the main source of investment capital, which had a long-
term outlook of their relationship with firms. However, following finan-
cial deregulation in Japan, firms were able to diversify their capital
sources to equity and money markets. For example, bank borrowings
‘made up nearly 77% of total corporate finance in 1965–69; by 1990–91,
this had dropped to 42.5%. Bond issues that had been below 10% jumped
to 42% during the same period.’26 One consequence of this development
is the imperative of focusing more on profitability in order to satisfy
shareholders. In previous years, the profit motive could be played down
as long as recessions were short in duration and did not require drastic
measures, such as layoffs, to improve corporate cost structures. Banks too,
given the magnitude of bad debt, are more sensitive to the profitability of
borrowing institutions.
In the depressed economic conditions, a newly discovered profit
motive has forced firms to consider corporate rationalization, plant clos-
ures and layoffs in order to reduce the surplus production capacity that
was added during the bubble years and not withdrawn even after pro-
duction had shifted to cheaper production platforms in East Asia.
Rationalization may have become imperative, but it has not easily been
undertaken for reasons of tradition and social responsibility. However,
financial sector reforms, forced on banks by the government, has had a
 Corporate Reforms 77

profound learning effect on the corporate sector as well, although it is

unlikely that rationalization will go as far as it did in western countries in
the 1980s. Rationalization has come to Japan a decade after western firms
began downsizing and restructuring their operations, but it is unlikely
that Japanese firms will copy the western model. Instead, we are likely to
see a middle ground between ruthless restructuring and corporate social
responsibility.
Corporate reform in Japan is being introduced with considerably more
vigour now, after nearly a decade of poor economic conditions and more
than a decade after rationalization and reform had become the norm for
corporate success in the West. The initial response of Japanese firms to the
contemporary economic crisis was not unlike their response to previous
economic downturns, namely measures such as limiting overtime work,
reducing and/or suspending the recruitment of mid-career workers and
graduates and transferring and/or loaning out workers to subsidiaries and
other affiliated corporations.27 Such measures helped but could not
resolve the problem of surplus production capacity.
There are other explanations for the slow acceptance of the need for
corporate rationalization to deal with the post-bubble economic crisis. In
a recent study, Richard Katz has explained the absence of reforms in Japan
in terms of a closed Japanese economy. According to him, trade liberaliza-
tion is an essential requisite for successful reform, but in Japan the ten-
dency within the corporate sector, and one sanctioned by governments,
has been to buy the foreign producer rather than foreign products. Katz
finds evidence for this in the increase in ‘captive imports’, i.e. imports
into Japan by Japanese firms producing overseas (either through foreign
acquisitions or in new plants). For example, in the period 1990–95, cap-
tive imports more than doubled, but because of their very nature had
failed to produce reforms and productivity gains. He argues that

What Japan really needs is a tidal wave of imports from non Japanese
companies. Where even a small amount of imports can get their foot
in the door, the effect on bringing down monopolistic prices . . . has
been phenomenal. Tuna prices dropped 63 per cent during 1995, beer
fell 32 per cent, whiskey 17 per cent, PCs 30 per cent and gasoline
20–25 per cent.28

The reality, as mentioned above, is that not all sectors of the Japanese
economy suffered during the poor economic climate during the 1990s.
Individual industries remained competitive and the case for reform was
not as compelling for all sectors. Moreover, Japanese industries still
78 Japan in Crisis

retained their technological and manufacturing excellence. Even so,

reform in the banking sector demonstrated that built-in obstacles to
reform, such as the practice, of lifetime employment, could be over-
come to secure greater productivity gains. It cannot be denied that
Japanese firms have laboured under unfavourable cost structures, espe-
cially in the 1990s. The example of banking reforms, in conjunction
with progressive deregulation, openness and withdrawal of protection
to industries, provided a strong incentive to implement necessary
reforms in the corporate structure.
Compared with those of other advanced countries the Japanese econo-
my had been one of the most tightly regulated, and the regulatory struc-
ture benefited certain industries, which did not have to cope with the
rigours of the market place.29 Regulatory protection permitted industries
to derive economic rent and operate successfully even with a high cost
structure. In the absence of competitive pressures to maintain a lean oper-
ating structure, firms became bloated with excess workforce. That luxury,
however, was no longer available to the corporate sector because of slow
growth and deregulation. However, as mentioned in Chapter 3, the pace
of deregulation has been slower than might have been expected and has
been hampered by resistance from protected industries.
Rationalization in Japan also is unlikely to be as far-reaching as it was in
the West, and that is largely because of a taboo against layoffs. In the post-
war period, the large industrial sector guaranteed employees lifetime
employment as part of an earlier compromise in return for industrial
peace. Lifetime employment has achieved the status of long tradition and
there is a strong aversion to workforce reduction. To some extent, the
practice of lifetime employment served as a privately funded welfare
mechanism, in which a redundant workforce was retained on the com-
pany payroll rather than being transferred to an inadequate and poorly
funded public welfare system. It was also essentially an instrument for
ensuring social justice and a reminder to firms that their responsibilities
extended beyond the corporate bottom line to the welfare of their
employees. When overall economic conditions were robust, surplus
workers were often retrained to perform other functions. This ability to
redeploy workers was an important counterpart to lifetime employment
and facilitated by enterprise, rather than functionally based, unionism.
Often, however, many surplus employees were retained even when they
made no contribution to the company at all.
With limited options for rationalizing production, labour costs contin-
ued to balloon out of proportion. A study by Lehman Brothers on unem-
ployment in Japan in June 1999 has revealed that labour costs had
 Corporate Reforms 79

increased to 57.5 per cent of gross domestic product over the previous ten
years from the recent average of 55 per cent. It calculates that if industries
were to restore labour costs to recent averages by retrenching surplus
labour then the resulting unemployment rate would be around 8.3 per
cent, well above the 1999 high of 4.6 per cent. More sombre was the
assessment that if labour costs were reduced to the US level of 48 per cent
then Japan would have an unemployment rate of 19 per cent.30 All these
suggest a high level of hidden unemployment in Japan and the situation
is not unlike that in China, where state-owned enterprises (SOEs) retained
excess workers despite poor profitability in order not to create large- scale
social dislocations.
With prolonged economic recession in Japan, firms increasingly found
it difficult to continue with the established tradition, but still there
remained for a considerable period a general reluctance to take the neces-
sary steps to streamline and rationalize operations. Reform in the banking
sector and a further worsening of economic conditions in the late 1990s
became catalysts for increased acceptance and inevitability of rationaliza-
tion. Even so, while Japanese banks have committed themselves to sub-
stantial reduction in their workforce, the same degree of rationalization
cannot readily be expected from other Japanese industries. Restructuring
of the banking industry was inevitable because of a dependence on public
funds, but other industries are not compelled to follow restructuring with
the same urgency.
Nonetheless, even if rationalization in other sectors of the economy
does not match the scale of the western rationalization in the 1980s, some
rationalization is inevitable, and not only because ownership and control
of some of the leading Japanese corporations, such as Mitsubishi, have
passed to western interests. According to estimates, Japanese firms
employ about 4 to 5 million surplus workers. While the imperative of
reform is well understood, management has been unable to deviate sub-
stantially from traditional practices of lifetime employment and senior-
ity-based wage rates that have dampened profitability. Restructuring
would be an acknowledgment of management failures and tarnish the
image of large corporations. Still, difficult as it was, Sony Corporation, in
early March 1999, announced that it would reduce its workforce by about
17 000. Likewise, Mitsubishi Electric announced job cuts of 6 000. Similar
job cuts will be necessary in many other large corporations, which are
burdened with surplus workforce. However, some corporations, in defer-
ence to traditional work practices, have opted to reduce their workforce
through natural attrition. In early 1999, for example, Hitachi Metals
Limited announced that it would reduce its workforce by 13 per cent, but
80 Japan in Crisis

Table 4.2 Company restructuring in Japan

Company No. of employees Layoffs Completion date as at

September 1998

Sony 170 000 17 000 March 2003

NEC 150 000 15 000 March 2002
Toshiba 66 500 6 500 March 2000
Mitsubishi Electric 45 440 6 000 March 2002
Mitsubshi Chemicals 11 545 2 000 March 2001
Toyo Engineering 1 438 350 March 2000

Source: Shukan Toyo Keizai, 17 April 1999, p. 22.

through a process of attrition. This timid approach is unlikely to produce

a streamlined workforce in the immediate future, and this will continue
to impede international competitiveness, even with the technological
edge of Japanese firms. Table 4.2 lists some of the declared cuts in work-
force by major Japanese corporations and their completion schedules.
Corporate rationalization, however, is more than job reduction and
corporations that had acquired new assets and activities in the 1980s are
expected also to slough off the ancillary activities and concentrate more
on the core businesses. Mitsubishi Electric, for example, announced that
it would begin disposing of unprofitable subsidiaries and reduce the total
number of subsidiaries from 180 to 140 by March 2001.31 Similarly,
Sumitomo Corporation announced that it would reduce the number of
its subsidiaries from 300 to 150. In late October 1999 Nissan Motors
announced that it would reduce its global workforce by 21 000 (14 per
cent) as well as close three assembly plants in Japan. Similar reductions in
workforce were announced by a number of other Japanese car manufac-
turers in mid–2001.
The problems confronting Nissan can be traced to its challenge to
Toyota’s supremacy in the 1980s, the plan having come unstuck when the
Japanese economic bubble burst. Amid declining sales, the entire auto
industry, in particular Nissan, was left with a large unused capacity, but
plant closures were not an easy option. At its peak in 1990, total auto pro-
duction in Japan was about 13.5 million cars, but by 1997 it had declined
to about 11 million cars, leaving a surplus production capacity of at least
around 2.5 million units.32 Nissan ultimately announced a decision to
shut some manufacturing facilities, but symptomatic of the difficulties in
reducing employment within Japan, the company also offered assurances
that workers in closed assembly plants would be deployed to other sectors
within the company.
 Corporate Reforms 81

Industrial restructuring in other sectors was also necessitated by a pool

of excess workers, poor domestic demand and the excess capacity created
during the bubble economy years in the 1980s. Figures for 1998 show that
capacity utilization in most industrial sectors was down to around 70 per
cent or less. The problems for industries in Japan are compounded by
weak domestic demand, as evidenced by falling sales in the retail, hous-
ing and car markets. Mergers and acquisitions, under the euphemism of
corporate rationalization, were a feature of western economies for a num-
ber of years and had now also arrived in Japan. According to The
Economist, there were ‘908 deals involving Japanese companies last year
[1998], nearly 30 per cent more than in 1997, and more than double the
number of deals in 1993’.33
The government did not, indeed could not, take a completely laissez
faire attitude toward troubled companies. In 1999, it decided to provide
subsidies to the troubled Nissan Motor Co. to assist its recovery. The min-
ister for international trade and industry stated that the government had
the responsibility to assist a leading industry. Government assistance for a
troubled but important domestic industry was not unprecedented, even
in the West. There are many examples of government subsidies to declin-
ing firms, such as the Chrysler Corporation in the US, which averted
potential bankruptcy with the help of government protection and a res-
cue package. Assistance to Nissan would be incontrovertibly counter-
productive only if it used the breathing space to stave off internal
restructuring rather than taking the opportunity to improve its product
line and performance.
Given the imperative of rationalization, a dilemma for Japanese firms
was that signs of tentative economic recovery and growth only made it
more difficult to maintain the momentum of reforms. However, com-
placency would only temporarily delay the inevitable day of reckoning.
At the same time, rationalization and layoff of workers in the middle of
economic stagnation only exacerbated a worsening unemployment situ-
ation. In February 1999, unemployment in Japan stood at a record 4.6 per
cent, increasing to 4.8 per cent in May 1999. These figures were not very
high in comparative terms but represent an entirely new development in
Japan, a country used historically to very low levels of unemployment.
Rationalization, however, was essential to long-term recovery and to the
international competitiveness of some of the key manufacturing sectors in
Japan. To date, however, the record of achievement is mixed and many large
firms remain generally supportive of traditional practices, including long-
term employment. In order to preserve lifetime employment practices there
have been only limited retrenchments, and seniority-based wages also
82 Japan in Crisis

remain an important determinant of wages despite an increased focus on

merit-based pay. Chris Pokarier suggests there are important consequences
of this tardy response from Japanese management, and that by retaining
senior employees and scaling back the recruitment of fresh university grad-
uates firms have been disadvantaging themselves in terms of future flexibil-
ity, efficiency and dynamism.34
It should be emphasized that industrial competitiveness cannot be
achieved through rationalization strategies alone. One of the key features
of Japanese industrial structure was a heavy reliance on intra-keiretsu
contracting. Subsidiaries and affiliated corporations played an important
role in supplying parts and materials, and in turn these subsidiaries were
relied upon to park ‘surplus workers’ transferred from head office or to
lower the cost structures for the parent corporation, as happened during
periods of yen appreciation. Major corporations, in their attempts to
retain export competitiveness, put pressure on their subsidiaries to reduce
prices,35 a strategy that essentially transferred the pain of competitive
adjustment to subsidiaries and affiliated firms. These networks have
become less important as firms reduce intra-keiretsu contracting to
source parts and materials in a competitive market environment and as
the rationalization of workforces reduces the importance of keiretsu firms
to offload surplus workers. Decreasingly, as noted above, large Japanese
firms are in the process of reducing their subsidiaries and affiliates.
As mentioned before, the deflationary consequences of rationalization
are significant. Highlighting this danger, Paul Krugman urged the Bank of
Japan to adopt ‘irresponsible policies’ and set an inflation target to coun-
teract economic deflation and to stimulate consumption demand.36 The
importance of encouraging consumer spending cannot be overempha-
sized because banking reform, necessary as it is, will not by itself lead to
economic recovery. The Japanese government confronts a dilemma in
that sustained economic recovery will depend on Japanese consumers
changing their consumption and savings patterns, but a willingness to
forgo savings for consumption can happen only when they regain confi-
dence in the economy. Indications are that the mood of Japanese con-
sumers in 1999 was much less confident than in 1998. An Asahi Shinbun
survey in March 1998 had found that 77 per cent of respondents were
worried that recession would impact on their household’s future income
or employment prospects, but in April 1999 a similar survey revealed that
82 per cent of respondents were either highly or somewhat concerned
that recession would have adverse effects on income or employment
prospects. Until and unless consumer confidence is restored, it is likely
that full economic recovery in Japan will be a lengthy process. When in
 Corporate Reforms 83

the April 1999 survey consumers were asked to identify the necessary
conditions for restoring confidence in the economy, the most common
response was a reliable welfare system (36 per cent) employment stabi-
lization (35 per cent), tax cuts (13 per cent) and elimination of fiscal
deficits (12 per cent).37
In a sense, the Japanese economy was gripped in series of vicious cycles
that impeded recovery. For instance, lack of consumer confidence had
resulted in low consumption and poor economic performance and was
itself a result of rising unemployment and economic uncertainty. It is
important to reverse this trend to restore consumer confidence. Yet the
rise in unemployment levels is not unrelated to industrial restructuring
within Japan, without which Japanese industries are unlikely to recover
their international competitiveness. At the same time, it should be under-
stood that restructuring programmes to date remain rather modest, com-
pared with the restructuring and rationalization implemented by western
firms in the 1980s to improve their international competitiveness and
productivity. Most of the job losses that were announced targeted over-
seas operations rather than in Japan, where the size of the workforce was
to be reduced gradually through attrition and reduced annual intake.38
These were very tentative attempts at restructuring, and Japanese man-
agement has yet to demonstrate its willingness and capacity to radically
overhaul operations in Japan. Until the late 1980s, Japanese management
practices were held up as a model for emulation for their success in, for
example, achieving high levels of worker motivation and team spirit. This
style of management had built-in rigidities but was suited for hard manu-
facturing of products and components. Japanese management now has
to prepare itself for the softer side of production, such as intellectual prop-
erty and software, and this requires a more flexible approach to workforce
levels. It is not easy to abandon a set of structures that worked well for half
a century, but the ability to adapt to changing requirements will ultimate-
ly determine Japan’s future economic success.

Conclusion

Japanese corporate structures and governance features had contributed to

economic success, but some of the earlier sources of strength have
become weaknesses holding back economic recovery. As noted above,
government-sponsored financial sector reform has had a ripple effect
through the Japanese industrial structure. Corporate rationalization
became a feature of corporate culture in Japan, but of course rationaliza-
tion is nothing new. The Japanese government had been intricately
84 Japan in Crisis

involved in rationalizing and strengthening Japanese industries in the

heydays of industrial policy controls, especially in the 1960s when merg-
ers were encouraged to ensure that Japanese firms did not become easy
targets for foreign takeovers. Miyajima points out that a majority of reor-
ganizations and mergers that occurred were predominantly ‘among firms
related to one another in terms of personnel or capital; that is, those in a
parent–subsidiary relationship before the merger, or firms within the
same bank-centered keiretsu’.39
It is ironical that while some of the earlier restructuring efforts were
intended to stave off foreign acquisitions, necessary reform and restruc-
turing of corporate structures is now being facilitated by foreign presence
in the corporate landscape of Japan. The foreign presence has increased
significantly in the period of the Great Stagnation. For example, foreign
investment in Japanese stocks in fiscal year 1994 was Y16.4 trillion but
had increased dramatically to Y99.6 trillion in fiscal year 1999.40 Foreign
owners of Japanese corporations have aggressively pushed the reform
agenda, and it is likely that as banks are forced to resolve their non-
performing loans more Japanese firms will become targets of foreign
acquisition. This can be only a positive influence on the restructuring
process. In the contemporary period, most of the emphasis has been on
rationalization of excess staff, but the agenda for reform extends to a
review of the keiretsu networks and their continued relevance in a more
competitive global environment. There is also evidence of a shift in focus
on core activities and some firms have divested their non-core businesses.
Industrial rationalization and restructuring programmes are being
adopted by many Japanese firms, albeit with a considerable lag after
similar efforts in western countries. Some of the pillars of Japanese labour-
management relations, including lifetime employment, are being gradu-
ally eroded. According to Matsumoto Shinsaku of the Japan Institute of
Labour, ‘It isn’t showing up clearly yet in the rate of people changing
employment or the other statistics, but on the conceptual level at least,
the lifetime employment system is breaking down.’41
At a superficial level, ongoing reforms give the impression that
Japanese industrial and management practices are convergent, but it is
unlikely that Japanese firms will follow the western lead in ‘rationaliza-
tion’ with the same zeal and purpose. Layoffs and downsizing still remain
difficult subjects, and inevitably Japanese practices will converge on an
equilibrium point different from western concepts of best practice. In the
West, corporate rationalization increased the flexibility of managers to
respond to global competitive pressures, but that flexibility was earned at
the expense of insecurity for employees. It is unlikely that Japanese firms
 Corporate Reforms 85

will move quickly to shed their ‘employee-friendly’ image and become

more ‘shareholder-friendly’. Indeed, it is remarkable that after more than
a decade of stagnant growth and profitability for many corporations,
there is no great movement in favour of adopting the western strategy to
downsize (the workforce) and distribute (profits to shareholders). Instead,
management practices continue to build on the traditional Japanese prac-
tice of retain (the workforce) and reinvest (profits back into the com-
pany).42
One interesting feature of changing industrial relations and rational-
ization in Japan is the role of foreign managers and executives driving the
process of changes. The long period of economic stagnation, poor corpor-
ate results and depressed stock markets made some Japanese firms, like
Nissan, easy targets for takeover by foreign firms. Foreign acquisition of
iconic Japanese firms is all the more interesting given a long-standing
government policy to protect Japanese firms from takeover bids, especial-
ly after liberalization of capital controls in the 1960s. This concern to pro-
tect companies from foreign takeover had prompted the government to
try and consolidate firms into larger conglomerates so that they could
better withstand foreign pressures.
In reality, appointment of a foreign chief executive officer has allowed
for a more substantial rationalization programme than might have been
possible without the foreign input. The present period may not parallel
past periods of foreign borrowing, but there are certain similarities in the
way foreign pressure and foreign executives have been at the forefront of
industrial and corporate reforms in Japan. Firms more committed to
reform and rationalization have emerged as more flexible players on the
corporate stage, but of course there have been negative consequences as
well, primarily in terms of loss of job security and tenure of employment.
The social pain and costs have still been much less than those resulting
from rationalization in the West. For example, unemployment in Japan,
while high by past standards, remains remarkably low by international
standards. Also, while there may be a greater sense of uncertainty about
future outcomes, there is little direct evidence that Japanese consumers
and workers are excessively pessimistic about the economy. One reason
why Japan might manage its reforms better could be the particular demo-
graphics and expected future labour shortage.
In the West there has long been an expectation that Japan would con-
verge on western ideals, but it was unrealistic in the past and remains so in
the contemporary period. If American history reveals a tendency towards
either isolationism or engagement, Japanese history reveals periods of
incorporation of foreign ideas and practices followed by lengthy periods
86 Japan in Crisis

of indigenization. Foreign borrowing in the past failed to produce conver-

gence in, say, the way the principle of ‘mandate of heaven’43 was bor-
rowed from China and indigenized but did not lead to convergence on
Chinese practices. There is no reason to assume that Japanese manage-
ment practices will converge on American or other western models. Arne
Holzhausen, for example, looks at changing Japanese employment and
management practices but concludes that Japanese practices will remain
distinct and non-convergent. He notes that employment practices have
been evolving, at least since the first oil crisis, to emphasize ability rather
than seniority and that it is mistaken to believe that events of the 1990s
are prompting a convergence.44 By contrast, Yishay Yafeh looks at corpor-
ate finance system and governance issues, and concludes that Japanese
management practices will inevitably become similar to that in the
United States. He writes that Japanese practices were time-bound and
inconsistent with contemporary pressures on corporations, and that only
by convergent strategies can Japanese firms remain internationally com-
petitive and prosperous.45
We know that historically Japan has shown a great capacity to learn
from the experiences of other countries, but foreign learning has always
been indigenized to suit domestic purposes and requirements. One rea-
son why it is unlikely to follow the West in downsizing is because of
changing Japanese demographics. While present economic difficulties
suggest a need for reducing the workforce levels in many Japanese corpor-
ations, the shrinking population means that, in the not too distant
future, the bigger problem will be to recruit and retain workforce.
5
Regulatory Reforms

Crises inevitably force governments and policy-makers to review prevail-

ing doctrines and practices. The Great Depression of the 1930s resulted in
considerable social distress and had an enduring impact on accepted eco-
nomic wisdom and on the role of states in economic management. It
shattered the myth of self- correcting markets and legitimized state inter-
vention in regulating national economies. Over time, this became insti-
tutionalized in regulatory structures. The logic of regulatory intervention
in economic activity was premised on the simple notion that market fail-
ure, a periodic occurrence, could be remedied or mitigated by an activist
state imposing a structure to overcome market uncertainty and instabil-
ity, and enhancing confidence in long-term contracting. Armed with this
basic assumption, states increasingly became legitimate players in regu-
lating behaviour, market entry standards, health and safety standards,
quality controls and an array of other market activities.
In the 1970s, sustained economic stagnation and high inflation in the
West undermined faith in state capacity to effectively regulate economic
processes. The triumph of conservative governments in the US and the
UK began a process of regulatory decontrol in order to reduce the burden
of compliance on businesses. Regulatory restrictions were recast as a nega-
tive influence on market freedom and competition and as an impediment
to corporate flexibility. This paradigm shift incorporated a firmly held
belief that markets were more efficient at regulating business activity. In
these governments’ world-view of minimalist state intervention, deregu-
lation not only improved short-term economic efficiency but also had
more dynamic long-term benefits by stimulating business activity and
innovation.1
The negative externalities of state regulatory policies included govern-
ment failure and the high cost of compliance that disadvantaged producers

87
88 Japan in Crisis

in the international marketplace. Robert Rogowsky has summed up the

negative consequences of regulation by stating that the ‘more thoroughly a
market is governed by regulatory bureaucracy, the more likely it will per-
form with the characteristic inefficiency of a large bureaucracy’.2 To the
extent that this was true, there were obvious implications for national com-
petitiveness. Another assumed negative externality of government regula-
tion was that it inhibited risk-taking behaviour and private sector creativity
and innovation, factors considered essential in a global economy driven by
a revolution in information technology requiring rapid adjustment to
shifting market conditions.

Regulatory politics in Japan and the United States

In the United States, the first major area of deregulation involved the avi-
ation industry, and this immediately ushered in an era of cheap flights,
‘proving’ the virtues of deregulation to market competition and con-
sumer benefits. Proponents of deregulation also cited statistical evidence
to show that in the post-deregulatory period, the 1970s to the 1990s, air-
line fatalities had declined by about 70 per cent. This was enthusiastically
but misleadingly construed as confirmation that market discipline had
improved air safety, when in reality safety had improved largely as a
result of technological innovation and computerization in the airline
industry.3 However, even discounting that improved air safety was
related to deregulation, proponents were convinced that the economic
advantages alone were sufficient to justify market-based, rather than
state-based, regulatory structures. The economic benefits of deregulation,
to producers and consumers, were clear from comparative price move-
ments in regulated and unregulated sectors of an economy. In the US,
according to Paul MacAvoy:

The four deregulated industries – rail, trucking, airline and petroleum

products – experienced price declines of the order of twenty-six to fifty
percent after controls were ended. The three regulated industries – nat-
ural gas, electricity and telephones – continued to experience price
increases except in markets specifically subject to decontrol.4

While the US and British governments introduced substantial deregula-

tory policies, the Japanese government did not deviate from its path of
strong market presence to ensure orderly rather than chaotic market com-
petition. Japanese state preferences were a continuing legacy of the devel-
opmental state, which in the 1950s and 1960s took the lead in rebuilding
 Regulatory Reforms 89

industry, targeted specific industrial sectors for promotion and used its
credit allocation capacity to discriminate between different types of
investment activity. The Japanese state performed its interventionist role
through a series of legislative measures as well as the more informal yet
pervasive practice of administrative guidance.
While some attribute early Japanese economic successes to enlightened
state intervention in the economy, Porter et al. have been critical of
Japanese bureaucratic capitalism, or state-led capitalism, as having
impaired corporate entrepreneurship and innovation. They reject as
spurious suggestions that bureaucratic capitalism contributed to Japan’s
economic success in the early postwar period, and argue instead that
bureaucratic intervention is the main problem confronting the contem-
porary Japanese economy and has harmed the nation’s productivity and
prosperity.5
Of course, despite heavy-handed regulatory controls, it is well known
that innovation and entrepreneurial spirit were not necessarily absent
among Japanese industrialists even at the height of pervasive state inter-
vention and regulatory control. There are several well-known examples
of new and innovative enterprises, like Honda and Sony, which success-
fully carved out their own competitive niches within a highly regulated,
even a hostile economic structure. Porter et al. willingly concede that
there were pockets of innovation, but insist that these were exceptions to
the general rule and that only a handful of industries had carried the
entire Japanese economy forward during the high-growth period. Most
sectors of the economy, such as retailing, wholesaling, transportation,
construction, energy and health care services remained highly ineffi-
cient, even though they generated significant employment outcomes.
The employment generation capacity of these inefficient industries was a
form of ‘social welfare system’, a responsibility that had been imposed on
them by a regulatory state that was distrustful of market competition. The
non-competitive sectors were shielded from foreign competition by pro-
tectionist policies and only the few competitive industries had a promi-
nent export profile. The export success of the competitive industries
underpinned the miracle of Japan’s high growth and equitable income
distribution. Throughout the postwar period, however, domestic con-
sumption remained low compared with that in other advanced industri-
alized countries. The continuation of low domestic demand was an
important factor impairing economic recovery in the 1990s.
Advocates of deregulation in Japan, logically enough, point to regula-
tory inefficiencies that impede corporate competitiveness in a global
economy. They argue that deregulation is vital to establish the basis for
90 Japan in Crisis

sustainable economic recovery in Japan, after more than a decade of eco-

nomic stagnation. A dissenting view is that deregulation, however worth-
while, should not be the focus of state policy since it was unlikely to
resolve an economic crisis brought on by falling consumption demand
and deflationary price movements, rather than by regulatory inefficien-
cies. Deregulation could have only a supply-side effect and was unneces-
sary to fixing inadequacy of consumption demand. According to Paul
Krugman, the central dynamics of the contemporary Japanese economic
crisis are insufficient consumption demand and deflation. He argues, as
we have seen, that crisis resolution demands an inflationary target to curb
savings and encourage domestic consumption demand. Deregulation, in
the current economic climate, may simply be misguided policy and likely
to distract the attention of policy-makers from the more important task of
economic recovery and growth. Deregulation may even exacerbate the
economic crisis if it adds to a deflationary spiral and inhibits consump-
tion.
However, rather than downgrade the importance of regulatory reform,
it is, I argue, essential to pursue simultaneously both the supply- and
demand-side solutions. The Japanese economy is highly regulated with
extensive state regulatory and interventionist policies. Under these con-
ditions, it is reasonable to assume that Japanese firms have a competitive
disadvantage compared with firms operating in a less regulated environ-
ment and which consequently do not have the same high cost of regula-
tory compliance. To the extent that firms have to comply with regulatory
requirements, the more stringent the requirements the greater is the cost
of regulatory compliance. And the regulatory gap between Japan and
western advanced industrial countries has widened considerably since
the early 1980s. As national economies have become more integrated,
discrepant regulatory burdens have acquired considerably more econom-
ic significance. Thus with the advent of globalization there is now greater
interest in regulatory harmonization to ensure a level playing field for
firms across national jurisdictions as well as in deregulation, to ensure
that firms retain maximum flexibility in coping with environmental
changes. In the past, American and other western businesses complained
that Japanese regulatory structures impeded their capacity to compete in
the Japanese market, but these days Japanese firms may legitimately com-
plain of being disadvantaged by excessive and more onerous regulatory
requirements.
The issue of regulatory reform and deregulation in Japan has received
considerable attention from both within and without the country.
Outsiders, especially Japan’s trading partners, have focused on the trade-
 Regulatory Reforms 91

distorting consequences of regulations that impede foreign imports and

act as non-tariff barriers to limit access to the Japanese market. Japanese
regulatory structures, such as those governing distribution and restric-
tions of large stores, have been a frequent source of friction with trading
partners on grounds that these are strategies to exclude imports from the
market place.
Domestically, proponents of deregulation emphasize the anti-compet-
itive aspects of higher regulatory standards. They claim that regulatory
structures in Japan have contributed to the persistence of economic stag-
nation and malaise, despite large public works programmes to boost eco-
nomic growth. Advocates of deregulation are convinced that the
competitive strength of Japanese corporations and growth prospects of
the Japanese economy will depend on the willingness and ability of the
government to introduce regulatory reforms and reduce the burden on
private sector activity.
The Japanese government, too, accepted the importance of regulatory
reform, but, as always, the rhetoric of deregulation was more impressive
than actual achievements. Still, there were some significant achieve-
ments, such as the privatization of the Japan National Railway (JNR), the
telecommunications giant NTT and the Tobacco and Salt Monopoly
Corporation. There was as well some deregulation of the financial sector,
which opened up new avenues for Japanese corporations to secure invest-
ment capital from non-bank sources. This lowered the cost of investment
capital for Japanese firms, which had previously relied on bank financing
at higher interest rates. As a result there has been a marked weakening of
main bank linkages, and instead a growing reliance on equity capital and
on foreign capital markets. A negative consequence of financial deregula-
tion, as noted in Chapter 2, was that it encouraged speculative activities
and was, at least partially, responsible for the bubble economy, as firms
were no longer constrained by main banks’ oversight and surveillance of
investment activities. The shortcomings of market-based regulation are
now being addressed through requirements of greater transparency,
improved accounting practices, independent boards of directors and
other measures to ensure accountability.
Compared, however, with regulatory reforms that have been intro-
duced in Japan so far, there remains much more to be accomplished
before Japanese firms can compete internationally without being bur-
dened by high costs of regulatory compliance. Japan has yet to experience
the same deregulatory phenomenon that occurred in the US, the UK and
other western countries in the late 1970s and 1980s. In Britain, the big-
bang financial deregulation of the mid-1980s was a result of a number of
92 Japan in Crisis

factors, including the challenge of foreign competition, new technolo-

gies in financial transactions and an ideological commitment to market
principles.6 In the US, President Carter in the late 1970s introduced poli-
cies to abolish or phase out regulatory controls on a number of industries
and President Reagan in the 1980s made deregulation one of the four pil-
lars of his New Economic Programme. Since the 1980s the regulatory gap
between Japan and its competitors has widened since western countries
began a programme of deregulation in the 1980s.
In general, deregulation and regulatory reforms are ways of recalibrat-
ing state-society relations in order to find an appropriate balance between
producers, consumer, and national interests. At the same time, regulatory
reform should not be interpreted to mean deregulation only, and may
include regulatory initiatives in new areas of economic activity. In Japan,
the force of regulatory authority is based either formally on enacted leg-
islative measures or informally on administrative guidance measures that
have no legal standing. According to estimates of the Economic Planning
Agency of the Government of Japan, the total weight of the regulated sec-
tor of the economy was approximately 53 per cent of the GNP in 1980.
This compared with 23.7 per cent for the US in 1975. It is clear that even
before deregulation began in earnest in the United States in the late 1970s
the Japanese economy was already more heavily regulated and it can be
assumed that the differential would have widened in the 1980s.7
Deregulation and regulatory reform became important keywords in
Japan in the 1990s and there has been important progress, but according
to Miyauchi Yoshihiko, chairman of the Regulatory Reform Committee
in Japan, even in the late 1990s approximately 42.3 per cent of all
Japanese industries continued to be subject to government regulation in
some manner.8
One of the main objectives of Japanese regulatory structures was to cre-
ate a system of orderly markets. Regulatory frameworks were consequent-
ly both extensive and intrusive, focused on creating ordered markets
rather than competitive ones that were regarded as chaotic and undesir-
able. Competition, however, is increasingly the essence of the modern
market economy and Japanese regulatory structures have the effect of
frustrating its progress.
Regulation, as indicated above, is an impost on business activity since it
adds to the compliance costs of doing business. As such pressure for
regulatory reform has come not only from trading partners who see regu-
lation, especially of the administrative guidance variant, as a form of non-
tariff barrier, but also from peak domestic business groups, like
Keidanren, which see regulatory controls as adversely affecting the com-
 Regulatory Reforms 93

petitive strength of corporations. Lonnie Carlile has suggested that the

focus on deregulation in Japan can be traced to developments within the
business community and Keidanren. According to him, Keidanren lead-
ers, in the mid-1980s, began to perceive deregulation as

an approach that would simultaneously address several economic

challenges confronting Japan: trade frictions, recession, appreciation
of the yen, and rapid technological change . . . Internally, the
Keidanren leadership appears to have also begun around this time a
campaign to foster a proderegulation, antibureaucratic climate
among its membership.9

To the extent that regulations are an impost on businesses, consumers

ultimately have to pay higher prices for goods and services.
In principle, deregulation benefits both producers and consumers and
can significantly boost economic growth to bring Japan out of economic
stagnation in a way that fiscal stimulus packages failed to do in the 1990s.
Since the collapse of the bubble economy the Japanese government has
spent Y120 trillion in economic stimulus packages to little real effect, and
the 1990s are regarded as a decade of lost economic opportunities. At the
same time, as a result of deficit financing programmes total national and
local government debt had ballooned to Y645 trillion at the end of finan-
cial year 2000 (FY2000). This amount was roughly equivalent to 130 per
cent of GDP. It is possible that without deficit spending economic condi-
tions in Japan in the 1990s would have been significantly worse, but
according to Miyauchi the only real route to recovery was through exten-
sive regulatory reform. Miyauchi, chairman of the Regulatory Reform
Committee and a director of Keidanren, an organization whose member-
ship included the large corporate sector in Japan, has also suggested that
some of the celebrated examples of reform were actually less than exem-
plary. He has even maintained that there will be no genuine financial big
bang reform until the government relinquishes control of the massive
postal savings system, with savings and deposits equivalent to about 20
per cent of total private financial assets.10

Regulatory reforms in Japan

In Japan, reform has been debated since the early 1980s, and the reform
initiative gained momentum in the 1990s with the establishment of an
Administrative Reform Commission (ARC) in late 1994. In April 1995, a
Deregulation Subcommittee was set up under the ARC. The ARC was
94 Japan in Crisis

dissolved in December 1997, however, and replaced with a Deregulation

Committee in January 1998. This was subsequently renamed the
Regulatory Reform Committee (RRC) in April 1999.
The decision to rename the Deregulation Committee as the Regulatory
Reform Committee is instructive of the government’s approach to
deregulation. Deregulation, in its strictest sense, means the abolition of
restrictions and regulations, whereas the Japanese equivalent of the term,
kisei kanwa, implies simply the easing or relaxation of controls rather
than their abolition. The name change may have been prompted by con-
cerns not to inflate western expectations only subsequently to frustrate
them when the approach of the Japanese government turned out to be
markedly different from the policies of governments in the US or the UK.
The revised nomenclature confirmed that Japanese objectives were not to
follow the path of western governments and that the Japanese bureaucra-
cy would retain regulatory authority, even if diminished. As G. P. McAlinn
writes, ‘This difference illustrates the profound gap that separates people
in the West and Japanese in their vision of what constitutes the ideal rela-
tionship between government and business.’11 The Japanese government
remained unconvinced of any need to fundamentally reshape state-
society relations, for fear it might, as it had allegedly in the West, lead to a
decline of social morals, national cohesiveness, fairness, and equity.
There are many government studies touting the progress of regulatory
reform and deregulation, and one study by the Economic Planning
Agency (EPA) estimated that in FY1998 the consumer surplus, or the net
benefit to consumers, as a result of deregulation in various sectors of the
economy such as telecommunications and air transport, amounted to a
total of Y8.6 trillion or 2.3 per cent of national income.12 Despite such
self-congratulatory assessments, most analysts agree that progress has
been modest at best. This is obvious at least from estimates of the weight
of regulatory requirements on Japanese industry. Indeed, compared with
reform in financial sectors and other reforms, regulatory reform has
lagged behind others, partly because of bureaucratic obstructionism and
the opposition from vested interest groups in Japan, and even owing also
to the concern of consumers that deregulation might result in lower prod-
uct health and safety standards.
There is no suggestion that Japan should replicate western and the
American regulatory framework, and inevitably Japan will retain its dis-
tinctive features. Predictions of a convergence on western ‘best practices’
ignore Japan’s own historical evolution and the socially embedded nature
of regulatory policies and institutions. As Kozo Yamamura has pointed
out, different people will give different weighting to issues of economic
 Regulatory Reforms 95

efficiency or distributional equity, and the balance between regulation and

the market will be determined by divergent values of each societal con-
stituency, history and institutional inflexibility. He also argues that the
convergence theory suffered from

self-induced amnesia about all that was written only a short time ago
on the ‘decline’ and the ‘deindustrialization’ of the United States and
the United Kingdom and the distributional woes and social malaise
that afflict American and British capitalism.13

He then concludes that Japan would ultimately evolve a hybrid model

that reflected broad societal considerations rather than simply those of
producers. It would be futile and simplistic to expect the Japanese govern-
ment to try and catch up with western regulatory standards, in a way
similar to those followed in earlier periods of ‘catch-up industrialization’.
As far as opposition of vested interests is concerned, the situation is
similar to problems of trade liberalization, which always have an adverse
impact on protected sectors and which can be expected to lobby for con-
tinued protection. According to Miyauchi:

people often blame bureaucrats for dragging their feet. I think, how-
ever, that it is not so much bureaucrats that oppose deregulation, but
rather vested interests in the private sector . . . One example is the issue
of liquor sales . . . in March 1998, a Cabinet decision was made to abol-
ish restrictions on supply and demand related to population density
and distance from store to store. However, there suddenly arose strong
opposition from a few vested interests and the implementation
became more complex.14

Despite known price advantages for consumers, it should be noted that

consumer groups in Japan have been hesitant about embracing deregula-
tion. In a sense, however, this was no different from the opposition to
globalization and trade liberalization from the prominent American con-
sumer rights advocate Ralph Nader, who campaigned tirelessly against
liberalization and the establishment of the World Trade Organization,
despite obvious benefits to consumers, as bringing undesirable employ-
ment and other consequences.15 Likewise, Japanese consumers have agi-
tated against the liberalization of agricultural products because of the
fear, whether real or not, that foreign products, such as rice, may carry
health risks emanating from use of pesticides and other chemicals.
Similarly, to the extent that many regulatory statutes are ostensibly
96 Japan in Crisis

designed to ensure product safety standards, consumer groups in Japan

have been reluctant to support deregulation, regardless of the associated
welfare gains. Still, as the White Paper on Regulatory Reform estimated,
the consumer benefit of relaxed regulatory standards amounted to an
average Y6.6 trillion a year between 1990 and 1997. In the same period
the producer benefit amounted to an average of Y8.2 trillion a year.16

Bureaucratic opposition to deregulation and reform in Japan

Successful economic and administrative reform will depend to a consid-

erable extent on political activism and leadership. As expected, the
bureaucracy and other vested interests have attempted to slow down or to
derail the reform process. Of course, the bureaucracy can hardly be
expected to support and implement deregulatory policies that ultimately
must reduce their sphere of influence. The bureaucracy is by its nature an
institution that is committed to stability rather than change and uncer-
tainty. This, as Max Weber observed, is true of all bureaucracies, which are
well adapted to deal with routine and mundane issues through so-called
standard operating procedures but quite deficient in responding to new
issues. To preserve the integrity of reforms, the task must be the responsi-
bility of political leaders, but the reality is that Japanese bureaucrats exer-
cise considerable influence. Not surprisingly, reforms have delivered
much less than promised, and administrative reforms that have been
approved have been more superficial than substantive.
The Japanese bureaucracy has been very influential in postwar Japanese
politics and policy-making processes. There are various reasons for its
inordinate influence, but one practical explanation for bureaucratic
involvement in policy-making is that it ensures suitable amakudari
options for retired bureaucrats. Senior bureaucrats retire early in Japan to
begin a new career in the private sector, a practice sustainable only because
the bureaucracy has a policy-making function and because of the exten-
sive regulatory structures. Firms and corporations accept senior retired
bureaucrats on corporate payroll largely to gain access to the political and
policy-making process. Evidence shows that amakudari (see Table 5.1) is a
more prevalent practice in regulated industries and for this reason the
bureaucracy can be expected to vigorously oppose extensive deregulation.
A significant diminution of bureaucratic influence in policy-making will
erode amakudari prospects and may in turn require compensating meas-
ures to retain senior bureaucrats within government ministries longer.
This will of course have implications both for government budgets and for
promotion prospects within ministries and agencies.
 Regulatory Reforms 97

Table 5.1 Amakudari in selected Japanese industries

Industry No. of firms No. of amakudari % of board

board members members
Regulated
Construction 30 150 12.8
Second regional bank 30 60 11.4
Telecommunications 4 13 9.7
Air transport 5 11 8.2
Regional bank 30 36 5.7
Electricity and gas 20 20 3.9
Unregulated
Steel 30 6 0.9
Automotive 30 6 0.9

Source: Kawamoto, A., ‘Unblocking Japanese Reform’, OECD Observer, March 1999.

Bureaucrats, however, are more likely to rationalize their resistance to

large-scale deregulation on the grounds that any move to replicate the
American example will lead to the same social dysfunctions and inequities.
One pre-eminent Japanese Finance Ministry bureaucrat, Sakakibara Eisuke,
also known as ‘Mr Yen’ because of his alleged influence over exchange rate
movements, argued that many of the existing social ills in Japan could be
traced to the bubble economy of late 1980s. The bubble economy, accord-
ing to him, had spawned excessive freedom, an ideology of ‘me-ism’, and a
decline in morals at the personal and corporate levels, producing maladies
like the Recruit and Sagawa-Kyubin scandals of the 1990s. This problem, he
argued, would be exacerbated if Japan followed the path of the US.17
Corruption scandals have also implicated the Japanese bureaucracy and
resulted in a reduction of its influence and clout within government. The
bureaucracy no longer has the exalted position it held during the 1960s
when it was credited with engineering the Japanese economic miracle.
The bureaucracy used to be held in high esteem and considered free of the
rampant corruption that plagued Japan’s political parties, but in recent
years it has been found to be just as susceptible to financial temptations
and other misdemeanours. For all the bureaucrats’ sniping and attempts
to discredit reforms, it is unlikely that they will be in a position to signifi-
cantly derail the reform process. The real constraint on reform lies in the
nature of party politics in Japan and the absence of political will.

Structural reform in the context of Japanese party politics

The Liberal Democratic Party has monopolized government for much of

the postwar period and while some individual zoku politicians (politicians
98 Japan in Crisis

who have grouped themselves into policy tribes to assert their policy lead-
ership) have used longevity in the Diet to influence policies, the party has
largely abnegated its policy role. Thus the rhetoric of reform has far out-
stripped any genuine commitment to it, especially in the 1990s after earl-
ier liberalization measures under foreign pressure (gaiatsu) were blamed
for electoral disasters.
Instead of developing clear and coherent policies on reform, the party
relied where necessary on ‘reformist’ and ‘dynamic’ politicians to project
an image of policy activism. The cabinet of Prime Minister Mori, for
example, included two politicians, Hashimoto and Yanagisawa, who sup-
posedly had the requisite reform credentials and capacity. The party itself
remained sidelined as a policy instrument. The same principle repeated
itself in the challenge to Prime Minister Mori by Kato Koichi in November
2000. Kato legitimized his challenge on grounds that the Mori adminis-
tration had stalled on reforms and that only he was capable of advancing
the agenda introduced by Prime Minister Obuchi. As mentioned, in Japan
the Liberal Democratic Party as a political party has failed in its role as a
policy-making machine, and instead postwar politics have been person-
ality-oriented politics, where a government’s reform credentials depend
not on concrete policies but on the composition of the cabinet.
The abnegation of policy responsibility by the party in power has a
historical analogy in the usual separation of political ‘rule’ and ‘reign’ in
imperial Japan. The contemporary pattern of devolving policy responsibil-
ity to an ‘outside’ agency is replicated throughout Japanese history,18 as
during the Tokugawa period when formal political authority resided in the
emperor based in Kyoto but the shogun actually governed the country
from Edo (Tokyo). Again, in Meiji Japan, the Meiji emperor was the nomi-
nal ruler of the country but it was a small oligarchy from Satsuma, Choshu,
Tosa and Hizen (Sat-Cho-Do-Hi) that held the reins of power. The Sat-Cho-
Do-Hi clique had been instrumental in deposing the Tokugawa shogun,
and while their campaign had been legitimated in terms of the Meiji
Restoration they refained political power and ruled Japan on behalf of the
emperor. The practice of devolving power was useful in quarantining the
emperor from blame for policy failures and explains why Japan, unlike
imperial China, was able to maintain an unbroken line of imperial descent.
In the contemporary period, this continuity in historical pattern may
perhaps be attributed to the absence of a viable opposition political party.
Political leadership is essential and the success of reforms will depend on a
convergence rather than a separation of political authority and govern-
ance. In order to ‘normalize’ Japanese party politics and policy process,
the importance of a viable opposition party cannot be overstated.
 Regulatory Reforms 99

In 1955, following the establishment of the Liberal Democratic Party

and the Japan Socialist Party (JSP), it appeared that a two-party structure
might take shape in Japan and that political power might alternate
between these two political parties. A split in 1960 that led to the estab-
lishment of the moderate Democratic Socialist Party, however, perman-
ently weakened the JSP. In that decade, the emergence of other smaller
political parties further split the opposition vote and strengthened the
dominance of the LDP. The LDP added to its electoral appeal by deliber-
ately eschewing policy principles and by broadening its appeal beyond its
traditional support base in the countryside. The party reinvented itself as
a catch-all, or catch-almost-all, political party. Thus, even though it
would have been logical for the JSP, for example, to mobilize the emerging
environmental movement of the late 1960s, it was actually the LDP that
responded to environmental concerns by legislating tough environmen-
tal measures in the 1970s.
The post-split JSP was, and remained until the mid-1990s, the largest
opposition party, but it was practically reduced to half a political party,
with little prospect of winning government. The longer it stayed in
opposition, the further removed it was from government and from for-
mulating an alternative policy platform. With a policy vacuum among
the opposition political parties there was little incentive for the LDP to be
more policy-assertive.
The JSP, relegated to political backwaters for much of the postwar peri-
od, became even more anachronistic and irrelevant to the political future
of Japan following the collapse of most Marxist regimes in the 1990s. This
may have been a factor in the decision in 1993 by Ozawa Ichiro, Hata
Tsutomu and others to defect from the LDP and create what they hoped
would be a viable and alternative, conservative political party in opposi-
tion to the LDP. The establishment of splinter parties followed an earlier
example of LDP politicians who in the mid-1970s defected to set up the
New Liberal Club (NLC). The NLC had very small beginnings, with only
four politicians, and was unable to boost its numbers to pose any serious
threat to LDP longevity. In the end, after about a decade of inconsequen-
tial existence the NLC returned to the fold of the LDP. In 1993, a large
number of LDP politicians defected to establish new political parties. The
first political party to emerge, in late June 1993, was Shinto Sakigake (New
Harbinger Party) established by Takemura Masayoshi and nine other
politicians. A few days later, Ozawa Ichiro, Hata Tsutomu and more than
40 other former LDP politicians established Shinseito (Renewal Party).
Over the next few years, the party system continued to change. In
December 1994, Shinseito merged with a number of other political
100 Japan in Crisis

parties and this led to the emergence of Shinshinto (New Frontier Party).
This new party had 178 members in the Lower House of the Japanese Diet
and could have posed a serious challenge to the LDP but internal dissen-
sion and defections weakened its unity and resolve. In December 1997,
Shinshinto was dissolved, and in its place Minshuto (Democratic Party of
Japan or DPJ) assumed the mantle of the leading opposition party. Ozawa
remained independent of the DPJ and together with his closest allies
established the Liberal Party in 1998.
The establishment of splinter groups in the 1970s and 1990s followed
major financial scandals implicating the LDP, and the splinter groups
explained their actions as necessary to restore the faith of the electorate in
the party system and to force through effective reforms, good governance
and policy-oriented politics. Ozawa a key player in the political turbu-
lence of the 1990s, certainly intended his actions and that of his group to
become the basis for establishing a party structure in which politicians
bore the responsibility for policy formation and which gave the voting
population real choices about Japan’s political development. The risks
were minimal because the ideological divide in Japanese party politics
had practically disappeared and there was no chance that an LDP split
would benefit the socialists.
Ozawa’s defection from the LDP, the establishment of new political
parties and the formation of a non-LDP government following elections
in 1994 did have the important consequence of reforms in the electoral
system. The maladies of a multimember electoral system had sparked the
crisis in Japan and in its place the government of Hosokawa Morihiro
brought in a combination of 300 single-member districts and 200 pro-
portional representation seats. In terms of creating a genuinely competi-
tive party structure, similar reforms had, in France, ushered in an
ideological ‘bipolar quadrille’,19 but Ozawa’s actions were motivated by a
desire to create a non-ideological bipolar party structure or coalition of
political parties. Given our knowledge of electoral systems and party
structures, a two-party dominant system is inevitable, but the immediate
result of electoral reforms was to introduce a very fluid structure of polit-
ical parties. It was difficult to predict not only the possible coalitions but
also whether parties would survive, merge or disappear over a short peri-
od. In the current parliament, the rival blocks seem to be a three-party
coalition led by the LDP on the one hand and the Democratic Party of
Japan on the other. Ozawa’s own reconstituted Liberal Party has been
reduced to the role of a minor coalition partner of the LDP. If he ever had
any hopes of heading an alternate government, this is no longer in the
realm of possibility.
 Regulatory Reforms 101

The two previous attempts at reforming the LDP utilizing defections

and external pressure had failed to produce any appreciable change in
electoral politics or in terms of the policy responsibility of the LDP. Past
failures may explain Kato’s strategy of introducing reforms by working
within the party structure. Within the LDP, Kato Koichi had been vocal in
advocating reforms and envisioned himself, like Margaret Thatcher in
Britain, as helping to reshape the structure of the Japanese political econ-
omy.20 It meant wresting control of the party from a leadership that had
failed to meet the necessary requisites. This set the scene for a clash with-
in the party between a group of reformers led by Kato and another group
of traditionalists led by Mori. The outcome of a leadership challenge
appeared to favour Kato because he had a popular approval rating of 54
per cent compared with just above 12 per cent for Mori, who was seen as
inept. Mori’s sins of omissions and commissions had also lowered his
stock within the party. Even the leader of his own faction, Koizumi, criti-
cized his performance as party leader and prime minister. Koizumi insist-
ed that the government had to press ahead with administrative and
structural reforms, even at the risk of negative economic growth for a few
years, in order to revitalize the country for the longer-term.21 In Mori’s
defence, it should be added that it would have been inordinately bold for
any prime minister to risk the fledgling economic recovery that had just
become discernible. However, a longer-term perspective would have con-
vinced any political leader that reform could only be deferred, not avoid-
ed, and that it made more sense to act decisively than to vacillate. If
resistance to reform is not entirely attributable to concerns for economic
recovery, then it is more likely that the LDP, as a political party, was not
the party to introduce major reforms. Kato was brought down by this fun-
damental contradiction between his advocacy of reforms and the party’s
unwillingness to embrace them.
Kato threatened a no-confidence motion in order to depose the incum-
bent, but was also determined to work within the party rather than defect.
Past defections had done little to change the internal workings of the LDP.
But when it looked like his no-confidence motion might not succeed, he
quietly decided to withdraw his challenge. Unlike Ozawa, he had decided
that it was better to work within the party to bring in reforms, but he failed
like others before him. The abortive challenge has, according to some
observers, sealed Kato’s fate and made it nearly impossible for him to ever
achieve leadership of the party when before it was seen as there for his tak-
ing. Critical of Mori for lacking vision and conviction, Kato has however
demonstrated his own weaknesses and poor judgment. Both Kato and
Ozawa were widely regarded as talented and ambitious politicians on track
102 Japan in Crisis

to become future leaders of the LDP but each has had his political career
brought to a sudden halt by taking on the controversial task of political
reform.
Regardless of past failures, the nature of party politics is undergoing
changes and the end result may be an injection of genuine policy competi-
tion that may, subsequently, facilitate the process of reform and deregula-
tion. It is unclear whether the LDP will spearhead reforms, because while
Prime Minister Koizumi has emphasized reforms other LDP party leaders
have a vested interest in preserving the status quo. Within the parameters
of an emerging competitive party system, the Democratic Party of Japan
has better potential for introducing fundamental deregulatory reforms.
Since so much depends on emerging competitive politics, it is necessary to
identify some of the factors that could facilitate such a transformation of
Japanese politics:

1. Responsible politics and a move away from money politics is premised

partly on new legislation to provide political parties with public funds
for campaign finance purposes. As recipients of taxpayer funds, polit-
ical parties will inevitably be obliged to justify their expenses by put-
ting forward responsible policy alternatives. That would be a logical
outcome of the new arrangements, but of course consumers and tax-
payers everywhere, and particularly in Japan, are poorly organized to
articulate their demands.
2. Another reason to expect change is that the revamped electoral system
will lead to a two-party-dominant system with each major political
party deriving its support from distinct electoral communities. The LDP
has derived its electoral strength from rural districts and a rough analy-
sis of the representative base of the DPJ reveals its strength to be in the
urban districts, much like the disbanded Shinshinto (New Frontier
Party). If we consider only the single-member districts, the LDP has a
parliamentary representation of 175 Lower House seats, compared with
82 for the DPJ. In terms of the proportion of rural and urban districts,
the LDP representation is concentrated in rural districts, at nearly 70
per cent, whereas DPJ representation is concentrated in urban areas, at
about 55 per cent of total. The demographics of the DPJ are similar to
that of the defunct Shinshinto, and it is in a position to assume the
mantle of bringing about regulatory reforms, either through political
pressure while in opposition or as a party in government. The same had
been expected of the Shinshinto, and a poll in August 1996 revealed
that Shinshinto members were more favourably inclined towards
deregulation than LDP politicians.22 Of the 81 Shinshinto politicians
 Regulatory Reforms 103

polled 61 indicated their preference for ‘aggressive deregulation’,

whereas of the 46 LDP politicians polled only 19 supported a pro-
gramme of aggressive deregulation. The reality is that just as Japan has a
bifurcated industrial structure so there also exists a sharp urban and
rural political divide. There are, in effect, two nations, an ‘urban Japan’
and a ‘rural Japan’, with divergent interests. The LDP had for a period
managed to bring these two under an integrative umbrella but the dif-
ferences became too great to be maintained over the longer term. The
catchall electoral strategy may have facilitated the LDP’s political dom-
inance in the 1960s and 1970s, but it also produced a political party
that was so split in its pro-urban and pro-rural divisions that ultimately
this produced a series of crises for the party’s coherence in the 1990s.
The result was a split in the mid-1990s, as some but not all of the pro-
reform and pro-urban members defected to establish new political par-
ties. This was only a partial resolution of internal party contradictions,
and the balance of power within the party has alternated between the
progressive and conservative wings. In the July 1998 Upper House elec-
tions, the LDP suffered a major setback because of economic misman-
agement and consequently its priorities shifted to resolving the
banking crisis rather than economic liberalization. Deregulation was
no longer considered politically desirable by many LDP politicians.
This appeared to vacate the ground to the DPJ, but the problem for the
more recently established DPJ, as noted by Steven Vogel, was that while
the DPJ included many former Shinshinto politicians it also included
former SDPJ politicians who derive support from public sector trade
unions and are also more ambivalent about deregulation.
3. The reality is that with the LDP looking after mainly agricultural and
producer interests Japan’s urban consumers have, suffered in silence in
the past and continue to do so today; the party has subsumed many
societal interests as part of its catchall electoral strategies but it has not
supported substantial deregulation, which would erode the privileged
position of Japan’s protected minority interests. As a catchall political
party, the LDP did not unify the two Japans but itself became a frag-
mented party, with some members representing urban voters and
interests while the rest remained committed to the party’s rural roots.
This bifurcation was not irrelevant to the later difficulties and splits
experienced by the party. If the DPJ consolidates its position in urban
centres, it could eventually pave the way for policy-oriented electoral
contestation. The crucial question is whether the LDP will remain a
unitary political party at all or go the way of the NFP. A fractured
opposition handed easy victories to the LDP through much of the
104 Japan in Crisis

postwar period, and more so in the period following electoral reforms

in 1994, so the obvious lesson for an aspiring opposition political party
is to maintain party unity. Leadership contests within the DPJ brought
the party near to collapse in 2000 but it managed to weather the storm.
Whether it will build on that to strengthen unity of purpose remains
still to be seen. As an urban-based political party, the DPJ can be
expected to advocate liberalization and deregulation to reduce the cost
of living for Japanese consumers and workers. This strategy will also
benefit the export sector and lower the wages pressure within the
economy. Liberalization and deregulation are economic imperatives
from a globalist perspective and have been advocated by Keidanren. It
is a policy position that resonates with Ozawa’s Liberal Party.
4. Policy-oriented politics assumes that the LDP will abandon its strategy
of representing a diverse set of interests and its attempt to be a catchall
political party. T.J. Pempel argues that the LDP will be forced to aban-
don its inclusionary, all-embracing and unprincipled political stand as
a result of the negative fallout following liberalization of the agricul-
ture sector in the 1980s, which alienated the core electoral supporters
of the LDP. Moreover, in late 1988 a government advisory committee
proposed changes to laws that had long provided protection to small
shopkeepers, and in 1989 the government introduced a consumption
tax, which added to the burden of small business and shopkeepers. The
cumulative effect of these policies was to erode the LDP’s electoral
strength and, according to Pempel, reversing the backslide in electoral
fortunes will require the party to rediscover its primary roots and culti-
vate support more actively in its traditional base, especially within the
rural community.23

The catchall electoral strategy emerged at a time when the Japan

Socialist Party (JSP) played the role of leading opposition political party.
As stated above, the JSP was formed in 1955, but expectations that it
would be one of the poles of a bipolar party system quickly proved false.
In 1960, the moderate wing of the JSP broke away to form the Democratic
Socialist Party (DSP), and in the decade of the 1960s a number of smaller
centrist political parties emerged to erode the support base of the JSP. By
the late 1960s the JSP was already a party in secular electoral decline, and
when in the 1970s the LDP began to reposition itself as a catchall political
party this was to be the final nail in the coffin of the JSP. A common
assumption about competitive two-party political systems is that there is
an inevitable race to capture the middle ground, or become a catchall
political party. This had been observed in Britain, Germany and several
 Regulatory Reforms 105

European countries, but in Japan it was only the LDP that was successful
in broadening its support base to what might be considered non-
traditional conservative voters. While it became a catchall political party
the LDP did not turn away from its traditional supporters in the rural dis-
tricts and maintained protection for the farm industry until it was forced
to bring in liberalization under pressure from Japan’s trading partners.
The JSP, by contrast, was prevented from adopting a more moderate
line by its association with the radical left-wing labour unions and by the
emergence of moderate, left-of-centre political parties, such as the DSP
and the Komeito. The JSP derived its core support from the members of
the Sohyo-affiliated labour unions, and the militancy of Sohyo prevented
it reaching out to the growing middle class or to non-unionized labour. In
the overall party structure the centrist political parties became the spoil-
ers of a two-party political system. These were, at the same time, too small
to capitalize on emerging social forces and interests, such as environmen-
tal and welfare concerns. Logically, the JSP should have been the party to
respond to progressive issues and interests, but it remained ideologically
rigid and incapable of capturing new societal interests. Unlike the JSP, the
LDP according to one interview respondent was an ‘ideological zoo’, host
to many different persuasions but home to none. The success of the LDP
strategy effectively marginalized the JSP and ensured long-term conserva-
tive rule in Japan. There were many other factors that contributed to
stable conservative rule, such as an electoral gerrymander and its eco-
nomic management, but the LDP’s success can be attributed largely to its
own pragmatism and the irresponsibility of the opposition political
parties. The LDP was politically successful, but inevitably its majority
position in the Diet was progressively whittled away by voter disenchant-
ment, apathy, political corruption and a number of maladies in the
Japanese electoral system. As the LDP lost its majority in the Diet the
smaller parties became logical alliance partners, resulting in a transition
from government by catchall political party to government by catchall
coalitional alliance.
Following the collapse of global socialism, the JSP, now renamed the
Social Democratic Party of Japan (SDPJ), was reduced to minor status.
The 1990s were a period of rapid change in the political landscape of
Japan, as parties splintered, merged and formed with great rapidity. In
the end, the role of leading opposition party devolved to the
Democratic Party of Japan (DPJ) – a conservative political party formed
around a core of former LDP politicians. Its former leader and the cur-
rent chair of the Policy Research Committee, Kan Naoto, was a health
minister in the Hashimoto government and distinguished himself by
106 Japan in Crisis

taking on the health bureaucracy to expose bureaucratic corruption.

Despite his reformist credentials, the path to reforms lies in initiatives
by the ruling LDP that clear the path for a competitive bipolar party
structure. In a conservatively oriented, non-ideological party structure
such as exists at the moment there may still be some incentive to appeal
to a wider section of the community but there can be no advantage in
alienating core party supporters.
It is clear that neither the LDP nor the DPJ can expect to secure parlia-
mentary majorities by relying solely on core supporters, but there are no
clear advantages of a shift to the middle ground if such a strategy also
alienates core supporters. A successful electoral strategy must involve
coalitional arrangements where centrist political parties, like the Liberal
Party or the New Komeito, are genuine keepers of a balance of power,
rather than spoilers of the ideologically based party structure of the peri-
od before the 1990s. To the extent that this becomes a political reality, we
can expect the LDP and the DPJ to consolidate their specific electoral
roots and rely on successful coalition strategies to win government. This
will also be conducive to policy-based electoral competition. The LDP
may therefore become more principled and less catchall, but it is not the
party that can be expected to lead with regulatory reforms. There
are reform-minded individuals within the party – obviously Kato and
Koizumi – but the party hierarchy is suspicious of radical change that
could potentially harm their own electoral prospects. Nonetheless, in
2001, it appeared that the LDP was prepared to accept the inevitability of
reform. Appearances, can be deceptive however, and Koizumi’s good
intentions are likely to be thwarted by a triumph of institutional preroga-
tives. If nothing else, Koizumi has created interesting dilemmas for tradi-
tional LDP leaders.

Prime Minister Koizumi and Japan’s reform agenda

In early 2001, the LDP appointed Koizumi Junichiro party president,

and as the leader of the largest coalition partner in the Diet he automat-
ically became the new prime minister. Koizumi became the ninth
prime minister in the post-bubble period and his ascendancy marked a
revolution in Japanese politics, as he became Japan’s first ‘urban-
oriented’ prime minister in 45 years, since Ishibashi Tanzan.24 Koizumi
represented the highly urbanized Kanagawa 11th District and his
reform orientation reflected the interests of his own electorate, but it
placed him at odds with the traditional party elders, who represent pri-
marily rural districts.
 Regulatory Reforms 107

The elevation of Koizumi to the party presidency and prime minister-

ship was unusual in that it was forced upon the party hierarchy by strong
support from the respective party branches and the general public. The
contrast between Koizumi and his predecessor, Mori, was reflected starkly
in their respective amounts of popular support – less than 10 per cent for
Mori and more than 80 per cent for Koizumi. Koizumi’s support outside
the Parliamentary wing of his party was based on his determination to
reform the political and administrative structures of government and a
carefully cultivated image as a politician different from all his predeces-
sors, dynamic and reformist. He also promised to resolve the still out-
standing issue of non-performing loans in the banking sector, even if it
meant widespread corporate failure.
Koizumi had contested the party presidency earlier in 1998 but had lost
to Obuchi, who was safer and more acceptable to the party hierarchy. In
that contest, a year after the Asian financial crisis, structural reforms were
a major campaign issue and while Obuchi did introduce much-needed
reforms in the banking sector his leadership style did not breach party
norms of consensus. Koizumi was unacceptable in 1998 because of his
disregard for the establishment and his reputation for being a loose
cannon. When he became prime minister in 2001, his emphasis was on
policy integrity and ‘reforms without sanctuaries’. His presidential and
forceful style of leadership did not endear him to all sections of his party
but it earned him strong popular support, especially among urban voters
and consumers who stood to benefit from deregulation and reforms. He
was seen as a sincere and honest politician battling against a hierarchy
that was intent on destabilizing his policy agenda. There had been ‘new
leaders’ in the past, representing a new generation, but Koizumi was a
new leader in both substance and style. He won the support of voters
despite open admissions that reforms would impose further hardships on
the people. The measure of public support may be gauged from the com-
ment of a 70-year-old man that ‘If we don’t move ahead with financial
reforms now, then Japan will collapse. Koizumi will do it for us.’25
Similarly, when Koizumi began campaigning for the July 2001 Upper
House elections with a strong message for reforms, a businessman
remarked afterwards that ‘I understand the need for structural reforms
and the general public must share that burden. I will vote for the LDP in
the election.’26
The government’s message of structural reform was also well received
outside Japan. During Koizumi’s first visit to the United States in late June
2001, President Bush endorsed him as the one person to initiate, introduce
and implement necessary reforms to revitalize politics and a stagnant
108 Japan in Crisis

Japanese economy. Others had promised but failed to deliver on reforms.

Interestingly, American endorsement of Koizumi was made essentially on
the promise of reform rather than demonstrated capacity and achieve-
ment. It was directed essentially at opponents of reforms within Japan in
order to dissuade them from derailing the reform agenda.
In the first few months of the Koizumi administration, reform achieve-
ments were minimal. One innovative measure was cabinet ‘town meet-
ings’, the first of these being held in mid-June 2001 in Aomori and
Kagoshima to bring government closer to the people and end the alien-
ation of voters from their elected representatives in government. Clearly,
though, the government had to deliver much more in order to maintain
high public support, and Koizumi was aware that if the government failed
to make significant progress then his popular support base would quickly
evaporate and this would ruin his political career.
The expectation and support for reform was such that analysts labelled
the Koizumi administration as marking the beginning of a ‘Koizumi revo-
lution’. They saw as revolutionary not only the way the prime minister’s
appointment had become the catalyst for a sharp increase in political
awareness and interest among the people, especially the female voters,
but also how it seemingly heralded the end of the long domination by
LDP machinery and bosses. It was not clear, however, that Koizumi would
ultimately succeed in fulfilling his campaign promises. Successful reform
required that he overcome resistance within his own party as well as sabo-
teurs inside the bureaucracy.
For all Koizumi’s personal popularity his appointment exposed div-
isions within the LDP, with some politicians supportive of reforms in order
to reconnect with alienated voters, and others opting to maintain the
essential stability of the system, fearful that reforms would be detrimental
to their own and to the party’s political future. As N. Asaumi has pointed
out, the push for reforms was a doubled-edged sword, and by ‘prioritizing
urban over rural . . . the LDP risk[ed] losing its traditional core of sup-
port’.27 In the first three months in office, Koizumi was cautious in pursu-
ing the reform agenda, concentrating instead on consolidating his
support base and in ensuring victory in Upper House elections scheduled
for 29 July 2001.28 The challenge for Koizumi was to translate his personal
popularity to increased voter support for the party in the elections. This
could not be taken for granted, because even though Koizumi enjoyed a
popularity rating in the high 80s, support for the party in mid-June 2001
was only about 37 per cent, no higher than that during the earlier
Hashimoto government. Results of the Upper House elections, the first
real test for Koizumi, would determine his standing within the party and
 Regulatory Reforms 109

whether or not he was in a position to demand loyalty from the anti-

reform group within the party. In the elections, the LDP performed excep-
tionally well and increased its Upper House representation, winning 64 of
the 121 seats contested. Together with New Komeito and the New
Conservative Party, the ruling coalition won 78 seats, which gave it an
overall majority in the Upper House. Clearly, Koizumi had come through
his first test better than expected and he immediately declared that he was
ready to move on to the next stage of implementing structural reforms.
To lay the groundwork for reforms a government committee, the
Council on Economic and Fiscal Policy (CEFP), unveiled in June 2001
the government’s reform agenda, which included the privatization of the
postal savings system29 and the resolution of non-performing loans with-
in a period of two to three years. The CEFP recommended that all NPLs
remaining after the allocated time be sold to the Resolution and
Collection Corporation. It is widely accepted that NPLs are a drag on the
Japanese economy and that their resolution is essential to recovery and
sustainable growth. It is clear also that rapid disposal of NPLs will
inevitably trigger a chain of bankruptcies and lead to higher unemploy-
ment. To mitigate the negative fallout from structural reform, the CEFP
identified measures to deal with the social impact. The government’s
capacity to provide relief, however, was limited by an earlier pledge to
maintain fiscal discipline. Structural reforms within the constraints of
balanced budgets, caps on issuance of new government bonds and poor
economic performance will not be easy. And past experience did not offer
much hope. For example, the administration of Hashimoto Ryutaro had
failed to maintain the reform momentum because of worsening of eco-
nomic conditions.
Important as these concerns are, the ultimate fate of reforms will
depend on political leadership and the support of senior politicians with-
in the LDP. In deference to the high approval rating of the prime minister
they did not openly declare their opposition in the initial few months of
the Koizumi administration. But, their deep-seated antipathy to reform
was an open secret. Within the party the zoku giin, politicians with special
interests and links to the bureaucracy, could be expected to stridently
defend the bureaucracy’s privileged position against threats posed by
large-scale reforms. One member of the postal affairs zoku giin equated
the push to privatize the postal savings system to a form of fascism, and
added that it was wrong to believe that Koizumi’s high approval rating
translated ‘into unqualified popular support for the privatization of the
postal services’.30 Other zoku giin, particularly those belonging to
the powerful construction zoku, were apprehensive of suggestions that
110 Japan in Crisis

revenue previously earmarked solely for construction projects might no

longer be quarantined and might be moved to other priority areas of pub-
lic expenditure.
Even the cabinet included members such as Education Minister
Toyama Atsuko who were hostile to Koizumi’s reform agenda. Following
recommendations by the CEFP that the government review existing pub-
lic corporations and agencies and consider the possible privatization of
state-run universities, the education minister, a former Education
Ministry bureaucrat, rejected any change to the status of universities and
was reported to have traded verbal punches with the prime minister,
prompting Koizumi to chide the minister to ‘turn around [her] way of
thinking’ and to ‘outgrow [her] preoccupation with conventional
approaches’.31 As well as these special-interest politicians, others from
rural electorates are also apprehensive of reforms that inevitably threat-
ened the particular interests of their constituencies. With the LDP’s core
electoral support in rural districts, there are many within the party who
are uneasy about reforms, including liberalization and deregulation of
the farm sector.
The zoku giin and other opponents of structural reforms can use inter-
nal party machinery and their membership of the Policy Research
Council, the LDP’s policy-making body, to dilute and frustrate the reform
objectives of the Koizumi administration. They constitute the main dan-
ger to the fulfilment of the Prime Minister’s pledge to carry out ‘reforms
without sanctuaries’.
Proponents of reforms in the cabinet include the minister for economy
and trade, the minister for financial services and the minister for foreign
affairs. The last, Tanaka Makiko, departed from normal protocol of not
interfering in bureaucratic policy-making processes and this immediately
attracted the ire of bureaucrats, who subsequently engaged in a campaign
to discredit her performance through calculated leaks designed to embar-
rass her and the government. The leaks implied that she was hostile to US
interests and prepared to jeopardize close US–Japan relations in favour of
better relations with China. US–Japan relations are the bedrock of post-
war Japanese foreign policy, and insinuations that Tanaka was not com-
mitted to the United States were intended to discredit her position as the
chief international diplomat. Tanaka was also subject to intense and hos-
tile questioning in the national Diet by members of her own party over
appointments in the Ministry of Foreign Affairs. Like her father and for-
mer Prime Minister Tanaka Kakuei she refused to bow to the bureaucracy,
and her open political skirmishes with the bureaucracy and LDP politi-
cians also endeared her to the public and strengthened her own political
 Regulatory Reforms 111

position. She also continued to enjoy the confidence and support of the
prime minister32 despite suggestions that she had become a liability to
Japan’s foreign policy and that her controversial statements had become
a distraction to the main task of domestic structural reforms and deregu-
lation.33
Although there are individuals within the LDP who wish to advance
the deregulatory agenda, it is uncertain that they will be able to convince
the traditional elders about the imperatives of reform. This is despite the
fact that the LDP, under the leadership of Prime Minister Koizumi, did
surprisingly well in the July 2001 Upper House elections, a result that
could be attributed largely to the popularity of the prime minister.
Indeed, in campaigning for Upper House elections in July 2001, the prime
minister appealed to voters to give him a large mandate so that he could
overcome resistance within the party and implement structural reforms.
By contrast, Ozawa Ichiro, leader of the minor, urban-based Liberal Party,
reminded voters that the Koizumi government was still an LDP govern-
ment and told them that the only difference between Mori and his suc-
cessor, Koizumi, was that the latter was better at manipulating the public
and the media and that he would ultimately fail in delivering the neces-
sary reforms.34
The anti-reform forces are well entrenched within the party. The LDP,
notwithstanding the earlier defection of pro-reform politicians, remains a
divided political party, not simply along factional lines but, more impor-
tantly, between the pro- and anti-reform groups. This divide pointed to
several possibilities as to how the politics of reform might unfold.
One possibility is that party elders within the LDP will defer to
Koizumi’s popular appeal and support, the so-called ‘Koizumi revolu-
tion’, accepting both that the nature of politics has been fundamentally
transformed and the inevitability of change in state–society relations.
They may refrain from obstructionist tactics even if, in the long run,
reforms produce a rural backlash against the LDP and make their own
political future less secure. If they become reconciled to the inevitability
of change, a logical strategy would be to concentrate on building a strong
support base for the party in urban centres to ensure its continued domi-
nation in government. This is the most reform-friendly scenario and will
automatically ensure that there are no other political impediments, as the
opposition Democratic Party of Japan has already committed itself to sup-
port the prime minister’s reform agenda.
Another possibility is that LDP leaders and the zoku giin will refuse to give
in to reform measures that could destroy their own political careers and
alienate core LDP supporters. In early 2002, their cause was strengthened
112 Japan in Crisis

by events that forced the Prime Minister to dismiss his controversial but
popular Foreign Minister, Tanaka Makiko. She had become embroiled in
yet another tussle with ministry officials and LDP politicians over
issues of reform of the Ministry of Foreign Affairs and over a decision to
exclude some NGOs (non-governmental organizations) from a confer-
ence in Tokyo to organize financial support for the reconstruction of
Afghanistan. Amid allegations of deceit and coverups, Koizumi dismissed
Tanaka, an act which did not resonate well with her adoring public. The
Prime Minister suffered another blow when his preferred candidate to
replace Tanaka declined the invitation to join the cabinet. The result was
politically damaging to the Prime Minister, whose approval rating col-
lapsed from above 70 per cent to below 50 per cent, in early February
2002. With falling popular support and limited support within the Party,
most observers see little likelihood of significant reforms in the near
future.
It is possible that the window of opportunity that had opened in the
early months of the administration is gradually closing and that this
will undermine any reform initiative. Worse still is the prospect that the
few changes that have been introduced will themselves work to the
detriment of further reforms. For instance, the newly introduced system
of cabinet town meetings have increasingly become forums for disaf-
fected groups to vent their frustration and opposition to reform. These
were intended to bring the government closer to the people but meet-
ings in regional cities, where the reform message is less well understood
or supported than in the urban centres, have attracted many who feel
anxious about reforms. At one meeting in Ogaki, Gifu Prefecture, a com-
pany employee condemned the government for embarking on policies
that would lead only to an increase in corporate bankruptcies.35
Workers in industries that will carry the brunt of the reform burden,
such as general construction, retail and the services industries, have also
begun to agitate against reforms in these forums. The laudable initiative
of town meetings may ultimately undermine the very process it was
meant to facilitate. A recent survey by the Asahi Shinbun found that the
percentage of people opposed to reforms had increased from 6 to 12 per
cent over one month.36 The government estimates that about half a mil-
lion workers stand to lose their employment as a result of structural
reforms, and as the reality of job losses dawns on the people opposition
can only become stronger. Delay in the introduction of reforms means
that the anti-reform forces have more time to organize and demand
concessions and this can only make the government’s task that much
more difficult.
 Regulatory Reforms 113

The lengthy delay in finalizing, articulating and implementing reforms

works not only to the advantage of the anti-reform forces but also against
the generally short tenure of Japanese prime ministers. Since the early
1990s, Japanese prime ministers have had an average term of office of less
than 24 months. Given such a history of rapid turnover, it would have
been opportune for Prime Minister Koizumi to take advantage of his high
popularity standing and embark on the reform agenda early. He opted to
wait to strengthen his position within the party, but the wait could prove
ultimately to have been detrimental to reform prospects.
If the Koizumi administration fails to live up to expectations this may
strengthen the electoral appeal of the DPJ. It is ironic however that
although the DPJ has been a consistent advocate of extensive reforms in
the past it has failed to win popular support for its policies while instead
Koizumi, with the policies of the DPJ, has managed to achieve what has
eluded the DPJ. Increasingly, however, it appears that Koizumi will be
unable to translate his popular success into government policies as a
result of LDP intransigence and growing resistance in the regional areas of
Japan. It seems inevitable that structural reform and deregulation will
have to await a party that is more comfortable with a reformist position,
based on its electoral support base and strengths. The LDP, with strong
appeal in the rural districts, is not the logical party to bring in reforms.
The DPJ has stronger roots in the urban centres, and since reforms will
ultimately benefit urban consumers we may have to wait for its electoral
success before there is genuine structural reform in Japan.

Conclusion

The emphasis in this chapter has been on issues of deregulation to reduce

the costs to businesses of regulatory compliance and to ensure their inter-
national competitiveness. The Japanese government has been relatively
slow to embrace deregulation compared with other advanced industrial-
ized countries. The focus on deregulation should not be interpreted to
mean that reform agenda is unilinear, because while western countries
have deregulated many aspects of their economy, there are also many
instances of new regulation and reregulation, especially in the areas of
environment and health-and-safety. As J. Francis has pointed out, ‘In the
United States, the rate of new regulation during the Bush administration
[early 1990s] matched that of the Carter administration – a fact made all
the more ironic by the realization that President Bush had been in charge
of the deregulation programme when he was Vice President during the
Reagan Presidency.’37
114 Japan in Crisis

The reform measures currently under discussion in Japan are aimed at

removing and eliminating supply-side bottlenecks and should improve
potential growth prospects over the longer term. At the same time, how-
ever, government commitment to scale back on fiscal measures and aim
for balanced budgets will put a dampener on growth conditions, at least
in the short term. Clearly, therefore, structural reforms will entail sub-
stantial short-term pain and hardship on the people, and the government
is still pushing ahead on its reform agenda solely on the basis of high
approval rating for the Koizumi administration. The prime minister and
other cabinet ministers have tried to explain carefully the need for adjust-
ments and to ensure continued popular support for their ambitious agen-
da. The state minister in charge of economic and fiscal policy, Takenaka
Heizo, has explained that ‘We cannot delay the reforms. The public
understands that if we do not carry out reforms now, the pain will be even
greater in the future. That is why they are supporting the Koizumi
Cabinet.’38 The problem is that the Koizumi administration may have
waited too long to implement the reforms and lost the narrow window of
opportunity given it by high public approval.
Prime Minister Koizumi has staked his government’s reputation to the
reform agenda, but at best he can only be expected to deliver modest out-
comes, most likely in the area of budgetary cutbacks and constraints. If
Koizumi fails to deliver on his broader campaign promises of structural
reforms this may enhance the political fortunes of the opposition DPJ,
which, given its electoral orientation, would appear to be in a better posi-
tion to introduce structural reforms and deregulation.
There is no likelihood, however, that Japan will adopt the western
deregulatory package in its entirety and pursue a policy of convergence.
Catching up to the West, in terms of deregulation, does not seem to be on
the Japanese government’s agenda. Kozo Yamamura argues that what is
more likely is the emergence of a hybrid Japanese model that combines
Japanese best practices and western best practices.39 Yamamura correctly
points out that different people give different weight to issues of econom-
ic efficiency and distributional equality, and that Japan is unlikely to
blindly commit itself to economic efficiency and ignore other issues of
value, such as income equity. Indeed, even if wanted to it could not,
because of institutional inflexibility.
6
Japan’s Regional Economy and the
Asian Monetary Fund

As discussed in earlier chapters, the Asian crisis had a noticeable impact

on the domestic policy agenda in Japan. After years of irresolute and aim-
less policy drift, the Obuchi administration in 1998 initiated measures to
resolve the banking crisis and improve surveillance and regulatory trans-
parency. However, before much more could be achieved, change in gov-
ernment had dissipated the pressure for reform. The government of Prime
Minister Mori marked time and the economy continued to stagnate.
Mori’s replacement by Koizumi in 2001 rekindled the government’s com-
mitment to reform, especially in terms of deregulating the Japanese econ-
omy. As we have seen, there is of course no certainty that Koizumi will be
able to translate his policy rhetoric into action, given the significant anti-
reform forces within his own political party.
As well as being a catalyst for domestic economic reforms, the Asian cri-
sis was also an opportunity for the Japanese government to enhance its
regional identity and influence by taking an active role in crisis resolution
and in assisting the regional countries. The crisis was in Japan’s backyard,
and it was logical that the largest regional economic power should assume
leadership just as the United States had assumed primary responsibility
for managing the Mexican crisis of 1994–95. By contributing to crisis res-
olution, the Japanese government could expect to enhance its regional
status and erase lingering negative images of Japan.
In the postwar period, the Japanese government has consistently issued
mixed signals about its desire for regional rehabilitation, and yet it has
been unable to reach a final settlement of its prewar and wartime Asian
involvement. The government found ingenious ways to express its
remorse without offering a formal apology to the victims of Japanese

115
116 Japan in Crisis

atrocities, including the so-called ‘comfort women’. School curricula con-

tinued to play down the full extent of Japan’s aggression in history text-
books and this has poisoned relations with its closest neighbours, China
and South Korea. Regional anger was further inflamed in August 2001
when Prime Minister Koizumi visited the Yasukuni Shrine against even
the advice of some cabinet colleagues. The shrine to Japan’s war dead,
including perpetrators of war crimes, has been a no-go zone for Japanese
officials, and Koizumi’s visit resulted in violent protests in China and
South Korea. The visit was ostensibly to pay homage to the many forgot-
ten war dead, but in the absence of comprehensive regional settlement
served only to rekindle anti-Japanese feelings. The reality is that decades
after the Second World War the regional countries remain suspicious of
Japan, even if, on another level, they have themselves emulated the
Japanese economic model to replicate its high growth and industrializa-
tion. In this context of lingering antipathy towards Japan, the 1997 Asian
financial crisis was an opportunity for Japan to make a positive impres-
sion and establish its credentials of good regional citizenship.
The crisis demonstrated the basic fragility of regional economic inter-
actions at a time when the Japanese economy was becoming increasingly
dependent on regional countries. The regional countries depended on
Japan for the import of parts, capital goods, investment and so on, but by
the same token Japan was dependent on them. Indeed, if we consider
export penetration as a measure of dependency then the overall picture is
one of asymmetric interdependence, with Japan more dependent on its
Asian trading partners. At the end of the 1990s, roughly 40 per cent of
Japanese exports went to the Asian countries, whereas only 20 per cent
of Asian exports were destined for Japan. The Japanese economy had
clearly become increasingly enmeshed in its own region where before it
was inordinately dependent on the US market for exports.
Japan’s trade and investment links with regional countries had become
more prominent in the decade before the crisis. Japanese manufacturers
had invested in plant and machinery in the region following the appreci-
ation of the yen in the mid-1980s and the Plaza Accord. For Japan, the
importance of Asian countries was initially as cheap production plat-
forms when the yen began to appreciate, but Japanese investments in
Asia continued to increase even after some of the excessive yen apprecia-
tion had been corrected. This, according to a survey by the Industrial
Bank of Japan, may be read as an indication that Japanese companies
were ‘beginning to look to Asia not only as a place to locate low-cost pro-
duction bases but also for its growing markets’.1 Similarly, Japanese finan-
cial institutions had accumulated extensive loans portfolios in the region
 Japan’s Regional Economy and the Asian Monetary Fund 117

following the collapse of the Japanese economic bubble in the early

1990s. Japanese investments in the region and the growth of intra-
regional trade, created a network of economic linkages, which tied each
individual country’s economic fortunes to those of others in the region,
such that Asian countries, including Japan, were more likely to suffer or
prosper as a group rather than as separate entities. The Asian crisis was not
simply a crisis for the countries immediately affected but also strained the
commercial viability of many Japanese manufacturing and financial
institutions.
The Asian crisis was an indication of the ease with which relationships
of dependence and prosperity could be undone by adverse global market
forces. Just as domestic institutional weakness and incapacity to deal with
the pressures of economic globalization affected and overwhelmed indi-
vidual East Asian countries, a similarly underdeveloped institutional base
for regional economic interdependence helped fuel the regional confla-
gration.
Economic interdependence in East Asia had evolved along markedly
dissimilar lines to, for example, regionalism among European countries.
According to Peter Katzenstein, while European regional integration had
strong institutional foundations, East Asian regionalism was based
instead on a multiplicity of networks, such as trade and investment and a
multiplicity of centres of influence, such as Japan, China and the United
States.2 Katzenstein is careful to explain that the difference should not be
interpreted simplistically as signifying European ‘success’ and Asian ‘fail-
ure’, because the divergent developmental paths were a result of different
circumstances and objectives. Most noteworthy is the fact that Asian
countries, led by Japan, Australia and the United States, had deliberately
eschewed institutional development in order to avoid the possibility of
closed institutionalism favoured by countries like Malaysia. The
Malaysian government had been a strong advocate of an East Asian
Economic Caucus (EAEC) that would be composed only of the East Asian
countries and exclude Australia, New Zealand and the United States. Not
surprisingly, this was rejected by Australia and the United States as well as
by Japan, which had extensive extra-regional economic linkages. Instead,
they developed their parallel vision of East Asian regionalism and, sup-
ported by some other East Asian countries, pursued instead the objective
of ‘open regionalism’. This became the basis for establishing the Asia
Pacific Economic Cooperation (APEC), which deliberately relied on infor-
mal processes rather than formal institutional rules and linkages. Japan
also took no interest in institutional development because, according to
Alan Rix3 and Richard Doner,4 its foreign leadership style was one of
118 Japan in Crisis

‘leadership from behind’, which entailed not foreign policy activism or

institution-building activities but rather an attempt to solve coordination
problems among the regional countries through an on-going process of
bargaining to ‘harmonize’ diverse national interests. According to Doner,
coordination problems are solved not by asserting central authority or
leadership but rather by providing incentives to ensure compliance with
established rules and norms.5 The Asian crisis, however, demonstrated
the fragility of ‘network power’ and the dilemma of not having an institu-
tional ‘firewall’ against regional conflagrations.
Following the Asian crisis, the Japanese government attempted to give
East Asian ‘network power’ an institutional edge, by proposing the cre-
ation of a new regional financial institution and a more robust regional
financial architecture. The old modus operandi of informal and weak insti-
tutional bases no longer seemed adequate to protect the network of rela-
tions that had developed between Japan and the regional countries, and
this prompted the search for new solutions. In the process, the Japanese
government also provided a useful counterpoint to common assump-
tions that Japanese diplomacy was reactive and passive. The Japanese
government proposed the establishment of an Asian Monetary Fund
(AMF), and most analysts agree that had a similar institution existed prior
to the Asian crisis then the latter would have been easier to manage.
However, the proposal of a regional financial institution had to be
shelved because of American opposition.
In any event, Japan’s post-crisis foreign policy initiative, especially
the AMF, revealed an attempt to play a positive role in crisis manage-
ment while responding also to a perceived need to strengthen the bases
of regional integration and regionalism. The proposal for an Asian
Monetary Fund, to be established with a substantial Japanese financial
contribution, was a clear signal of Japan’s readiness to help regional
countries overcome the crisis, and to help establish foundations for
regionalism based on institutional development. At the same time, it
was also a sign of political maturity and leadership that was unlike ear-
lier instances of pressure-seusitive and reactive foreign policy. For
example, Japan contributed US$13 billion during the Gulf War cam-
paign, but only after intense American pressure on the Japanese gov-
ernment to share more of the burden of ejecting Iraqi occupation forces
from Kuwait.
In addition to being reactive, Japanese foreign policy initiatives were
also characterized by Michael Blaker as leaning toward a strategy of ‘cop-
ing’ with external circumstances. The response of the Japanese govern-
ment to the Asian crisis, however, marked a break from past diplomatic
 Japan’s Regional Economy and the Asian Monetary Fund 119

strategies, and instead of reacting to external pressure and avoiding

entanglement, it proposed an institutional strategy for crisis resolution.
The initiative failed to win the approval of the United States, but it was
still important in signalling Japan’s willingness to play a more positive
and helpful role on the international stage.

The Asian crisis as a foreign policy opportunity

Crises are, as noted earlier, opportunities that can be exploited for posi-
tive gains. This is true for both domestic and foreign policy issues. For
example, the Chinese government responded to the Asian crisis by
announcing a decision not to engage in competitive devaluation, even if
it meant losing export advantage to regional countries that had experi-
enced sharp currency devaluation as a result of capital flight. This gesture
had considerable symbolic significance because it was interpreted as an
act of self-sacrifice in the interest of assisting regional countries to en-
gineer an export-led economic recovery. The Chinese government won
considerable international and regional praise for its restraint, even
though there were no immediate costs associated with the policy deci-
sion. The financial crisis had disrupted the real economies in affected
countries to such an extent that there was no immediate danger of
Chinese exports being undermined by a surge of exports from the region-
al countries. Moreover, if an earlier Chinese devaluation of the yuan in
1994 had contributed to the onset of the Asian financial crisis, China’s
response in 1997 ensured that its government was perceived as both
responsible and helpful and consequently emerged from the crisis with
heightened regional stature at minimal cost to itself.
Likewise, the crisis was an opportunity for Japan to use its considerable
economic resources to help regional countries recover from the melt-
down and, in the process, enhance its standing within the region. We
ought not to dismiss Japanese generosity as a cynical exercise in self-
enrichment, but clearly positive gains were expected to flow from contri-
butions to crisis management. In this chapter, I will focus primarily on
the financial support measures of the Japanese government as well as ini-
tiatives to establish new institutions to deal with the Asian crisis. The
immediate requirement of the regional countries was for financial assist-
ance to pay for foreign loans and to rebuild national finances that had
been depleted in the failed attempt to defend currency values prior to the
onset of the crisis. Japan was the only likely regional source for the large-
scale financing needs of the crisis countries. In turn, a positive Japanese
response would no doubt counteract some of the lingering suspicions and
120 Japan in Crisis

hostility towards Japan within the region and help also to consolidate its
regional role.
In the past, Japan had often been criticized as being unwilling to bear
the costs associated with the maintenance of international economic
stability. The impression of Japan as a self-interested international free
rider had been formed in the 1970s following Japan’s rapid economic
transformation and emergence as a major economic power. In particular,
it was criticized for exploiting open markets overseas to boost export rev-
enue while denying foreign exporters opportunities to enter the Japanese
market through various formal and informal trade barriers. Later, as the
Japanese government loosened its purse-strings to emerge as a leading
source of international aid and financial assistance to other countries, it
was criticized for an uninspired ‘chequebook diplomacy’. Rather than play
a sustained and active international role commensurate with its economic
standing, the Japanese government acquired a reputation for passivity and
for limiting its international engagement to financial contributions.
The main critics of Japanese foreign economic and security policies
have included revisionist scholars like Chalmers Johnson and Karel van
Wolferen,6 who have argued that Japanese free riding have been detri-
mental to international stability and to the American economy. They
argue that by failing to share the burden of, for example, international
security and economic regimes, Japanese actions had transferred costs to
other countries, to the detriment of their economic performance and
competitiveness. To remedy this lopsided situation, revisionist prescrip-
tions have been to force Japan to assume greater responsibility for the pro-
vision of international public goods both in normal times and during
crises. Though slowly at first, the idea of burden sharing also gained wide
acceptance within Japan, both among public officials and analysts. Tachi
Ryuichiro, for instance, has stated that Japan has to make contributions
commensurate with its economic standing and provide more interna-
tional public goods.7
In the Gulf crisis of 1990, Japan was criticized for its hesitation and
ambivalence. The Japanese government attracted the ire of western gov-
ernments for not taking a determined position in condemning Iraqi
aggression against Kuwait. As stated earlier, Japan eventually provided
considerable financial assistance to the western military campaign, but it
still attracted criticism for limiting its contribution to financial aid.
Moreover, initial Japanese ambivalence followed by western pressure and
Japanese response seemed to add weight to revisionist assertions that the
Japanese government must be compelled to behave in a manner that is
internationally responsible, and that left to itself it will opt to free ride.
 Japan’s Regional Economy and the Asian Monetary Fund 121

In all fairness, however, Japan was limited in its contribution to western

military efforts by a pacifist constitution. The constitution had been
authored by the Allied forces that occupied Japan after the Second World
War, and article 9 clearly proscribed war as an instrument of foreign pol-
icy. Despite its foreign origins, the constitution has achieved a high
degree of domestic legitimacy that has confounded attempts to rewrite or
to amend it. The Japanese government has also had to consider regional
sensitivities because countries like China and South Korea are vociferous-
ly opposed to suggestions that Japan complement its economic potential
with military-power status. This has led to a taboo on open discussion of
sensitive military issues, especially by members of the government. In
March 1999, Justice Minister Nakamura Shozaburo was forced to resign
partly because of statements that Japan should abandon its pacifist con-
stitution and establish a fully fledged military.
Despite seemingly strict injunctions against war and the maintenance
of a military establishment, article 9 has been interpreted to permit ‘self-
defence forces’ to protect the country from foreign aggression. Even then,
such forces were denied any overseas role, whether for relief activities or
even in support of international military operations sanctioned by the
United Nations. Under the circumstances, the only recourse available to
Japan during the Gulf crisis was financial contribution to the expense of
the allied military operations. Nonetheless, jolted by the severity of
western criticisms, the Japanese government subsequently secured the
passage of Peace Keeping Operations (PKO) legislation through the parlia-
ment. The PKO law legitimized Japanese participation in international
peace-keeping operations of the United Nations, although only in a non-
combat role.
Apart from that, the Japanese government has for a number of years
asserted and expressed a desire to play a positive leadership role in the
Asia-Pacific region. This manifested itself in processes that led to the
establishment of the Asia Pacific Economic Cooperation (APEC) forum to
achieve open and non-discriminatory trade liberalization. The Japanese
government, along with the Australian, was an early advocate of the
APEC mechanism, although APEC emerged as a viable association only
after the US government decided to support it and convened a summit
meeting of APEC leaders in 1993. Japan could also be expected to play an
active role in managing the Asian financial crisis because of its potential
flow-on effect on the Japanese economy. According to estimated costs of
the financial crisis for Japan, a significant drop in Asian imports from
Japan would reduce Japan’s GDP growth by between 0.3 and 0.4 per cent.8
The flow-on effect was admittedly not large, but for an economy that had
122 Japan in Crisis

contracted 2.9 per cent in the second quarter of 1997, and was unlikely to
grow more than one per cent for the whole year, even the modest losses
were serious for Japan and for the rest of the world. Moreover, the drag of
the Asian crisis was likely to be felt most by the car manufacturers and
makers of electronic machinery, which had considerable exposure in
Southeast Asia. From a Japanese perspective, therefore, an early resolu-
tion of the crisis was important for its own economy as well as for the
global one. Although it was not recognized initially that this was a global
crisis, as evidenced by statements from the American president that it was
a small glitch in the overall economic performance of Asian countries, it
soon became apparent that the crisis had the potential to trigger a global
economic downturn, through the domino effect of exacerbating first the
fragility of Japan’s economic stability.
The withdrawal of capital and loss of foreign exchange reserves jeop-
ardized the ability of East Asian countries to service debts and also to
finance their imports. The crisis, which began in capital markets, had an
immediate adverse effect on the real economy. The sharp slowdown in
economic activity affected government revenue and the ability to finance
social welfare and infrastructure development programmes. To replenish
state coffers, the international community responded with promises and
commitments of financial assistance. In this respect, the international
response was no different from earlier crises involving developing coun-
tries in Latin America.
In channelling and coordinating financial assistance to the East Asian
countries the International Monetary Fund (IMF) assumed the lead role,
one that its founders had not intended. Under the Bretton Woods agree-
ment, the International Monetary Fund was established to maintain a
regime of fixed exchange rates and to provide assistance to countries
experiencing long-term structural balance of payments difficulties. The
IMF’s involvement in international debt and financial crises was a depar-
ture from its intended schedule of activities, but it filled a void for it when
its role and relevance were inevitably put into question following the col-
lapse of the Bretton Woods system in the early 1970s and once fixed
exchange rates had been abandoned in favour of flexibility and its prom-
ise of automatic trade balancing.
Amid the IMF’s crisis of relevance and legitimacy, the Latin American
debt crisis of 1982 opened up an opportunity for it to reinvent itself as the
guardian of international financial stability. The Latin American crisis
was the first serious threat to international financial stability, given the
high levels of exposure of major western banks. The concern was that
large-scale debt servicing failure would inevitably lead to a collapse of
 Japan’s Regional Economy and the Asian Monetary Fund 123

western banking institutions and undermine global financial stability.

IMF assistance to the debtor countries, in this instance, was designed to
assist in the recovery process as well as to ensure orderly repayment of
existing loans and prevent debt repudiation. In so far as debt servicing
was the source of the crisis, the IMF introduced strict structural adjust-
ment and austerity measures designed to generate exports and facilitate
debt servicing. The Latin American countries, which had generally pur-
sued import substitution industrialization, were encouraged to become
more open and export-oriented, in order to enhance foreign exchange
revenue to service debt.
In the early stages of the Latin American debt crisis, debt relief was not
given any serious consideration. Consequently, the burden of adjustment
fell entirely on the debtor countries. Only in the late 1980s, after pro-
longed economic instability in the debtor countries, did the West and the
IMF venture into debt relief. The mechanism for debt relief was the ‘Brady
bonds’ scheme whereby the ‘IMF contributed to a pool of money used to
retire non-performing bank debts’9. Before the Brady Plan initiative, debt
relief had been dismissed as damaging to the debtor countries in the long
term because creditors would refuse to advance fresh loans in future.
However, this was a specious argument because, as pointed out by Jerome
Levinson, ‘In fact, it was only after the Brady debt reduction initiative in
1989 that Argentina, like other Latin American debtor countries, regained
substantial voluntary access to the international financial markets,
although not the syndicated bank loan market.’10
In East Asia, the IMF again devised a programme of action to help
restore investor confidence and prevent a contagion. The main emphasis
of the IMF was to restructure and strengthen the financial system in the
crisis countries, help preserve fiscal balance in them and assist with their
balance of payments difficulties. Since the crisis was in large measure a
result of financial sector weaknesses, the IMF programme arranged for
the closure of non-viable financial institutions, for recapitalization of
undercapitalized institutions and for a better system of supervision of
weak financial institutions. In support of the structural adjustment pro-
gramme, the IMF, its member countries and other multilateral institu-
tions (the Asian Development Bank and the World Bank) committed
approximately US$120 billion in financial aid. In return, the recipient
countries signed letters of intent, which spelled out their commitment to
the structural adjustment programmes.
The IMF also grasped the opportunity to reform other sectors of the
economy not directly relevant to the management of the crisis. IMF
structural adjustment programmes have been criticized for their social
124 Japan in Crisis

consequences and for their inappropriateness to crisis resolution. It could

be argued that the IMF conditionality exacerbated the political crisis in
Indonesia that led ultimately to the fall of the Suharto government and to
widespread ethnic and social conflict. Similar criticisms were made dur-
ing the Latin American debt crisis and about IMF loans to debtor coun-
tries in Africa.
Structural adjustment programmes have also been pilloried as formulaic
and insufficiently reflective of actual requirements. For instance, while the
East Asian crisis was financial, the structural adjustment programs in-
cluded trade liberalization measures that had little direct relevance to
the unfolding crisis. Worse still, IMF conditionality may even have exacer-
bated rather than alleviated the crisis. For instance, measures to close banks
in East Asia and restructure the financial system may have actually further
undermined investor confidence rather than repairing it. The IMF forced
bank closures, which induced financial panic because no steps had been
taken to protect depositors and to maintain the flow of liquidity to healthy
sectors of the economy. The IMF also demanded fiscal cutbacks, despite
healthy public sector finances. In Indonesia, it forced the government to
raise fuel prices and end food subsidies. This resulted in violence directed at
the government, which claimed the Suharto regime. Acknowledging the
truth in some of the criticisms, Hubert Neiss, the Asia-Pacific director at
the IMF, stated that ‘Had we correctly anticipated the severity of the reces-
sion, fiscal policy would not have been tightened at the outset of the pro-
gramme. But this error was adjusted fairly quickly.’11 This admission of
policy failure was little comfort to the affected countries, however.
In defence of the IMF, it should be noted that IMF involvement begins
only when a situation has deteriorated to a crisis point and when, pre-
sumably, strong measures are necessary and unavoidable. Moreover, the
IMF has not only the immediate perspective of containing the crisis but a
longer-term perspective of ensuring sound economic footings to facilitate
economic recovery.
The burden of IMF adjustment programmes fell on the debtor coun-
tries, with nothing onerous demanded of the creditor countries. In this,
the rescue programme was a replica of previous IMF involvement in earl-
ier debt crises. What the IMF did achieve, in the case of South Korea, was
to renegotiate the terms of the commercial loans and convert short-term
debt to long-term debt, which of course lightened the burden on the
debtor countries. But the commercial banks exacted a stiff price for this:

the conversion of unsecured credit to debtors of dubious financial

capacity into one guaranteed by the government of South Korea ...
 Japan’s Regional Economy and the Asian Monetary Fund 125

there was no reduction [moreover] in the nominal amount of the

Korean debt. No provision was made in the IMF-organized financial
rescue operations with Thailand and Indonesia for the foreign cred-
itors to reduce the nominal amount of the debt or to extend the matur-
ity of their loans.12

Japanese aid to crisis countries

In the Asian crisis, Japan was quick to offer financial assistance to the
affected countries and again, as in the Gulf crisis, aid commitments were
very generous. While the IMF coordinated the international assistance
efforts, the Japanese government was the main source of financial assist-
ance provided to the East Asian countries. The Japanese government was
the largest source of funds channelled to these countries through the
International Monetary Fund and other international agencies, and it
also provided export credit through the Export–Import Bank of Japan.
Overall, Japan provided approximately US$42 billion in assistance
through various channels. Japan’s financial generosity was to be expected
not simply because the crisis was in its backyard (just as the United States
was the main source of financial assistance to Mexico in 1995) but also
because Japan had amassed large international reserves, which it could
use for that purpose. Japan provided US$4 billion to Thailand, US$5 bil-
lion to Indonesia and US$10 billion to South Korea. Japan led the donor
countries and was perceived as having acted responsibly by the regional
countries.
However, western governments and international agencies like the IMF
and the World Bank put considerable pressure on Japan to do much more.
This occurred even as the Southeast Asian governments themselves criti-
cized western governments and the US for their own cool response to the
crisis. As noted above, President Clinton had initially described the crisis
as a mere glitch in the economic performance of Asian countries. A senior
US diplomat in Southeast Asia admitted that the US was on the defensive
in Asia for failing to take initiatives, insisting simply that the interests of
the crisis countries were being well served by the IMF and by the World
Bank. Some have attributed US inaction to an “Asian allergy,” a defensive
reaction resulting from allegations that Asian countries had made illegal
donations to the Democratic Party in the US.13
Later, over the course of the crisis, the US transformed the economic
crisis into a political crisis as well, insisting that one of the problems
was the absence of real democracy in the crisis countries, particu-
larly Malaysia. In November 1998, at the annual APEC summit in Kuala
126 Japan in Crisis

Lumpur, Vice-President Gore, standing in for Clinton who was otherwise

preoccupied with the Iraqi crisis, lambasted his host, criticizing the
lack of political freedoms in Malaysia. He praised the ‘brave people’
of Malaysia for pushing ahead with their democratic demands but
Malaysian Minister for Trade Rafidah Aziz dismissed the speech as dis-
gusting. The Malaysian reaction to it was to be anticipated, but even the
Australian prime minister criticized the American vice-president for
unproductive hectoring.14 Worse, the speech derailed the summit from
the real agenda of trade and economic liberalization and probably did not
win the US many friends in the region. Peter Petri has characterized the
rift across the pacific as the outcome of a ‘philosophic divide’, which not
only had led the Malaysian prime minister to blame the West for the crisis
but also prompted the US to reject an early Japanese proposal for an Asian
Monetary fund. Petri suggests that such a fund ‘might have contained the
contagion last fall [1997].’15 If crises are an opportunity to further
enhance national potential then American diplomacy in the Asian crisis
was exemplary in its ineptness.
Apart from financial generosity, the Japanese government took the
unusual step of proposing the establishment of a regional monetary fund
to be the lender of last resort for countries within the region. The proposal
for an Asian Monetary Fund (AMF) underscored Japan’s desire to embed
regional interactions in formal institutional structures and was an
uncharacteristic move because the establishment of formal structures
had not been supported, in the past, either by the United States or by
the regional countries. The Asian region is among the least institutional-
ized of all regions and the Japanese proposal would have helped redress
the institutional imbalance. Existing regional institutions such as the
Association of South East Asian Nations (ASEAN), the Asia Pacific
Economic Cooperation (APEC) and the East Asian Economic Caucus
(EAEC) are all examples of soft institutions and, arguably what is required
are more formal institutional structures that can withstand periodic pres-
sures and crises. Formal institutions would not necessarily prevent crises
but could presumably strengthen cooperative behaviour based on com-
mon expectations, norms and rules of conduct. The post-crisis tension
within ASEAN was symptomatic of the inability of soft institutions to sus-
tain interstate cooperation under adverse circumstances.
ASEAN had been established in the 1960s as a loose regional associ-
ation, and by all accounts was reasonably successful in muting regional
antagonisms and conflicts. Japanese foreign policy acknowledged the
importance of ASEAN as the main regional forum, and officials of the
Japanese government were careful to emphasize that Japan would act in
 Japan’s Regional Economy and the Asian Monetary Fund 127

concert with ASEAN. The Asian crisis reopened divisions within ASEAN,
however, and this prompted Prime Minister Mahathir to describe it as
‘split up’.16
The Asian crisis reduced ASEAN to a position of impotence as a result of
internal bickering and growing tensions between some of the key ASEAN
countries. An unwritten but obvious principle of ASEAN diplomacy was
non-interference in each other’s domestic affairs. That principle became a
casualty of the crisis as countries voiced criticisms of each other’s domes-
tic political and social violence, due partly to ethnic divisions, and of
their economic policies. In particular, acrimony and tension are highest
in relations between Indonesia and Singapore and between Singapore
and Malaysia. These are all ethnically divided societies and the
Singapore government especially is worried that ethnic violence will spill
over to engulf it in the crisis.
Japan’s regional diplomacy had emphasized close partnership with
ASEAN, but it seemed uncertain whether ASEAN would continue to
hold the same position of importance. Moreover, the unfolding events in
Southeast Asia have also made clear the weaknesses of loose associational
groupings like ASEAN. The shortcoming of ASEAN was that it not only
failed to be an agent for crisis resolution but also could not prevent deteri-
oration of relations among its key members. In that context, the Japanese
push for a more formal institutional structure was understandable.
ASEAN disarray may also be an opportune moment for Japan to pursue
its regional agenda with more assertiveness than in the past. ASEAN may
again become more coherent once the crisis is resolved and political
settlement reached in Indonesia and Malaysia, but in the interim there is
considerable scope for Japan to take the initiative. The only limiting fac-
tor, and not a minor one, is the residual resentment towards Japan.
Whether or not such an end was intended, the proposed AMF would
have ensured a form of regionalism that did not take the more xenopho-
bic route advocated by the Malaysian government, when it had cham-
pioned the cause of an East Asian Economic Caucus (EAEC) as an
exclusive institution, with membership restricted to the Asian countries.
To attract support, the Malaysian government emphasized its potential
for increasing Asian unity, which would presumably enhance the role
and influence of the Asian region in global affairs. Malaysia expected
Japan to play a leading role in establishing such an exclusionary institu-
tion, but Japan refused to support the idea because of its close links to the
US and because of American hostility to the concept.
The Japanese proposal for the AMF did not contain any membership
restrictions, although it was primarily for the benefit of the East Asian
128 Japan in Crisis

countries. Unlike the EAEC, there was no suggestion that Australia and
New Zealand, or even the US, would be denied membership. Presumably,
similar institutions could also be established for other regions to act as a
lender of last resort and to contain financial and currency crises. Perhaps
the proposal should have been framed as an Asia-Pacific Monetary Fund,
but to all intents and purposes that was essentially what it was envisaged
as being. This is clear from Japan’s own national interests in maintaining
good relations with both the US and Asian countries.
A cynical explanation could be that it was an opportunistic move to
institutionalize Japanese dominance within the region, since the AMF
would be funded by Japan and presumably also led by Japan. More con-
sidered analyses, however, suggest that the proposal had considerable
merit on its own. Nevertheless, even before the merits and demerits could
be explored and evaluated, the idea of the AMF was rejected by the United
States as unnecessary and even detrimental to international financial sta-
bility, which prevented any progress toward its establishment. However,
despite this the AMF still is an interesting and important topic for study.
Not only does it represent an example of a ‘dog that didn’t bark’, but also
it is clear that the Japanese government had not completely abandoned
the project, despite criticisms from the United States and from interna-
tional institutions like the IMF.

The Asian Monetary Fund

As we have seen above, the Asian Monetary Fund was proposed by the
Japanese government to inject fresh capital into the troubled economies
of East Asia in an attempt to restore international confidence in these
economies and lure investors back, but it was rejected by the United
States and consequently abandoned by the Japanese government, at least
formally. Nonetheless, it is important to understand the thrust of the pro-
posal and why it was rejected in order to derive some lessons for crisis
management in future.
As already mentioned, President Clinton had, early in the crisis,
declared it a mere glitch in the overall economic progress of Asian coun-
tries. When the Japanese government proposed to include the East Asian
financial situation on the agenda of the G–8 summit of the industrialized
countries, to be held in Denver in late June 1997, the United States
rejected this as unnecessary. Instead the joint communiqué issued by the
summit leaders expressed the hope that the IMF and the World Bank
would continue to make progress in promoting further capital market lib-
eralization in the emerging developing countries.
 Japan’s Regional Economy and the Asian Monetary Fund 129

The Japanese government reacted early, but its focus was on the provi-
sion of financial assistance. This was clearly a situation where the imme-
diate requirement was for financial aid and Japan, despite its own
economic stagnation, was in the best position to respond positively. This
was also – importantly – an economic crisis and the Japanese government
had always felt more comfortable dealing with issues of ‘low politics’ than
with those of ‘high politics’ or with security issues, such as the Gulf crisis.
Moreover, there is no question that Asian stability and prosperity is
important to Japan. The region straddles Japan’s supply routes and a pro-
longed economic crisis had the potential of destabilising the region. This
has always been an important consideration in the determination of
Japan’s foreign policy, and explains why the East Asian countries are the
major recipients of Japanese Official Development Assistance.
The Japanese government provided financial assistance to the individ-
ual crisis countries and proposed funding an Asian Monetary Fund to deal
with the present and future crises. The proposal to establish the Fund was
made in September 1997 at a meeting of the IMF and the World Bank in
Hong Kong. The Japanese government offered US$100 billion to establish
a fund to provide assistance to countries in crisis. The proposal was made
in the early stages of the crisis and reflected the government’s serious
desire for a quick resolution. The regional reaction was generally positive,
and Malaysian Deputy Prime Minister Anwar Ibrahim declared that the
proposal merited serious consideration. The Far Eastern Economic Review
observed that the crisis had allowed both Japan and China to score points
at the expense of the US and the IMF, Japan because of its proposal for the
Asian Monetary Fund and China because of its promise not to engage in
competitive devaluation even at the cost of a loss of international com-
petitiveness and reduction of export revenue.17
The proposal for an AMF was not simply an extension of Japan’s
chequebook diplomacy but an important initiative to establish an insti-
tutional framework for managing this and future crises. At least, in hind-
sight, it is clear that the proposal was an appropriate response to the Asian
crisis. The Asian crisis was essentially a crisis of confidence made worse by
flight of capital from the region. The AMF might have restored confi-
dence by injecting fresh capital into the regional economies and by send-
ing positive signals to foreign investors who, in the absence of contrary
indicators, acted from an irrational herd mentality.18
The Asian Monetary Fund proposal also would have overcome any
financial limitations of the IMF and other international agencies in
responding to the crisis. The IMF is limited by its quota subscriptions as to
how much financial assistance it can provide, and Japan could not
130 Japan in Crisis

increase its quota subscriptions without upsetting the balance of voting

rights within the IMF, which would probably not have been acceptable to
the US.
Apart from these important considerations, the initiative for an AMF
can also be understood as part of an attempt by the Japanese government
to improve its regional standing relative to that of China. In the region
both Japan and China have leadership aspirations, and while they main-
tain a close bilateral relationship they also compete for the hearts and
minds of the other countries, in a struggle in which Japan is disadvan-
taged by a number of factors. The most important of these factors are the
wartime memories and the feeling that the Japanese government has not
fully demonstrated its remorse and thus brought that particular chapter
of Japanese history to an acceptable close. Moreover, the presence of large
Chinese minorities in several of the key East Asian countries meant that
governments had to be cautious in not risking links with China. In partic-
ular, as long as Japan and China were seen as engaged in competitive lead-
ership struggle, the regional countries could be expected to try and
maintain a safe distance and not line up with Japan too closely. Thus, on
14 January 1998, when Japanese Prime Minister Hashimoto, concluding a
regional tour, elaborated upon a desire to elevate relations with regional
countries to a summit level forum to discuss security and economic
issues, the suggestion received only a cool reception. This was because
ASEAN countries were concerned that such a move would antagonize
China.19 They may also have been reticent about accepting a proposal
that threatened to undermine the ASEAN Regional Forum (ARF), an
ASEAN-based structure for the discussion of security and political issues.
China had emerged relatively unscathed from the crisis despite the loss
of international competitiveness. Its currency was spared the crisis of
devaluation because the yuan was not convertible on the capital account
and escaped the attack that other currencies were subjected to by specula-
tors. In the aftermath of the Asian crisis, the Chinese government won
immediate praise for its commitment not to devalue the yuan, even if it
meant a loss of China’s international trade competitiveness. During a
visit to Southeast Asia in August 1997, Chinese Premier Li Peng highlight-
ed China’s positive and constructive leadership in not reacting to the cur-
rency devaluation in the crisis countries with a devaluation of the yuan.
The premier also criticized the US, which he accused of merely lecturing
and bullying the regional countries into accepting American standards.20
This was a welcome expression of support for the Southeast Asian leaders,
Lee Kuan Yew of Singapore and Mahathir Mohammad of Malaysia, who
have championed ‘Asian values’ while rejecting western liberalism. The
 Japan’s Regional Economy and the Asian Monetary Fund 131

US, as mentioned earlier, had by contrast attributed the crisis to Asian val-
ues, which had allegedly given rise to corruption and political cronyism
to the detriment of economic rationality and prudence.
In contrast to the ups and downs of US–China relations, relations
between Japan and China have been relatively close, based on consider-
able Japanese financial aid and investment in China though still not
without some friction. The Chinese government, for example, has been a
staunch critic of the Japanese Ministry of Education for censoring school
textbooks and for refusing to permit a full and open depiction of atrocities
committed in China by the Japanese military. The issues of a formal
Japanese apology and of compensation for victims and their descendants
have also not been satisfactorily settled.21 In the early 1990s, Japanese
Prime Minister Murayama Tomiichi expressed remorse for the past injus-
tices but the issue cropped up again in 1998 when Chinese President Jiang
Zemin visited Japan. This visit in late November was the first ever by a
Chinese president since the end of the war, but the two governments
decided not to sign a joint declaration on their bilateral relations after the
Japanese government refused to include a written apology as demanded
by the Chinese government. The Japanese government offered only an
oral apology, which the Chinese rejected as inadequate. In the unsigned
declaration, the two governments agreed, however, to work toward a
twenty-first-century ‘partnership’ of better relations between the eco-
nomic and military giants of East Asia.
The seriousness of the regional leadership rivalry between Japan and
China is enhanced by the lack of institutionalization in the Asia-Pacific
region. Unlike in Europe, where developments since the Second World
War had centred on the progressive deepening of institutional and struc-
tural linkages, interactions in the Asian region had developed much more
slowly in the context of an institutional vacuum. Apart from ASEAN, the
other important regional institution is the Asia Pacific Economic
Cooperation but it, too, had been deliberately left without much institu-
tional support. With the proposal of an Asian Monetary Fund the
Japanese government tried to facilitate the formation of formal regional
institutions that would also inevitably be dominated by Japan and reflect
its interests. This would also serve to foreclose the EAEC option and
ensure open rather than closed regional institutionalism.
The EAEC proposal had created a dilemma for Japan, which since the
end of the Second World War has maintained very close ties with the US.
Thus, while Mahathir expected Japan to play a lead role in bringing the
idea of Asian regionalism to fruition, the Japanese government, mindful
of its trans-Pacific links, withheld support but did not openly reject it
132 Japan in Crisis

either. The lukewarm Japanese reaction stemmed from a view that this
would endanger and undermine the important strategic and economic
relationship with the United States, which remains the cornerstone of
Japan’s international diplomacy.
Given the centrality of US–Japan relations and the likely deepening of
Japan’s relations with Asian countries, various scholars have presented
frameworks for the future of Japanese foreign policy. T.J. Pempel, for
example, has conceptualized the emerging pattern of Japanese foreign
policy as a torii such as stands at the entrance to Japanese temples.22
A torii consists of a horizontal beam resting on two columns, forming an
entry to temple grounds. According to Pempel, Japanese foreign policy is
analogous to a torii straddling the Pacific. Through much of the postwar
period, Japanese foreign policy had been exclusively focused on main-
taining and strengthening relations with the United States. However, in
recent years, it is clear that the Japanese government has tried to strength-
en relations with other Asian countries while maintaining its alliance
relationship with the US. This is not an easy task considering the strained
relations between the US and several Asian countries, notably Malaysia.
For Japan to act as a bridge between the East and the West, or to position
itself as a ‘trans-Pacific torii’, it is necessary that regional institutions are
not paralysed by existing or emergent philosophic divides between Asian
countries and the US.
Despite the fact that the proposal for the AMF was well received by the
crisis countries and that it would be funded largely by Japan, it failed to
win crucial American support. As the junior partner in the US–Japan
alliance, Japan did not feel confident about pursuing it further on its own,
or at least until the groundwork for it had been more carefully established.
The US rejection of the AMF stopped it dead in its tracks. Nonetheless, the
proposal was an important act of leadership by the Japanese government,
and one that could have contributed to an efficacious resolution of the cri-
sis. Yet, even as the US rejected the AMF, it demanded that Japan act
decisively to demonstrate leadership. As far as the US was concerned, lead-
ership meant reflating the Japanese economy and increasing imports
from the affected economies. Certainly, as mentioned above, the crisis
countries welcomed the proposal as useful, but their response was not so
enthusiastic as to overcome and override the negative US reaction.

American rejection of the Asian Monetary Fund

As soon as the Japanese government proposed financial assistance to the

crisis countries through an Asian Monetary Fund, the American govern-
 Japan’s Regional Economy and the Asian Monetary Fund 133

ment rejected it as unnecessary and harmful. It would have been appro-

priate for the US to offer its support, since American and Japanese inter-
ests were coincident at least in facilitating the emergence of more
moderate forms of Asian identity and regionalism. Without American
support, the Japanese government did not feel confident enough to uni-
laterally pursue its establishment and abandoned the project. The fate of
the AMF and Japanese compliance to American sensitivities revealed the
overriding importance, as far as Japan was concerned, of emphasizing
relations with the United States. By abandoning its initiative, Japan left
the Asian countries with little choice but to accede to IMF conditionality.
More importantly, according to Walden Bello, the Japanese government
had passed on a ‘golden opportunity’ to move decisively into a leadership
position in the region.23
The American rejection was premised on a belief that existing multilat-
eral institutions were adequate to deal with the Asian crisis. The US was
concerned also that an AMF, along the lines proposed by Japan, would
undermine existing institutions like the IMF because it would free crisis
countries from the required economic discipline that only the IMF and
the World Bank were in a position to impose and monitor. IMF lending to
countries is always contingent on successful implementation of an IMF-
dictated programme of economic reforms. Structural reforms are not
painless, as the debtor countries discovered during the debt crisis of the
1980s, and the concern this time was that the Japanese proposal would
allow crisis countries to escape conditionality and avoid necessary
reforms and structural adjustment, either intentionally or through mis-
management by Japan.24 Indeed, the Japanese government was reported-
ly not an enthusiastic supporter of IMF interventionism and saw the
proposed fund more as a ‘friendly neighborhood bank’.25
If, however, the US was concerned that lack of discipline and condition-
ality would only exacerbate the situation, there were of course many crit-
ics of the IMF who accused it of misguided and formulaic policy
prescriptions that were uninformed by the situation on the ground.
Critics claimed that the formulaic approach was often more harmful than
useful to a country in crisis, and at best irrelevant, such as when the IMF
demanded economic liberalization to deal with a financial crisis.
According to the detractors, IMF policy towards a crisis was simply to
‘round up the usual suspects’, without first obtaining an assessment of
the situation on the ground. Thus, typically, IMF conditionality required
imposing a regimen of austerity, which often was unnecessary and wors-
ened the situation by exacerbating the plight of the poorest segment of
the population, which depended on a range of welfare programmes.
134 Japan in Crisis

These criticisms had been levelled at the IMF ever since the Latin
American debt crisis, and the IMF response to the Asian crisis seemed to
be a replication of its formulaic approach to crisis management.
However, the US government was a staunch defender of the IMF and
the American defence of the IMF was articulated by Dan Tarullo, assistant
to the president on international economic policy, during a White House
press briefing on 20 November 1997. He stated that ‘The IMF has the
resources, they have the expertise, they have the experience of how to
assist countries in stabilizing. We have a good institution, we ought to
support it, we ought to use it.’
The American defence of the IMF is understandable because the United
States effectively controls it, whereas an Asian Monetary Fund would be
largely under Japanese control and in competition with the IMF. In many
ways, IMF programmes have helped to advance American commercial
interests. IMF lending, as mentioned, is subject to strict conditionality,
and in the design of rescue packages for Asian countries the United States
played a leading role even though Japan provided most of the funds for
the packages. For instance, in the South Korean rescue package the US
Chamber of Commerce, according to a knowledgeable Korean source,
wrote a significant part of the final agreement.26 The packages contained
requirements to substantially liberalize the Korean economy and move
against the Korean conglomerates, even though it is debatable how these
would have helped to resolve the crisis at hand. They certainly helped
American commercial interests by weakening Korean international com-
petitiveness.
The influence of the United States extended to disbursement of IMF
funds. In the Asian crisis, IMF was criticized for tardiness in releasing
funds committed to Korea, perhaps because it wanted to extract addition-
al concessions from South Korea. This may have served American inter-
ests but did not facilitate an early resolution of the crisis. This was a crisis
borne out of liquidity shortage and in such situations, according to G.K.
Helleiner, it was important to ‘insert liquidity, i.e. finance that is available
at very short notice, in large amounts, and virtually unconditionally’.27
Arguably, since the Asian Monetary Fund would not impose the same
conditions as the IMF, disbursement of funds were likely to be faster than
through the IMF.
The US government perceived the crisis as a reflection of structural
defects in East Asian countries, and its successful resolution as requiring
structural reforms. As such the crisis was seen as an opportunity to dis-
mantle structures of ‘Asian capitalism’, including state intervention in
national economies, and supplant them with liberal institutions and
 Japan’s Regional Economy and the Asian Monetary Fund 135

structures modelled on those in the West. The US rejection of AMF was

premised on a belief that a regime of ‘easy money’ would make reforms
harder to achieve and produce no lasting benefit. This was not simply a
concern for the welfare of regional countries but was also influenced by a
desire to see American-style liberal capitalism replace state-centric Asian
capitalism. Asian capitalism had attracted the ire of US government and
trade officials as undermining US industries, and the crisis was an oppor-
tunity, as they saw it, to level the playing field. According to Sakakibara
Eisuke, a senior Japanese Finance Ministry official, a primary American
objective during the Asian crisis was to restructure Asian economies,
an objective that was inconsistent with the provision of ‘easy money’.28
The AMF was also criticized on the grounds that a regional response to a
crisis emanating from economic and financial globalization was inher-
ently flawed and misguided.29 According to this view, a more fruitful
avenue, instead, would be to study ways for reforming the global finan-
cial architecture much as is being advocated by US government officials.
However, while it is true that the Mexican and the East Asian crises result-
ed from financial globalization, in the Mexican crisis the United States
assumed primary responsibility for assisting Mexico and in the East Asian
crisis international attention and expectation was focused on Japan to
lead the rescue effort. Indeed, the Japanese government provided a large
bulk of the financing for IMF programmes to the East Asian countries, and
in proposing the AMF indicated also its readiness to commit substantially
more in financial assistance. Thus it does not necessarily follow that only
a global institution like the IMF can effectively respond to a crisis of eco-
nomic and financial globalization.
The proposal for an Asian Monetary Fund also reflected Japanese inter-
est in a larger regional role. Such a fund would of course be dominated by
Japan but could also at the same time have been expected to shield region-
al diplomacy from the more xenophobic elements, given Japan’s close
economic and security linkages with the United States. Yet, the American
rejection of the AMF was understandable, as the US has long held suspi-
cions of new institutions that could weaken US domination over global
affairs or impinge upon American sovereignty. Such sentiments have been
especially significant in the Congress and were behind the torpedoing of
early postwar attempts to establish an International Trade Organization
and, again, though this time unsuccessfully, the attempted vetoing of
the World Trade Organization when it was established in the mid-1990s.
The AMF, a regional institution, could not conceivably impinge upon
American sovereignty, but would clearly lay the groundwork for greater
Japanese influence, perhaps at the expense of the United States.
136 Japan in Crisis

The US is the sole remaining global superpower, with a greater capacity

to pursue its interests than during the cold war. If the US regarded some
institutions with suspicion during the cold war, it does so even more
under the New World Order. For the United States, international and
regional institutions are potential encumbrances that could limit its free-
dom of manoeuvre. It is not surprising that the US has not supported
institution-building efforts in the Asia Pacific, which was why it was ini-
tially ambivalent about the APEC proposal and accepted it only later as
part of a wider strategy to force the European governments to offer con-
cessions in the Uruguay Round of trade negotiations of the General
Agreement on Tariffs and Trade. Indeed, given the known American sus-
picion of new institutions, a cynical view of the Japanese proposal could
be that the initiative was for purposes of demonstration only and not
meant to be taken seriously, that it demonstrated Japan’s desire to be gen-
erous in assisting Asian countries safe in the knowledge that the generos-
ity was unlikely to be called upon.
However, the cynical interpretation is just that. Even after reservations
expressed by the United States and the IMF, Japan and the ASEAN coun-
tries continued to work on details during meetings in November, in order
to clarify and explain the proposal to the US. In the end, the proposal
failed to elicit US support. The IMF in December 1997 established instead
the Asian Standby Facility to assist countries already receiving IMF assist-
ance but which needed additional help. Several countries, such as Japan,
Singapore, Australia and Malaysia, committed funds to the standby facil-
ity that countries may access after they have drawn down other loans
from the International Monetary Fund, the World Bank and the Asian
Development Bank.

The AMF revisited

At one level, American rejection of the AMF could have been anticipated
as necessary to protect, for example, the IMF as the leading international
financial institution. At another level, however, the American response
was odd, considering that it had consistently argued for a more active
international role for Japan. This may have encouraged the Japanese gov-
ernment to float the idea of a regional financial institution. But once
American rejection was obvious, the Japanese government quickly aban-
doned the institutional approach to crisis resolution. This was not odd in
the context of Japanese diplomatic history, which, according to Michael
Blaker, displays clear patterns of cautiously following others and of ‘cop-
ing’ with the prevailing international situation rather than seeking to
 Japan’s Regional Economy and the Asian Monetary Fund 137

modify the external environment to its own advantage.30 From a study of

Japan’s participation in the Third United Nations Law of the Sea
Conference (UNCLOS III) in the 1970s and the Gulf War crisis in the early
1990s, Blaker concluded that Japanese foreign policy strategy is to initial-
ly test the water, avoid commitments, and then wait for another to take
the lead. In the Law of the Sea Conference, Japan, as a leading maritime
nation, initially defended the existing maritime regime, with narrowly
confined territorial and exclusive economic zones. It quickly found itself
to be completely isolated and ultimately accepted an outcome that
reflected complete capitulation and without any attempt to influence
final agreement. It reflected a policy strategy of flowing with the tide
rather than struggling to secure its national interest. In the Gulf War crisis
too, Japan’s initial response led to humiliating isolation and it quickly
modified its behaviour to suit to the prevailing winds. Japan was in the
end the largest financial contributor to the war effort, but did not escape
criticism for a tardy response limited to only monetary contributions.
That Japan should seemingly abandon the AMF at the first sign of resist-
ance was not odd. Yet, despite American rejection of the AMF, the Japanese
government, surprisingly, did not completely abandon the idea of an Asian
contingency fund. This was a departure from established practice. At the
1998 APEC summit, Finance Minister Miyazawa Kiichi outlined an initia-
tive to provide additional assistance to the Asian countries. This was in
response to Asian frustrations with western aid programmes and with IMF
conditionality. The Miyazawa Initiative (or Miyazawa Plan) provided fund-
ing of US$30 billion for the crisis countries, Indonesia, South Korea,
Thailand, Malaysia and the Philippines. Included in this special assistance
package was a programme to assist in a restructuring of the Thai banking
industry and another programme to assist export industries in Malaysia. As
part of the Initiative, the government of Japan had committed about
US$1.9 billion in assistance to Malaysia by late April 1999. In proposing the
initiative, Miyazawa expressed hope that ‘the initiative bearing his name
will eventually grow into a regional contingency fund open to Asian and
non-Asian participation alike’.31 In announcing the plan, the Japanese gov-
ernment did not hide its displeasure with the IMF and its handling of the
crisis, and pointedly emphasized that the IMF would have no say in the dis-
bursement of funds. One official in the Japanese Ministry of Finance stated
that ‘You will notice that the IMF has not been asked to join. That is deliber-
ate. And Malaysia is included in the Plan. That too, sends a message.’32
The Miyazawa Plan to counteract continuing credit contraction was
welcomed by the Southeast Asian countries, by the IMF and by the World
Bank. In a speech at the Foreign Correspondents Club of Japan in
138 Japan in Crisis

December 1998, Miyazawa explained that since currency crises were

becoming more commonplace,33 it was worth looking into the possibility
of establishing regional financing mechanisms for all regions, such as
Europe, Asia and Latin America, to be funded by countries in the region.
Such regional funds could provide new liquidity to countries in crises
which, Miyazawa observed, was essential to the Asian countries, these
having suffered a net capital outflow of US$44.3 billion in 1997 compared
with a net inflow of US$28.8 billion in 1996.
In February 1999 the Japanese government formally revived the idea of
the AMF when it set up a study team composed of twenty members to
make detailed recommendations about establishing an AMF.34 The inter-
est shown by the Japanese government in institutionalizing collaborative
arrangements within the region can perhaps be explained by the failure
of ASEAN to develop meaningful responses to the financial crisis. Not
only was ASEAN ineffectual in formulating a collective response to the
crisis, it was also weakened by internal squabbling, disagreements, and
unilateralism in dealing with the crisis-induced challenge to economic
prosperity. Sensing that ASEAN was in disarray, the Japanese government
probably expected to fill the institutional vacuum with a structure that
would enhance its own regional profile. It was obvious also that institu-
tionalisim will inevitably give Japan a greater role and say in regional
affairs since it is likely to be the primary source of financial contributions
to establish and maintain regional institutions. The Japanese govern-
ment has already increased its influence in the Asian Development Bank
by channelling generous and less onerous loans to developing countries
through the ADB. In turn, the ADB lent its support to the proposal for an
AMF. An AMF alongside the ADB would replicate at a regional level the
two existing multilateral institutions, namely the IMF and the World
Bank.
In the region, support for an AMF-type scheme was strongly voiced by
the Malaysian government. Malaysia had refused to accede to IMF condi-
tionality and opted for an unconventional approach to managing the cri-
sis, which included currency controls. Expressing his distaste for IMF
structural adjustment programmes, Prime Minister Mahathir, in late
1999, asserted that if an institution like the AMF had existed then ‘the
East Asian currency crisis of 1997–98 would not have occurred, would not
have endured and would not have gone to such ridiculous depths’.35
In late November 1999, deputy finance ministers from Japanese and
ASEAN countries reached preliminary agreement on establishing a stand-
by fund to prevent a recurrence of financial crises. Despite assertions to
the contrary, the standby fund had essentially resuscitated the AMF by
 Japan’s Regional Economy and the Asian Monetary Fund 139

stealth, since it would be a permanent structure to provide soft finance to

regional countries confronting a potential crisis situation.36 Sakakibara
Eisuke had been a strong proponent of the AMF, and following his retire-
ment the idea was carefully nurtured by his successor Kuroda Haruo.
According to Sakakibara, the AMF proposal had ‘many supporters in
Japan’,37 and once ASEAN countries proposed to institutionalize funding
provided under the Miyazawa initiative, Japan was able to move on that
request quickly.
The AMF, by stealth, moved a step forward when a recently established
‘ASEAN Plus Three’ forum, comprising the ten ASEAN countries and
Japan, China and South Korea, met in Chiang Mai, Thailand, in May 2000
and the relevant finance ministers agreed to strengthen regional mone-
tary cooperation. They also agreed to a regime of currency swaps, to pro-
vide foreign currency loans to countries in crisis. The Japanese newspaper
Nihon Keizai Shinbun remarked that ‘The AMF concept, which was aban-
doned in the face of US opposition, will be realized in a different form.’38
The Chiang Mai initiative set up a two-tiered support mechanism, the
first being an agreement to extend an existing currency swap arrange-
ment among the ASEAN countries. Under this, the capital base of the
ASEAN currency swap would be increased from US$200 million to US$1
billion. The second tier of support was a series of bilateral currency swap
arrangements among the ten ASEAN countries and the three Northeast
Asian states, China, Japan and South Korea. The remarkable aspect of the
Chiang Mai initiative was that unlike in 1997, when the US was vehe-
mently opposed to the AMF, it was decided not to speak out against the
currency swap arrangement, which will inevitably diminish the influ-
ence of agencies like the IMF.
By mid-2001, Japan had completed bilateral swap agreements with
Thailand, South Korea and Malaysia and was negotiating for similar
agreements with Indonesia, Singapore, China and the Philippines. The
bilateral swap agreements may eventually become a basis for a regional
monetary fund, but that is still in the distant future – although Murakami
Seichiro, the Japanese vice-minister of finance, commented at a news
conference in Honolulu in May 2000 that he was keen to see the bilateral
agreements develop into a monetary fund. He added that an AMF might
be ‘created when everybody thinks it is time to do so after making sub-
stantial progress’.39
Japan may only be putting in practice within a regional setting the
institutional bases of hegemonic control and influence that the United
States has maintained on a global scale since the end of the Second World
War. It may also be a way of managing China’s growing influence in the
140 Japan in Crisis

region and ensuring that Chinese behaviour is constrained by institu-

tional norms and does not become a source of competition and conflict.
American reaction to the AMF, however, is a major stumbling block for
Japan. US officials have already expressed concern that the idea is also
being supported by the ADB, perturbed as they are that proliferation of
regional institutions that deviate from strict IMF lending policies will
undermine US ability to influence global economic events. In early May
1999, at the annual ADB meeting, Edwin Truman, a senior US Treasury
official, called for the ADB to follow IMF guidelines in lending to the
developing countries. This was to ensure that IMF objectives are not
undermined by regional institutions that offer concessional loans, and
also to preserve US influence by requiring regional bodies to accept com-
mon universal standards that have been devised by the United States to
shape international economic transactions to comply with its preferred
vision.40
For its part, the US government took the initiative in calling for
reforms in the global financial architecture, with the objective of pre-
venting future crises. Crisis prevention, however, is part of what the IMF
has been trying to do since the Latin American debt crisis. Again, follow-
ing the Mexican debt crisis, the IMF emphasized plans to exercise better
surveillance to warn of potential dangers and provide accurate informa-
tion to financial markets to permit informed decision-making. If the
importance of these had been recognized after the Latin American debt
crisis then the Mexican crisis of 1995 dramatically exposed the IMF’s fail-
ure to become a force in crisis prevention. The East Asian crisis was yet
another example of the difficulty of implementing a fail-proof system of
crisis prevention.
The American call for better crisis management and prevention has
focused attention on ways of strengthening existing international finan-
cial structures. To that effect, the US government proposed that the IMF
might establish a precautionary line of credit for countries that had sound
economic practices to help them ward off future currency crises. This
would transform the IMF into a global central bank and give to it the
function of a lender of last resort. Just as national central banks assist
domestic banks to overcome liquidity crises, the IMF, under this proposal,
would commit itself to providing liquidity to countries in a crisis situ-
ation. However, the analogy of an illiquid but solvent bank cannot be
extended to a sovereign country. Countries do have liquidity problems,
but the concept of solvency or insolvency does not apply to them.
In effect, a line of credit would boost a country’s foreign reserve and
enhance its capacity to fend off a speculative attack on its currency. If this
 Japan’s Regional Economy and the Asian Monetary Fund 141

works as anticipated, it should help to deter such speculative attacks. The

board of the International Monetary Fund was expected to deliberate on
this proposal in early March 1999, but in the early stages senior IMF offi-
cials had already voiced their dissent. In the past Michael Musa, IMF’s eco-
nomic counsellor, had opposed this idea and, according to Onno De
Beaufort Wijnholds, executive director of the IMF, the proposal is flawed
because it would give countries carte blanche to, for example, defend an
exchange rate when it was no longer economically feasible. Before the
currency depreciation that instigated the Asian crisis, said Wijnholds,
central banks came close to exhausting their reserves in questionable
attempts to defend an exchange rate, and with an open line of credit they
might only compound their folly. He also argued that such a line of credit
would only exacerbate the ‘moral hazard’ dilemma since it would commit
the IMF to bail out countries that had observed sound economic practices
in the past. Instead, he maintained that the IMF should remain only an
‘indispensable lender’ rather than a lender of last resort, providing finan-
cial assistance but only in concert with structural adjustment pro-
grammes.41
Nonetheless, in May 1999 the IMF established contingent credit lines
(CCLs) as a precautionary line of defence. The purpose was to make funds
available to member countries to avert a potential crisis, and it rounded
off the establishment of a supplemental reserve facility, in December
1997, for countries already in the throes of a crisis. As a line of credit, the
CCLs were envisaged as providing between 300 and 500 per cent of their
respective quota subscriptions to countries that feared a contagion effect
for a period of twelve to eighteen months. However, rather than automat-
ic approval, the IMF decided to make funds available only to countries
that already had in place strong economic policies and a sound financial
system. Moreover, a country with a line of credit could access about 5 per
cent of the total amount immediately, and draw the remainder subject to
reviews by the executive board of the IMF, a limited form of conditional-
ity. Under conditions imposed on countries wishing to access the CCLs, it
is clear that East Asian nations would not have been able to borrow funds
prior to the 1997 crisis. Indeed, even as late as mid-2001, no country had
applied for funds under this programme, even after the IMF in November
2000 decided to make the scheme more attractive by lowering associated
the charges and fees, and relaxing the rules. The main reason countries
shied away from CCLs was that they did not want to signal to capital mar-
kets that they were in near-crisis, which might only exacerbate rather
than alleviate their current difficulties. No country dared to be the first to
join the ‘CCL club’ and risk being punished by capital markets. The IMF
142 Japan in Crisis

acknowledged only that while some countries had expressed an interest

they had, for the time being, decided against the CCLs.

Conclusion

Japanese advocacy of the Asian Monetary Fund was premised on the

assumption that the Asian crisis was essentially a financial crisis and its
resolution did not require structural reforms, as had been tried in Latin
America in the 1980s. By contrast, the US assumed that the crisis had
deeper roots in East Asian economic and political structures, and insisted
that only IMF conditionality could return these countries to a sustainable
growth trajectory. It argued that provision of easy money would simply
defer crisis resolution. According to Japan’s Vice-Minister of Finance for
International Affairs Sakakibara Eisuke, the US government eventually
recognized that the position of the Japanese government was fundamen-
tally correct and modified its stance to permit the establishment of new
facilities to provide liquidity to East Asian countries.
The Japanese response to the crisis included a suggestion for the estab-
lishment of an Asian Monetary Fund to provide financial assistance to
countries under sustained pressure on their currencies. The proposal had
considerable merit and potential for managing the crisis but was rejected
by the United States as an unnecessary addition to existing institutional
arrangements. The Japanese government dropped advocacy of the AMF
as such, but still managed to side-step American obstructionism and
become party to a currency swap agreement at a meeting of the APT
(ASEAN Plus Three) in 2000. This effectively revived the AMF but in a dif-
ferent guise. This time, the United States did not voice its objections.
The APT also effectively revived an earlier Malaysian proposal to estab-
lish an East Asian Economic Caucus, a body consisting only of the region-
al countries. The US and Australian governments objected to the EAEC
because of its closed membership principle, and this was a critical factor
in determining Japan’s reluctance to support it. Without active Japanese
support, the Malaysian proposal failed to make any significant headway.
Japanese foreign policy posture is, of course, influenced by US prefer-
ences, but since the 1980s the Japanese government had also developed a
practice of acting in concert with a Labor government in Australia on
regional issues, such as the APEC. The basis of this concert diplomacy was
common interests and common outlook, since both countries had for
historical reasons an uneasy and uncomfortable position in the Asia-
Pacific region. But the election of a conservative and xenophobic govern-
ment in Australia in the mid-1990s shattered the concert diplomacy,
 Japan’s Regional Economy and the Asian Monetary Fund 143

a development that ultimately created new options for Japan’s regional

diplomacy. The influence of the US is of course far greater than that of
Australia, but the US did not raise objections to the APT agreement, per-
haps because analysts, in the intervening three years, had found much to
recommend about the original AMF proposal. Effectively, therefore, the
crisis has led to a partial fruition of both the EAEC and the AMF but under
different guises. In scuttling the original AMF proposal, the United States
had only delayed its eventual realization.
7
Conclusion

In the long march of Japan’s postwar economic development there had

been periodic dips in economic performance, but the overall picture was
one of increasing wealth and prosperity. This came to a halt in the early
1990s, and since then the Japanese economy has been relatively stagnant.
Large fiscal measures and public works projects failed to lift it out of stag-
nation, and added only to the debt burden of the public sector. Amid this
economic drift, the Asian financial crisis of 1997 had a sharp, painful
impact on economic conditions in Japan. Spreading economic gloom
and the collapse of large banking and securities companies prompted the
government to rethink its policy strategies and take more active measures
in resolving the festering banking crisis in order to restore economic
growth. Reform of the financial sector was only one of the many neces-
sary tasks that confronted the government, but in his short time in office
Prime Minister Obuchi failed to implement any comprehensive solution
to the economic crisis.
Importantly though, in the process of reforming the financial sector
Obuchi elevated the position of elected politicians over the bureaucracy.
According to Sasaki Takeshi:

With the infusion of public funds into the nation’s financial institu-
tions, the political sector entered territory into which the bureaucracy
could not venture, and in so doing assumed a huge responsibility. Our
political leaders will no longer be able to win the people’s approval by
pinning responsibility on the bureaucracy. This means that the quality
of political leadership has become a bigger issue than ever before.1

If quality of leadership had become more important, Obuchi and his

successor fell short of the mark. The momentum for reform could not be

144
 Conclusion 145

sustained even by Obuchi and was abandoned completely by his succes-

sor, Mori, who excelled only in his ineptitude and bungling. The
reformist impetus did not resume centre stage until after Koizumi had
replaced Mori as prime minister in early 2001. Despite Koizumi’s assertive
stand on structural reforms and commitment to ‘reforms without sanctu-
aries’, however, there remain many uncertainties about his capacity to
implement reforms that are necessary or have been foreshadowed. This is
because many of the LDP’s party elders are suspicious of the changes
being proposed, which even if they are necessary from the perspective of
revitalizing a stagnant economy will be politically disastrous and under-
mine their electoral support base.
Regionally, the Asian financial crisis was an opportunity to mend
fences, and indeed the proposal to establish an Asian Monetary Fund was
a clever and opportune plan to assist regional countries recover from their
crisis. Japan offered to provide the initial capital to establish the AMF,
which would provide regional countries in crisis with financial assistance
at concessional terms. It was to be less demanding than the International
Monetary Fund, which imposes strict structural adjustment requirements
on countries that apply for financial assistance. The AMF was however
rejected by the US as an unnecessary duplication of existing institu-
tional arrangements. In light of an unfavourable American response, the
Japanese government abandoned its initiative but in succeeding years
quietly led the establishment of alternate mechanisms to deal with any
future currency crisis. The entire process of early initiative and patient
and painstaking effort to establish regional mechanisms cast some doubt
on perceptions of Japanese foreign policy as reactive and unimaginative.
Japan also provided considerable financial assistance to regional coun-
tries in crisis, although the continuing economic stagnation in Japan
meant that Japan was unable to assist in an export-led regional recovery.
Nonetheless, as noted, the Japanese government did demonstrate a will-
ingness to assist regional countries financially and with proposals for new
institutional responses.
While these were positive initiatives, at another level the Japanese gov-
ernment continued, as before, to send mixed and confusing signals to
regional countries. Prime Minister Koizumi’s visit to the Yasukuni Shrine,
in August 2001, was seen as a sign of Japanese arrogance and insensitivity,
made all the more unpalatable because the Japanese government has con-
sistently refused to offer a formal apology to regional countries and to vic-
tims for the wartime atrocities including the so-called ‘comfort women’.
It is remarkable that more than fifty years after the end of the Second
World War no Japanese government appeared willing and able to achieve
146 Japan in Crisis

a final resolution of that dark chapter in Japanese history. More remark-

able still is that fact that Prime Minister Koizumi, who has been both bold
and different in many ways from his predecessors, ultimately repeated
the ‘sins’ of his predecessors and managed to antagonize neighbouring
countries. To make amends for his diplomatic blunder, the prime minis-
ter, two days after his visit to the shrine, commemorated the end of the
Second World War by giving a speech in which he emphasized relations
with Asia and expressed remorse for Japan’s wartime inhumanity, but
again was unable to offer a formal apology.
In domestic economic management, after the failure of successive pump-
priming measures to lead the economy out of stagnation, the Obuchi
administration began the difficult task of rehabilitating the financial sec-
tor, as a precondition for sustainable economic recovery. Later, the
Koizumi administration in 2001 embarked on a more radical path of
structural and administrative reforms to end the economic malaise.
Reforms in the context of a stagnant economy will impose further hard-
ships on the people but support for reform was such that Prime Minister
Koizumi Junichiro became the most popular Japanese prime minister in
the postwar period. Where his predecessor had popularity ratings in sin-
gle digits, Koizumi became almost a cult figure, with ratings of more than
80 per cent. Popular support for reform, however, was no guarantee that
Koizumi would be able to force party leaders to support the reform pro-
gramme, while if he were to retreat from reforms his popularity among
the electorate would no doubt suffer. If reforms are implemented, it is of
course equally possible that the anticipated economic downturn will lead
to a quick dissipation of popular support.
In Koizumi’s first month in office the rhetoric of reform outpaced
any real achievements, thanks simply to the political difficulties faced by
the government in persuading the more traditional leaders within the
Liberal Democratic Party to support the reform agenda. His cautious start
can be attributed to vested interests within the LDP and to a looming
Upper House elections which consumed the attention span of the gov-
ernment. However, Koizumi could not also continue to ignore swelling
public sentiment in favor of change, having himself encouraged and pre-
pared the people to expect regulatory and liberal reforms. Yet, even after
leading his Party to an improbable electoral victory, the Prime Minister
was unable to convince his parliamentary colleagues to support his man-
date for change. Instead of sweeping reforms, he was unable to deliver
more than cosmetic changes.
In early 2002, the reform agenda looked even less credible after a series
of ministerial misadventures led to a dramatic collapse in the approval
 Conclusion 147

rating of the Prime Minister. In the end, it looks likely that Koizumi will
go down in history as a ‘tragic’ political leader who, failed to act on his
large popular mandate for change, hoping instead to legitimize structur-
al reform within the LDP, and subsequently fell victim to his Party’s pol-
icy rigidity.
The main focus of the pro-reform group in Japanese politics has been
on revitalizing the banking sector and deregulating the economy. The
actions here will also have an impact on corporate reforms and restruc-
turing. Although banking reforms, corporate restructuring and deregula-
tory initiatives are all critical to sustainable economic growth, Japan has
also been affected by weak consumer spending. Weak consumer spend-
ing had forced the government to step in to pick up the slack, but the
economy remained in stagnation while the government accumulated
huge public sector debt. This strategy was obviously unsustainable and
the Koizumi administration was forced to declare that its reform agenda
would be implemented in tandem with deficit reduction strategies. That
this would be socially painful was obvious and the interesting detail is
that the prime minister enjoyed very high popular support despite advo-
cating policies that promised pain and increased hardship for the average
consumer.
Low consumer spending has been a constant feature of postwar
Japanese economic growth and performance, and despite policy shifts
that have followed sustained external pressure, consumer spending
remains low. It used to be accepted knowledge that low consumer spend-
ing was largely a feature of a particular taxation mix that provided tax
breaks on savings. In the 1980s, tax incentives to save were phased out but
rather than open the floodgates of pent-up demand, consumption levels
remain low and have exacerbated poor economic performance in the
1990s. Declining consumer spending cannot be attributed to a saturation
of consumption demand, because consumer demand is sensitive to new
products and technologies and to improved and upgraded functions of
existing products. In its economic survey the Japanese government noted
that there was ‘plenty of room for providers of consumer goods and ser-
vices to stimulate consumer demand by supplying totally new goods and
services . . . and [by developing] new needs’.2
Instead, low domestic demand can be attributed to a climate of uncer-
tainty, fuelled by concerns that high private savings are essential in view
of demographic shifts and assumed inability of the state to meet future
pension and welfare obligations. Consumers are concerned about not
only future economic prospects and job security but also ensuring ad-
equate post-retirement incomes and on-going price deflation.
148 Japan in Crisis

Japan has an ageing population, and there is considerable concern lest

the government prove unable to fund old-age welfare programmes. It is
estimated that by 2015 slightly more than a quarter of all Japanese will be
aged 65 and above. The birth rate has fallen below that needed to main-
tain a stable population and while many local governments have intro-
duced ‘procreation award systems’ these have not offered sufficient
incentives to reverse existing trends. The awards are also inferior to prac-
tices in other countries. For example, in Japan the first child attracts a
monthly payment of Y5000 for the first three years, whereas in Germany
a benefit of Y13 126 continues until the child is eighteen years old.3 More
Japanese women, in all reproductive age groups, are choosing not to
marry, and the strong social taboo against birth outside marriage hardly
offers any easy solution to worsening Japanese population demographics.
Given an ageing population and high public sector debt, the personal
savings rate has remained high to ensure that sufficient funds are avail-
able for retirement and old age. That is to say, precautionary savings of
households are intended to help cover the anticipated shortfall between
future consumption and welfare provisions. Low consumption is also a
result of price deflation, which has logically depressed present consump-
tion in favour of future consumption, when goods are expected to be
cheaper still. For instance, the January 2001 consumer price index in the
Tokyo area was approximately 0.5 per cent lower than it was twelve
months before.4 Not surprisingly, rational consumers had opted to put off
consumption plans, although one consequence of this was to add to cur-
rent economic difficulties.
With the failure of the state to gain control over the economy and
promise a secure future, Japanese consumers, according to Leonard
Schoppa, have decided to pursue private solutions. Schoppa writes, for
example, that

individuals and firms now have the wealth and freedom necessary to
pursue private solutions to their economic problems – solutions that
make perfect sense from an individual or corporate perspective but
that actually aggravate economic problems at the national level.5

Thus, individuals have built their own retirement funds at the expense
of current consumption and the corporate sector is poised for an exodus
to pursue profits in other markets. The slowdown of consumption
demand is an important key to Japan’s contemporary economic plight,
and however painful it may be in real terms, the same determination to
pursue ‘private solutions’ appears to have fatally weakened the argument
 Conclusion 149

that the Japanese have a unique, group-oriented behavioural pattern,

where community benefits take precedence over private ones. Clearly,
that thesis can no longer be sustained, and prolonged economic stagna-
tion has provided good examples of rational behaviour based largely on
calculations of self-interest. If commitment to collective good was the
main determinant of Japanese behaviour then the economic crisis could
have an easy solution. Instead, individually national belt-tightening
behaviour of Japanese consumers has aggrevated the national crisis.
Japan’s deflationary spiral not only influenced consumer behaviour but
also had a detrimental impact on corporate debt. It is well understood
that inflation has the practical consequence of reducing total real debt
and that deflation has the opposite effect. Many of the largest Japanese
corporations, such as Daiei, a retail giant, and Kumagai Gumi, a construc-
tion company, have large debts and the long period of deflation only
made it harder to manage their debt burden. Their economic activity, as
well as that of the economy, has suffered as a result of debt overhang and
deflation. As mentioned earlier, Krugman has identified Japan’s econom-
ic problem as one of liquidity trap, from which an exit strategy requires
the government to instigate a period of inflation. Krugman argues that
Japan required an inflation target of 4 per cent a year for a period of 15
years to transit through the debt overhang. Others have explored the
potential of inflation in managing corporate debt, and according to Itoh
and Shimoi an inflation rate of 2 per cent a year over a ten-year period
would effectively reduce Kumagai Gumi’s total debt of Y1057 billion by
Y233 billion, more than 8.6 times its average annual profit for the past
five years. They also estimated that an inflation rate of 4 per cent for the
same length of time would halve Kumagai Gumi’s total debt.6 To the
extent that total debt was undermining the position of both the corporate
and the banking sectors, as creditors and lenders, it is easy to see the
attractiveness of an inflationary target as a way of resolving debt over-
hang in Japan, as well as stimulating consumer demand. Even if inflation
is attractive, the Japanese government remains unconvinced that it is a
viable solution, partly because of the likely difficulties in controlling it
within target levels.
To deal with weak domestic demand, the government announced a
radical new policy of providing consumers with free shopping vouchers,
as well as tax reforms. In November 1998 it instigated additional fiscal
measures to stimulate domestic demand. The $195 billion (Y24 trillion)
package was the largest ever and included additional spending pro-
grammes as well as cuts in personal income tax. Income tax cuts had long
been advocated to restore consumer confidence in the economy and to
150 Japan in Crisis

encourage consumer spending and shift the balance between savings and
consumption. The LDP proposed to cut the top individual tax rate from
65 per cent to 50 per cent as well as to offer tax breaks on purchase of real
estate and housing. Tax concessions on properties were intended to spur a
recovery in the real estate sector that could also help banks and financial
institutions recover some of their bad debts. The dilemma for the LDP was
that it lacked a majority in the Upper House of the Diet, and the oppos-
ition parties were not too keen on the proposed tax cuts, which were
unlikely either to benefit a majority of Japanese households or to boost
current consumption. There were concerns, as well, that tax cuts directed
at high income earners would only add to the pool of savings rather than
stimulate current consumption and therefore become self-defeating in
their stated objectives. In late March 1999, however, the Japanese Diet
approved the tax reduction bill giving individuals and the corporate sec-
tor permanent tax cuts of Y9.4 trillion (US$79.29 billion). The tax cuts,
effective from April, were expected to provide a significant boost to cor-
porate sector profits. However, while the government cut income taxes, it
refused to roll back the consumption tax, at present set at 5 per cent,7
despite suggestions that the increase in consumption tax was an import-
ant factor behind weak consumer confidence.
As mentioned above, another somewhat unusual measure to encour-
age economic growth was a decision by the government to distribute free
shopping vouchers to consumers. The expectation was that the addition-
al demand generated by consumers using shopping vouchers would kick-
start a recovery process. The logic of this measure was similar to that of the
one used by Prime Minister Nakasone in the mid-1980s. At that time
Nakasone, under pressure from the United States to reduce a widening
bilateral trade imbalance, went shopping for imported products to
encourage consumers to increase their purchase of imports by US$100 per
person in order to eliminate the trade imbalance and defuse trade conflict
with the US. The strategy had little obvious effect on consumer behav-
iour, and in the end the two governments agreed to exchange rate
changes to balance trade. The difference in 1999 was that rather than rely
on verbal exhortations the Japanese government decided to give con-
sumers additional purchasing power with which to increase consump-
tion demand.
The distribution of shopping vouchers worth US$6 billion (Y700 bil-
lion) began in early 1999. The main requirement was that the shopping
vouchers were to be used before August of that year. It was a bold new
experiment to release the latent power of Japanese consumers, but econo-
mists predicted that consumers would simply spend the coupons and
 Conclusion 151

save the equivalent in cash, thereby defeating the objectives of the pro-
gramme.8 At best, they argued that benefits were likely to be only short-
term. Sustained recovery of consumption demand could not be achieved
through contrived and gimmicky measures, but was possible only after a
significant turnaround of consumer confidence. The problem of low con-
sumption demand could be attributed not to lack of purchasing power,
which could perhaps be remedied by the innovative decision to issue
shopping vouchers, but rather to continuing apprehension about job
security, future economic prospects and price deflation.
As the government had done throughout the current economic reces-
sion, in November 1999 it announced an additional fiscal stimulus pro-
gramme of Y18 trillion to facilitate recovery. This was the ninth
stimulus package since 1992 and earmarked spending for public works
programmes and support for small businesses. The supplementary
stimulus package was necessitated by a concern that economic recovery
might be derailed by a resurgent yen and before increased domestic
demand had created the bases for sustained economic recovery. The EPA
estimated that economic growth in the fiscal year to March 2000 would
be about 0.6 per cent. In the first quarter of 1999, the economy achieved
a growth of about 2 per cent and in the second quarter 0.1 per cent. In
the third quarter, however, it contracted by 1 per cent, rekindling fears
that the it remained vulnerable. Despite the third-quarter reversal, the
Japanese economy was still expected to achieve the official growth tar-
get of 0.5 per cent for the year but not the strong recovery that had been
anticipated after first-quarter growth rates was released. In 2000 recov-
ery looked more likely after two consecutive quarters of growth. In the
January–March quarter, the economy expanded 2.5 per cent and this
was followed by a 1 per cent growth in the following quarter. It amount-
ed to an annual growth rate of 4.2 per cent, well above the official gov-
ernment forecast of a 1 per cent growth in the fiscal year 2000 (April
2000–March 2001).9 A positive feature of the latest growth figures was
that consumer spending had increased 1.1 per cent in the second quar-
ter of calendar year 2000. A sustained programme of public works
expenditure could perhaps slowly begin to restore consumer confi-
dence, but it is also unclear how long the government can continue
deficit spending, given that fiscal deficits are already very high by inter-
national standards.
None of the implemented measures had any discernible impact on con-
sumption demand. Given that deflationary tendencies were a factor
behind depressed consumption demand, one option for the government
was to devise strategies for controlled inflation that might encourage
152 Japan in Crisis

consumers to bring forward their consumption plans in order to avoid

paying higher prices in future.
At the least, it was important that the government look for new ways to
boost business and consumer confidence, or alternatively shock reticent
consumers into unleashing their spending power by threatening price
inflation. After a decade of economic stagnation and gloomy forecasts of
an impending crisis in the national welfare system, it was not easy to
encourage an ageing population to loosen purse strings, but that is pre-
cisely what was necessary to revive growth and bring the economy out of
recession. Figures for July 1999 showed a small recovery of 0.7 per cent in
household spending compared with June, suggesting that the Japanese
economy might have turned a corner.10 Instead, the economy failed to
maintain a momentum and continued to swing erratically.
In the seesawing path of Japan’s troubled economy, 2001 brought a
slide back into gloom and pessimism. On 20 August 2001 the Nikkei share
market index closed at 11 257.94, the lowest point since December 1984,
a reflection of poor economic forecasts. And instead of promising any
quick fixes, Prime Minister Koizumi warned of a few years of continuing
economic hurt to come as he committed his government to a rigorous
course of ‘reforms without sanctuaries’. The high approval rating of the
Prime Minister was a clear indication that ordinary citizens were prepared
to accept short-term pain in return for structural reforms but Koizumi
instead has delivered continuing pain and the status quo. In early 2002,
the economic outlook remained gloomy, amid falling share prices and
deflationary threats. In February, the Nikkei share price fell below 9,500
for the first time in 18 years. A Y30 trillion cap on issuance of new deficit
bonds added to the gloom by limiting the capacity of the government to
take remedial fiscal policy measures in order to boost flagging demand
within the economy. In order to rein in the ever-increasing government
deficit, the prime minister committed the government to a cut in public
works expenditures in fiscal year 2002. Throughout the post-bubble eco-
nomic stagnation, governments had injected vast sums into public works
and construction programmes, which did little to correct the economic
downturn except perhaps in the construction industry. In the stagnant
economic conditions, most industrial sectors were affected except the
construction industry, and, reflecting the buoyant conditions in the that
sector, daily wages within it continued to climb in the 1990s. In 1989 at
the peak of the bubble economy the average monthly wage in the con-
struction industry was Y373 000, but by 1997 this had increased to Y468
000,11 whereas in manufacturing it increased from Y352 000 in 1990 to
Y413 000 in 1997.12 In the predicted economic downturn following the
 Conclusion 153

introduction of structural adjustment and budgetary restraint, the con-

struction industry is expected to be particularly hard hit, and this will
inevitably have a severe ripple effect within the LDP. The construction
zoku, the lobby group for the construction industry, is particularly strong
within the LDP and their attitude will be an important determinant of
whether Prime Minister Koizumi is ultimately successful in his reform
objectives. Economic downturn and opposition within the LDP among
senior party leaders do not bode well for the government’s reform agenda.
The opposition Democratic Party of Japan has better reform creden-
tials, with a clear majority of its representatives elected from urban dis-
tricts, but its prospects of winning government are not very promising,
leaving the LDP as the dominant party in the immediate future. The ques-
tion then is whether Koizumi will be able to push and cajole his party to
accept the reformist position. I argue that this scenario cannot be taken
for granted and that institutional inertia is more likely to prevail over his
reformist zeal. An escape to the comfort zone provided by institutional
inertia could perhaps become all the more attractive when economic con-
ditions begin to deteriorate further as a result of reforms. Koizumi has
been keen to remind the nation that there can be no gain without short-
term pain, but it is still uncertain whether he will himself be able to hold
the fort when employment and economic conditions deteriorate. Indeed,
in August 2001, as unemployment reached 5 per cent, the government
already began to plan for a supplementary budget to provide relief to the
unemployed and for job creation activities. Were such an emergency
budget to be implemented, Stephen Lunn has observed, it would be ‘a sig-
nificant policy backflip for Mr Koizumi who had consistently promised
no additional government pump-priming for the economy as part of his
“no pain, no gain” structural reform package’.13
While the outlook for reform is uncertain under present conditions, we
cannot always assume that established patterns must constantly assert
themselves. There are numerous examples of successful reforms within
an obdurate and inflexible institutional structure. Certainly, there were
strong institutional constraints in the Soviet Union against Mikhail
Gorbachev launching his movement for perestroika (reform) and glasnost
(openness), but he was still able to defy pressures to conform. The change
of direction was necessitated by an under-performing economy and new
international challenges, but the reforms, in the end, destroyed both the
Communist Party of the Soviet Union (CPSU) and the Soviet Union itself.
The Japanese situation is considerably different from that of the Soviet
Union in the mid-1980s, but the danger to the Liberal Democratic Party
of continuing on a reformist track may not be too unlike that which
154 Japan in Crisis

destroyed the CPSU. It is quite possible that if Gorbachev had not

embarked on his reform agenda he would still be in power as secretary
general of the CPSU. In Japan, the Liberal Democratic Party is divided
along lines of reforms and stability, and an aggressive push for reforms
may serve only to widen the fissures and lead ultimately to a break-up.
Notes

1 Introduction
1 The oil crisis was sparked by a decision of the Organisation of Petroleum
Exporting Countries (OPEC) to quadruple crude oil prices in late 1973. The
sudden jump in oil prices had an immediate adverse impact on industrial
economies and ushered in a long period of economic recession and price infla-
tion. This was considered such an unlikely combination that economists had
to coin a new term, stagflation, to describe this unique set of circumstances.
2 Japan Statistical Yearbook 2001, Government of Japan, Tokyo; see table 11–5,
p. 391.
3 Amyx, J., ‘Political Impediments to Far-reaching Banking Reforms in Japan:
Implications for Asia’, in Noble, G. W. and John Ravenhill (eds), The Asian
Financial Crisis and the Architecture of Global Finance, Cambridge University
Press, 2000, p. 143.
4 ‘OECD chief says Japan needs political leadership to reform’, Japan Policy &
Politics, 15 May 2000. (http://www.findarticles.com/cf_1 /m0XPQ/2000_May
_15/62122746/p1/article.jhtml/?term=Regulatory+Reform+in+Japan)
5 Lincoln, E., ‘Deregulation in Japan and the United States: A Study in Contrasts’,
in Gibney, F. (ed.), Unlocking the Bureaucrat’s Kingdom: Deregulation and the
Japanese Economy, Brookings Institution Press, Washington DC, 1998, p. 61.
6 It is precisely because of this separation between formal and real authority that
the principle of ‘mandate of heaven’ has been so enduring and, unlike in
China, allowed for uninterrupted imperial descent. The monarchy could con-
tinue its cloistered existence in splendid isolation from power struggles that
continued elsewhere, whereas in China, emperors guilty of misrule were often
overthrown.
7 The role of crises in reshaping existing order is, of course, not limited to Japan.
8 Lonny E. Carlile and Mark C. Tilton (eds), Is Japan Really Changing its Ways?
Regulatory Reform and the Japanese Economy, Brookings Institution Press,
Washington, DC, 1998.
9 Feldstein, M., ‘A Self-Help Guide to Emerging Markets’, Foreign Affairs,
March/April 1999, p. 93.
10 Cited in Tachi, R., The Contemporary Japanese Economy: An Overview (translated
by Richard Walker), University of Tokyo Press, Tokyo, 1993, p. 194.
11 Kindleberger, Charles P., Manias, Panics, and Crashes: A History of Financial
Crises, revised edn, Basic Books, New York, 1989, pp. 34–5.
12 Morinaga, T., Baburu to Defure, Kodansha, Tokyo, 1998, pp. 16 ff.
13 Kristoff, N. D., ‘Long Mandibles, Sleek Carapace. A Steal at $300’, New York
Times, 10 April 1999, p. A4.
14 Kindleberger, Charles P., Manias, Panics, and Crashes: A History of Financial
Crises, revised edn, Basic Books, New York, 1989, p. 132.
15 Carlile, L. E., ‘The Politics of Administrative Reform’, in Lonny E. Carlile
and Mark C. Tilton (eds), Is Japan Really Changing its Ways? Regulatory Reform

155
156 Notes

and the Japanese Economy, Brookings Institution Press, Washington, DC,

1998.
16 Carlile, L. C. and Mark C. Tilton, ‘Is Japan Really Changing?’, in Lonny E.
Carlile and Mark C. Tilton (eds), Is Japan Really Changing its Ways?, Brookings
Institution Press, Washington, 1998, p. 197.
17 Dennis Yasutomo cited in Doner, R. F., ‘Japan in East Asia: Institutions and
Regional Leadership’, in Katzenstein, P. J. and Takashi Shiraishi (eds), Network
Power: Japan and Asia, Cornell University Press, Ithaca and London, 1997, p.
211.

2 Economic Stagnation in Japan

1 See Miyajima, H., ‘The Impact of Deregulation on Corporate Governance and
Finance’, in Carlile, Lonny E. and Mark C. Tilton (eds), Is Japan Really Changing
its Ways? Regulatory Reform and the Japanese Economy, Brookings Institution
Press, Washington, DC, 1998. See also Morinaga, T., Baburu to Defure,
Kodansha, Tokyo, 1998, pp. 66 ff.
2 New York Times, 4 August 1990, p. 122.
3 See, for example, Morinaga, T., Baburu to Defure, Kodansha, Tokyo, 1998, p. 71.
4 Itoh, M., Nihon Keizai o Kangae Naosu, Iwanami Shoten, Tokyo, 1998, pp. 142–3.
5 Noguchi, Y., ‘The “Bubble” and Economic Policies in the 1980s’, in Journal of
Japanese Studies, vol. 20, no. 2, summer 1994, p. 292.
6 Itoh, M., Nihon Keizai o Kangae Naosu, Iwanami Shoten, Tokyo, 1998, p. 153.
7 Morinaga, T., Baburu to Defure, Kodansha, Tokyo, 1998, p. 73.
8 This was a term used by Chairman of the US Federal Reserve Bank, Alan
Greenspan, to explain the surge in the Dow Jones Index in the 1990s.
9 Kindleberger, Charles P., Manias, Panics, and Crashes: A History of Financial
Crises, revised edn, Basic Books, New York, 1989, p. 6.
10 Mera, K., ‘The Making of Japan’s Failed Land Policy’, in Gibney, F., Unlocking
the Bureaucrat’s Kingdom: Deregulation and the Japanese Economy, Brookings
Institution Press, Washington, DC, 1998, pp. 180 ff.
11 Wood, C., ‘Japan’s Financial System’, in Gibney, F. (ed.), Unlocking the
Bureaucrat’s Kingdom: Deregulation and the Japanese Economy, Brookings
Institution Press, Washington, DC, 1998, p. 229.
12 Cargill, Thomas F., Michael M. Hutchison and Takatoshi Ito, The Political
Economy of Japanese Monetary Policy, MIT Press, Cambridge, MA, 1997, p. 110.
13 Wolferen, K., in New York Times, 8 February 1993, p. D1. See also Hollerman, L.,
‘Whether Deregulation? An Epilogue & Japan’s Industrial Policy?, in Gibney, F.
(ed.), Unlocking the Bureaucrat’s Kingdom. Deregulation and the Japanese
Economy, Brookings Institution Press, Washington, DC, 1998.
14 Morinaga, T., Baburu to Defure, Kodansha, Tokyo, 1998, p. 165.
15 See Morinaga, T., Baburu to Defure, Kodansha, Tokyo, 1998, p. 167.
16 New York Times, 17 November 1998, p. A5.
17 New York Times, 2 October 1991, p. D2.
18 Miller, M., ‘Asian Financial Crisis’, Japan and the World Economy, vol. 10, no. 3,
July 1998, p. 357.
19 Henderson, C., Asia Falling: Making Sense of the Asian Crisis and its Aftermath,
Business Week Books, McGraw-Hill, New York, 1998, p. 172.
 Notes 157

20 Japan Economic Almanac 1998, published by Nikkei Weekly, Tokyo, 1998, p. 57.
21 Marshall, D., ‘Understanding the Asian Crisis: Systemic Risk as Coordination
Failure’, Economic Perspective (Federal Reserve Bank of Chicago), vol. 22, no. 3,
third quarter 1998, p. 14.
22 Wood, C., ‘Japan’s Financial System’, in Gibney, F. (ed.), Unlocking the Bureaucrat’s
Kingdom, Brookings Institution Press, Washington, DC, 1998, p. 227.
23 New York Times, 10 December 1997, p. D1.
24 See Economic Research (Keizai Kikakucho Keizai Kenkyujo), no. 2, June 1998,
p. 54.
25 See Economic Research (Keizai Kikakucho Keizai Kenkyujo), no. 2, June 1998,
p. 55.
26 See Foreign Policy Bulletin, vol. 9, no. 3, May/June 1998.
27 See Paul Krugman at http://web.mit.edu/krugman/www/japtrap.html
28 ‘Improvement Projected for First Half of’ 99’, Nikkei Weekly, 11 January 1999,
p. 3.
29 Ichimura, S., Political Economy of Japanese and Asian Development, Springer
Verlag, Tokyo, 1998, p. 81.
30 Miller, M., ‘Asian Financial Crisis’, Japan and the World Economy, vol. 10, no. 3,
July 1998, p. 358.
31 Brown, B., ‘Currency Plan Offers Remedy for Deflation’, Nikkei Weekly, 11
January 1999, p. 14.
32 ‘MITI Chief Takes Proactive Approach’, Nikkei Weekly, 11 January 1999, p. 1.
33 Hollerman, L., ‘Whither Deregulation? An Epilogue to Japan’s Industrial
Policy’, in Gibney, F. (ed.), Unlocking the Bureaucrat’s Kingdom: Deregulation and
the Japanese Economy, Brookings Institution Press, Washington DC, 1998,
pp. 251–2.
34 ‘LDP, Liberals Agree to 25 Per Cent Cut in Bureaucrats’, Japan Times, 22 January
1999, p. 1.
35 ‘Overtures Directed at New Komeito’, Japan Times, 19 January 1999, p. 3. See
also ‘Do kawaru Seikan: Ugoki Dasu Seisaku Kettei Kaikaku’, Nihon Keizai
Shinbun, 23 January 1999, p. 5.
36 ‘Keizai o miru me’, Toyo Keizai, 30 January 1999, p. 3.
37 Shimada, S., ‘Nihon Keizai Saisei no Senryaku: Keizai Kaikaku to Keiei
Kakushin’, Chogin Soken, Chogin Sogo Kenkyujo, vol. 179, December 1998,
p. 42.
38 New York Times, 15 September 1998, p. C5.
39 Sanger, David E., ‘Tokyo Leader Blames Many for Banks’ Crisis’, New York
Times, 22 September 1998, p. A13.
40 Lunn, S., ‘Stricken Japan Targets Debt’, The Australian, 10–11 March 2001,
p. 11.
41 ‘Desperate Japanese Kick-Start’, The Australian, 15 August 2001, p. 1.

3 Financial Reforms in Japan

1 Non-performing loans are difficult to define with any precision and it is diffi-
cult also to estimate the level of NPLs in the Japanese financial sector, since
banks have been reluctant to disclose figures and there is a widespread tenden-
cy to underestimate NPLs. According to Horiuchi, some banks only began to
158 Notes

declare NPLs in March 1996, namely (a) loans to bankrupt borrowers, (b) inter-
est payments overdue by more than 3 months and (c) loans with reduced
interest to borrowers in trouble. See Horiuchi, A., ‘Financial Fragility and
Recent Developments in the Japanese Safety Net’, Social Science Japan Journal,
vol. 2, no. 1, April 1999, pp. 24–5.
2 Horiuchi, A., ‘Financial Fragility and Recent Developments in the Japanese
Safety Net’, Social Science Japan Journal, vol. 2, no. 1, April 1999, p. 25.
3 ‘Risk Disclosure by Financial Institutions’, Quarterly Bulletin (Bank of Japan,
Tokyo), February 1997.
4 Sakaiya, T., ‘Ima, Naze, Gyosei Kaikaku ka’, in Min to Kan: 2001 nen Yakusho to
Yakunin wa ko naru, edited by Gyokaku 700 nin Iinkai, Kodansha, Tokyo, 1999,
p. 12 ff.
5 See Miyauchi, Y., ‘Kisei Kanwa wa Keizai Saisei no Kiri Satsu da’, in Min to Kan:
2001 nen Yakusho to Yakunin wa ko naru, edited by Gyokaku 700 nin Iinkai,
Kodansha, Tokyo, p. 169.
6 The population projections are taken from Japan Statistical Yearbook, 1999,
Government of Japan, Tokyo, p. 33. A declining fertility rate prompted some
local authorities to encourage Japanese women to have more children by offer-
ing prizes of US$5000 per child. These had little effect and were, instead, criti-
cized as inadequate compensation. At one time, Prime Minister Hashimoto
Ryutaro also suggested that Japanese women forego higher education to con-
centrate on raising families, but understandably his remarks were not well
received. See, Rostow, W. W., ‘Modern Japan’s Fourth Challenge: The Political
Economy of a Stagnant Population’, Japanese Economic Review, vol. 51, no. 3,
September 2000.
7 In past economic downturns, the Japanese government relied on export-led
recovery but that option was no longer available in the 1990s. The Japanese
government was afraid of reigniting trade disputes with trading partners, who
had long accused Japan of taking advantage of open markets overseas while
denying imports equal access to the Japanese market.
8 Despite the LDP’s loss in Upper House elections, it remained the party in
power by virtue of its standing in the Lower House of the Japanese Parliament.
The Lower House is the more powerful of the bicameral Japanese Parliament
and the Prime Minister is also chosen by the Lower House.
9 Kristoff, N. D., ‘Warming to ‘Cold Pizza’ ‘, International Herald Tribune, 2 April
1999, p. 1.
10 New York Times, 15 September 1998, p. A14.
11 Komine, T. ‘Ajia no Tsuka Kinyu Kiki to Senzaiteki Seichoryoku’, Economic
Research (Keizai Kikakucho Keizai Kenkyujo), no. 2, June 1998, p. 15.
12 The Financial Supervisory Agency was established on 22 June 1998 to perform
fair and transparent supervision of financial institutions. Soon after its estab-
lishment it asked for reports from banking institutions, following up with
intensive audits of the 19 major banks, in collaboration with the Bank of
Japan.
13 ‘Ginko no Mondai Saiken 73 cho Yen’, Nihon Keizai Shinbun, 23 January 1999,
p. 4.
14 Cargill, Thomas F., Michael M. Hutchison and Takatoshi Ito, The Political
Economy of Japanese Monetary Policy, MIT Press, Cambridge, MA, 1997, p. 133.
15 See ‘Japan’s Mr Reform’, Asiaweek, 7 May 1999, p. 33.
 Notes 159

16 Managing the Crisis: The FDIC and RTC Experience 1980–1994, Federal Deposit
Insurance Corporation, Washington DC, 1998.
17 ‘ “LTCB King”, protégé blamed for bank’s failure’, Japan Times International,
16–30 June 1999, p. 5.
18 Nihon Keizai Shinbun, 13 February 1999.
19 By late 1999, the government had already invested US$13.8 billion in restruc-
turing LTCB. See Japan Times International, 16–30 September 1999, p. 10.
20 Boston Globe, 16 October 1998, p. D2.
21 ‘Banking System or Welfare State’, Euromoney, September 1998, p. 101.
22 ‘Konnichi teki Fukyo o do Kaiketsu suru ka’, Toyo Keizai, no. 5539, 30 January
1999, p. 49.
23 ‘Japan’s Regulators Act Tough as Bank Deadline Nears’, The Wall Street Journal,
8 February 1999, p. A17.
24 ‘Japan Banks Say They See End of Losses’, International Herald Tribune, 9 March
1999, p. 15.
25 Morinaga, T., Baburu to Defure, Kodansha, Tokyo, 1998, p. 190.
26 Sagawara, S., ‘Taking On Japan’s Banks’, International Herald Tribune, 17 March
1999, p. 11.
27 Chong, F., ‘Japanese Banks See Light Through Merger’, The Australian, 2
September 1999, p. 27.
28 Sakamoto, S., ‘IBJ, Fuji, and DKB to Join Forces – Foreign Acquisitions by
Japanese Banks Will Now Be Permitted’, Journal of Japanese Trade and Industry,
vol. 18, no. 6, November/December 1999, p. 32.
29 Horiuchi, A., ‘Financial Fragility in Japan’, in de Brouwer, G. and Wiswarn
Pupphavesa (eds), Asian Pacific Financial Deregulation, Routledge, London,
1999, pp. 239 ff.
30 Horiuchi, A., ‘Financial Fragility in Japan’, in de Brouwer, G. and Wiswarn
Pupphavesa (eds), Asia Pacific Financial Deregulation, Routledge, London,
1999, p. 246.
31 Harner, S. M., Japan’s Financial Revolution: And How American Firms are Profiting,
M. E. Sharpe, Armonk and London, 2000, p. 27.
32 Cargill, T. F., ‘What Caused Japan’s Banking Crisis?’, in Hoshi, T. and Hugh
Patrick (eds), Crisis and Change in the Japanese Financial System, Kluwer
Academic, Boston, Dordrecht, London, 2000, p. 43.
33 Rafferty, K., ‘Playing a Whole New Ball Game’, Euromoney, no. 376, August 2000.
(http://global.umi.com/pqdweb?ReqType=301&UserId=IPAuto&Passwod
+IPAuto &COPT=REJTPM&Enabled+1&TS=983324241)
34 The net result was not dissimilar to Bolivia’s experience with debt buyback
in 1988. Bolivian debt totaled US$670 million and had a secondary market
value of US$40.2 million at the discount rate of 0.06 cents to the dollar. The
Bolivian government bought back $308 million of its debt with US$34 mil-
lion at the discount rate, leaving its total debt at $362 million. The debt buy-
back resulted in markets upgrading the discount rate to 0.11 cents to the
dollar, giving the remaining debt a market value of $39.2 million. In real
terms, Bolivia had used $34 million to secure a debt relief of only $400 000.
Like Bolivia, the Japanese government tried a partial solution but this failed
to resolve the fundamental problem. See Rogoff, K., ‘Dealing with
Developing Country Debt in the 1990s’, World Economy, vol. 15, no. 4, 1992,
p. 480.
160 Notes

35 Okumura, H., Corporate Capitalism in Japan, Macmillan Press, Basingstoke,

2000, pp. 37 and 43.
36 Odagiri, N., ‘Kabu Mochiai Kaisho’, Ekonomisto, 9 January 2001, p. 20.
37 Kiuchi, T., ‘Japanese Economy: Facing a Real Test for Restructuring’, speech
delivered at Beijing on 21 March 2001, unpublished.
38 Lunn, S., ‘Japan Ventures Nothing in Band-Aid Zero Rate’, The Australian, 21
March 2001, p. 29.
39 Bremner, B., ‘Roadblock at the Bank of Japan’, Business Week, 12 February
2001, p. 57.
40 ‘Japan Punts on Power of Zero Rate’, The Australian, 20 March 2000, p. 25.
41 See Richard Katz’s review of Freedman, C., Why Did Japan Stumble?, in Journal
of Japanese Studies, vol. 27, no. 1, 2001.
42 Japan Times, 31 March 2001.
43 Negishi, M., ‘Doubts Linger Over Loan Disposal’, Japan Times Online, April 7
2001.
44 Shirakawa, H., ‘Keiki to kozo kaikaku wa ryoritsu suru no ka’, Ekonomisto, 29
May 2001, p. 45.
45 Kurata, Y., ‘Nihon kigyo o kaishimeru: Ripplewood no Shotai’, Shukan
Daiyamondo, 14 July 2001, pp. 123 ff.

4 Corporate Reforms
1 The keiretsu replace the prewar zaibatsu or financial cliques that brought
together a number of corporations under a single, family-owned holding com-
pany. The zaibatsu were dissolved by American occupation authorities at the
end of the Second World War because of their uncompetitive practices and eco-
nomic domination. Japan did not emulate western capitalism, however, and in
time, after the occupation of Japan was over, the zaibatsu were replaced by
informal keiretsu groupings but without the formal control of a holding compa-
ny. The keiretsu can be either vertically or horizontally integrated and are held
together by legally permissible cross-ownership of shares and linkages to a main
bank.
2 Holzhausen, A., ‘Japanese Employment Practices in Transition: Promotion
Policy and Compensation Systems in the 1990s’, Social Science Japan Journal, vol.
3, no. 2, October 2000, p. 224.
3 Miyajima, H., ‘Regulatory Framework, Government Intervention and Investment
in Postwar Japan: The Structural Dynamics of J-Type Firm–Government
Relationships’, in Miyajima, H., Takeo Kikkawa and Takashi Hikino (eds), Policies
for Competitiveness: Comparing Business Government Relationships in the ‘Golden Age
of Capitalism’, Oxford University Press, 1999, p. 59.
4 See Hoshi, T., ‘The Economic Role of Corporate Grouping and the Main Bank
System’, in Aoki, M. and R. Dore (eds), The Japanese Firm: The Sources of
Competitive Strengths, Oxford University Press, 1994, p. 294.
5 For a discussion of the alternate explanations for concentrated share ownership
in Japan, see Yafeh, Y., ‘Corporate Governance in Japan: Past Performance and
Future Prospects’, Oxford Review of Economic Policy, vol. 16, no. 2, summer 2000.
6 Yafeh, Y., ‘Corporate Governance in Japan: Past Performance and Future
Prospects’, Oxford Review of Economic Policy, vol. 16, no. 2, summer 2000, p. 76.
 Notes 161

7 Lazonick, W., ‘The Japanese Economy and Corporate Reform: What Path to
Sustainable Prosperity?’, Industrial and Corporate Change, vol. 8, no. 1, March
1999, p. 623.
8 See Yafeh, Y., ‘Corporate Governance in Japan: Past Performance and Future
Prospects’, Oxford Review of Economic Policy, vol. 16, no. 2, summer 2000, p. 79.
9 Hoshi, T., ‘The Economic Role of Corporate Grouping and the Main Bank
System’, in Aoki, M. and R. Dore (eds), The Japanese Firm: The Sources of
Competitive Strengths, Oxford University Press, 1994.
10 Lazonick, W., ‘The Japanese Economy and Corporate Reform: What Path to
Sustainable Prosperity?’, Industrial and Corporate Change, vol. 8, no. 1, March
1999, p. 609.
11 Nakamori, T., ‘Daiichi no “Yama” wa 6 Gatsu Matsu ni mo Yatte Kuru’, Shukan
Ekonomisto, 26 June 2001, pp. 22–3.
12 ‘Japan’s Regulators Act Tough as Bank Deadline Nears’, Wall Street Journal, 8
February 1999, p. 417.
13 Harrison, B. and Barry Bluestone, The Great U-Turn: Corporate Restructuring and
the Polarizing of America, Basic Books, New York, 1988, p. 7.
14 Japan Statistical Yearbook 2001, Government of Japan, Tokyo, 2000.
15 Japan Statistical Yearbook 2001, table 7–35, p. 316.
16 See Japan Statistical Yearbook 2000, Tokyo, 1999, table 5–14, p. 204.
17 Seniority-based wages meant automatic and uniform across the board wage
increases every year, regardless of employee performance. The seniority-based
wages were in effect linked to ‘expected needs’ of employees, as they raised
children and sought better housing, but it also had the powerful effect of
ensuring employee loyalty to the firm, since an employee who changed com-
panies lost seniority in the new company.
18 Okuda, H., ‘Slashing Payrolls Shows Executive Incompetence’, Japan Echo, vol.
26, no. 6, December 1999.
19 Dore, R., ‘Japan’s Reform Debate: Patriotic Concern or Class Interest? Or
Both?’, Journal of Japanese Studies, vol. 25, no. 1, winter 1999.
20 Pempel, T. J., Regime Shift: Comparative Dynamics of the Japanese Political
Economy, Cornell University Press, Ithaca, NY, 1999, pp. 180–95.
21 Imai, M., Kaizen: The Key to Japan’s Competitive Success, Random House
Business Division, New York, 1986.
22 Sato, K., ‘Japan at a Crossroads’, Japanese Economic Studies, vol. 24, no. 4,
July/August 1996, p. 88.
23 Porter, M. E., Hirotaka Takeuchi and Mariko Sakakibara, Can Japan Compete?,
Perseus, Cambridge, MA, 2000, p. 81.
24 Porter, M. E., Hirotaka Takeuchi and Mariko Sakakibara, Can Japan Compete?,
Perseus, Cambridge, MA, 2000, p. 170.
25 In 1999, Japanese overcapacity in steel was estimated at 39 per cent, automo-
biles at 26 per cent and shipbuilding at 22 per cent. See Porter, M. E., Hirotaka
Takeuchi and Mariko Sakakibara, Can Japan Compete?, Perseus, Cambridge,
MA, 2000, p. 82.
26 Pempel, T. J., ‘Structural Gaiatsu: International Finance and Political
Change in Japan’, Comparative Political Studies, vol. 32, no. 8, December
1999, p. 917.
27 Yahata, S., ‘Structural Change and Employment Adjustment in the Post-
Bubble Recession’, Japan Forum, vol. 9, no. 2, 1997, p. 143.
162 Notes

28 Katz, R., Japan, the System That Soured: the Rise and Fall of the Japanese Economic
Miracle, M. E. Sharpe, New York, 1998, p.276.
29 On the nature and effect of regulation in Japan, see Min to Kan: 2001 nen
Yakusho to Yakunin wa ko naru, Gyokaku 700 nin Iinkai, Kodansha, Tokyo,
1999, pp. 156 ff.
30 Sheridan, G., ‘Brave New Japan’, The Australian, 14 July 1999, p. 34.
31 Strom, S., ‘Mitsubishi Electric to Slash Jobs’, International Herald Tribune, 1
April 1999, p. 13.
32 Ajia 1999: Konrango no Ajia o Minaosu, Daiyamondo Sha, Tokyo, 1998, p. 151.
33 ‘Japan Restructures, Grudgingly’, The Economist, 6 February 1999, p. 63.
34 Pokarier, C., ‘Continuity and Change in Japanese Human Capital Formation’,
in Maswood, J., Jeffrey Graham and Hideaki Miyajima (eds), Japan: Continuity
and Change, Curzon Press, London, 2002 (forthcoming).
35 Cohen, Stephen S. and Gavin Boyd, Corporate Governance and Globalization:
Long Range Planning Issues, Edward Elgar, Cheltenham, 2000, p. 236.
36 Krugman, P., ‘Why I am Even More Depressed About Japan’, Financial Times, 4
May 1999, p. 12.
37 ‘Koyo ya Shunyugen 82 per cent ga fuan’, Asahi Shinbun, 25 April 1999, pp. 1
and 11.
38 See Far Eastern Economic Review, 1 April 1999, p. 10.
39 Miyajima, H., ‘Regulatory Framework, Government Intervention and
Investment in Postwar Japan: The Structural Dynamics of J-Type Firm–
Government Relationships’, in Miyajima, H., Takeo Kikkawa, and Takashi
Hikino (eds), Policies for Competitiveness: Comparing Business–Government
Relationships in the ‘Golden Age of Capitalism’, Oxford University Press, 1999, p. 66.
40 See Japan Statistical Yearbook 2001, table 12–13, p. 423.
41 ‘The Growing Mobility of Labor’, Focus Japan, vol. 27, no. 8, JETRO, Tokyo,
October 2000, p. 4.
42 Lazonick, W., ‘The Japanese Economy and Corporate Reform: What Path to
Sustainable Prosperity?’, Industrial and Corporate Change, vol. 8, no. 1, March
1999, pp. 627–8.
43 Mandate of heaven refers to a principle for legitimizing imperial rule in China
and Japan.
44 Holzhausen, A., ‘Japanese Employment Practices in Transition: Promotion
Policy and Compensation Systems in the 1990s’, Social Science Japan Journal,
vol. 3, no. 2, October 2000.
45 Yafeh, Y., ‘Corporate Governance in Japan: Past Performance and Future
Prospects’, Oxford Review of Economic Policy, vol. 16, no. 2, summer 2000.

5 Regulatory Reforms
1 Vogel, S., ‘Can Japan Disengage? Winners and Losers in Japan’s Political
Economy, and the Ties that Bind Them’, Social Science Japan Journal, vol. 2, no.
1, April 1999, p. 4.
2 Rogowsky, R. A., ‘The Benefit of Regulatory Reform’, in OECD Proceedings:
Regulatory Reform and International Market Openness, Paris, 1996, p. 43.
3 Ishiguro, K., ‘The WTO New Round and Japan’s Role’, in Japan Review of
International Affairs, vol. 13, no. 4, winter 1999, p. 234.
 Notes 163

4 MacAvoy, P. W., ‘Twenty Years of deregulation’, in Paul W. MacAvoy (ed.),

Deregulation and Privatization in the United States, Hume Papers on Public Policy,
vol. 3, no. 3, Edinburgh University Press, autumn 1995, pp. 8–9.
5 Porter, M. E., Hirotaka Takeuchi and Mariko Sakakibara, Can Japan Compete?,
Perseus, Cambridge, MA, 2000, chapter 1.
6 Francis, J., The Politics of Regulation: A Comparative Perspective, Blackwell,
Cambridge, MA, 1993, p. 205.
7 Keizai Kikakucho, Nihon Keizai no Genkyo: Naiju Chushin no Antei Seicho o
Mezashite, Tokyo, 1985, pp. 140–1. Cited in Maswood, S. J., Japan and
Protection, Routledge, London, 1990, pp. 109–10. In presenting cross-country
statistical data, the EPA added the caution that the figures were not precisely
comparable because of national differences. It cautioned that the comparative
figures were for indicative purposes only to show the variance between coun-
tries. Indeed, the variability of estimates is highlighted also a different set of
numbers which suggest that the percentage of GDP in the regulated sector of
the US economy decreased from 28.9 per cent to 23.3 per cent between 1980
and 1992. See MacAvoy, P. W., ‘Twenty Years of Deregulation’, in Paul W.
MacAvoy (ed.), Deregulation and Privatization in the United States, Hume Papers
on Public Policy, vol. 3, no. 3, Edinburgh University Press, autumn 1995, p. 5.
8 Speech by Miyauchi Yoshihiko, chairman of the Regulatory Reform
Committee, at Foreign Correspondents Club of Japan, 26 May 2000.
(http://www.somucho.go.jp/gyoukan/kanri/speech.htm)
9 Carlile, L. E., ‘The Politics of Administrative Reform’, in Lonny E. Carlile
and Mark C. Tilton (eds), Is Japan Really Changing its Ways? Regulatory Reform
and the Japanese Economy, Brookings Institution Press, Washington DC, 1998,
p. 89.
10 Speech by Miyauchi Yoshihiko, chairman of the Regulatory Reform
Committee, at the Foreign Correspondents Club of Japan, 26 May 2000.
11 McAlinn, G. P., The Business Guide to Japan, Butterworth-Heinemann Asia,
Singapore, 1996, p. 23.
12 The Impact of Regulatory Reform in Japan – Assessing Consumer Benefit, Economic
Policy Analysis Report no. 1, Research Bureau, Economic Planning Agency,
Tokyo, January 2000.
13 Yamamura, K., ‘The Japanese political Economy after the “Bubble”: Plus Ça
Change’, Journal of Japanese Studies, vol. 23, no. 2, 1997, p. 322.
14 Speech by Miyauchi Yoshihiko, chairman of the Regulatory Reform
Committee, at the Foreign Correspondents Club of Japan, 26 May 2000.
15 Nader, R. and Lori Wallach, ‘GATT, NAFTA, and the Subversion of the
Democratic Process’, in Jerry Mander and Edward Goldsmith (eds), The Case
Against the Global Economy: And for a Turn Toward the Local, Sierra Club Books,
San Francisco, 1996.
16 See Nihon no Hakusho: Waga Kuni no Genjyo to Kadai, Nihon Joho Kyoiku
Kenkyu Kai, Seibunsha, Tokyo, 2000, p. 104.
17 Sakakibara, E., ‘Reform, Japanese Style’, in Gibney, F. (ed.), Unlocking the
Bureaucrat’s Kingdom: Deregulation and the Japanese Economy, Brookings
Institution Press, Washington, DC, 1998.
18 The separation between nominal and real power centres was a necessity based
on the principle of ‘mandate of heaven’. In the Japanese understanding of this
principle, since the imperial lineage was absolute, the ruling emperor had to be
164 Notes

insulated from worldly policy failures, such that failures could be blamed on
others, whether the Tokugawa shogunate before the Meiji Restoration or the rul-
ing genro (elder statesmen from the four southern provinces who inspired the
Meiji Restoration) during the Meiji period. By contrast, in the Chinese under-
standing of this same principle, imperial authority was not an absolute and so
the ruler could reign supreme. Instead, emperors could be held accountable for
policy failures, and a ruling monarch could thereby forfeit the mandate of heav-
en and be replaced by another dynasty. Thus Chinese history provides evidence
of many dynastic transitions whereas the Japanese are proud of an unbroken
line of emperors. There are some very rare exceptions in Japan, as when the rul-
ing emperor in the eighth century accepted blame for a series of natural disasters
and attributed them to heavenly displeasure at his lack of virtue. Imperial infal-
libility, however, is the rule that has been adhered to in Japan. See Sansom, G., A
History of Japan to 1334, Cresset Press, London, 1958, p. 75.
19 Grunberg, G., ‘France’, in Crewe, I. and David Denver (eds), Electoral Change in
Western Democracies, Croom Helm, London and Sydney, 1985.
20 See Chuo Koron, April 1999.
21 Asahi Shimbun, 9 September 2000, p. 4.
22 See Vogel, Steven K., ‘Can Japan Disengage? Winners and Losers in Japan’s
Political Economy, and the Ties that Bind Them’, Social Science Japan Journal,
vol. 2, no. 1, April 1999, pp. 11–12.
23 In an earlier work, Pempel had acknowledged the reality of a regime shift but
was unsure of the future equilibrium point but in a later work he is at least con-
fident that the earlier strategy will be replaced by a return to its pro-farm poli-
cies. See Pempel, T. J., ‘Structural Gaiatsu: International Finance and Political
Change in Japan’, Comparative Political Studies, vol. 32, no. 8, December 1999.
24 Masuda, E., ‘ “Koizumi Kakumei” no Taagetto’, Shukan Ekonomisto, 22 May
2001, p. 18.
25 ‘Koizumi Stumps on Intention to Redirect Road-only Revenue’, Japan Times,
18 June 2001, p. 1.
26 ‘Round of Verbal Sparring Opens Election Campaign’, Japan Times, 13 July
2001, p. 1.
27 Asaumi, N., ‘Popularity a Two-Edged Sword’, Daily Yomiuri, 17 June 2001, p. 6.
28 The Upper House has 247 seats and of these 121 seats (73 constituency seats
and 48 proportional representation seats) were contested in the July elections.
Upper House members are elected for a six-year term, with half the members
contesting elections every three years. In the July 2001 elections, nearly 500
individuals, including TV celebrities and professional wrestlers, registered
themselves as official candidates.
29 The postal savings system is technically Japan’s and the world’s largest bank,
with deposits of approximately Y260 trillion in March 2000.
30 Ishiyama, K., ‘Zoku-giin Threaten Koizumi’s Reforms’, Daily Yomiuri, 22 June
2001, p. 7.
31 Hironaka, Y., ‘Koizumi Ready to Run in Reform Race’, Daily Yomiuri, 24 June
2001, p. 1.
32 In early August 2001, relations between the prime minister and the foreign
minister had cooled considerably over disagreement with several bureaucratic
appointments, and there were suggestions that the prime minister had come
close to dismissing her but was constrained by her immense public popularity.
 Notes 165

33 Tanaka, A., ‘Tanaka Makiko Gaisho wa Hayaku Jinin Subeki Da’, Chuo Koron,
July 2001, p. 32 ff.
34 ‘Ozawa to Pick at Koizumi’s LDP Taint, “Self- Contradictions” ‘, Japan Times,
13 July 2001, p. 3.
35 Saito, J., ‘Cries of Ouch over Reform Pain’, Asahi.com, 27 July 2001.
(http:www.asahi.com/english/politics/K2001072600534.html)
36 Saito, J., ‘Cries of Ouch over Reform Pain’, Asahi.com, 27 July 2001.
(http://www.asahi.com/english/politics/K2001072600534.html)
37 Francis, J., The Politics of Regulation: A Comparative Perspective, Blackwell,
Cambridge, MA, 1993, p. 34.
38 ‘Takenaka Speaks on Reforms’, Daily Yomiuri, 23 June 2001, p. 18.
39 Yamamura, K., ‘The Japanese Political Economy after the “Bubble”: Plus Ça
Change’, Journal of Japanese Studies, vol. 23, no. 2, 1997.

6 Japan’s Regional Economy and the Asian Monetary Fund

1 ‘Present Situation and Future Prospects: Japanese Corporations’ Business
Development in Asia’, Japanese Finance and Industry Quarterly Survey, IBJ, no.
109, first quarter 1997, p. 1.
2 Katzenstein, P., ‘Introduction: Asian Regionalism in Comparative Perspective’,
in Katzenstein, P. and Shiraishi, T. (eds), Network Power: Japan and Asia, Cornell
University Press, Ithaca and London, 1997, p. 3.
3 Rix, A., ‘Japan and the Region: Leading from Behind’, in Okuizumi, K., Kent
Calder and Geritt Gong (eds), The US–Japan Economic Relationship in East and
Southeast Asia: A Policy Framework for Asia-Pacific Economic Cooperation,
Westview Press, Boulder, CO, 1993.
4 Doner, R. F., ‘Japan in East Asia: Institutions and Regional Leadership’, in
Katzenstein, P. J. and Takashi Shiraishi (eds), Network Power: Japan and Asia,
Cornell University Press, Ithaca, NY, and London, 1997.
5 Doner, R. F., ‘Japan in East Asia: Institutions and Regional Leadership’, in
Katzenstein, P. J. and Takashi Shiraishi (eds), Network Power: Japan and Asia,
Cornell University Press, Ithaca, NY, and London, 1997, pp. 201–2
6 See for example, van Wolferen, K., ‘The Japan Problem Revisited’, Foreign
Affairs, vol. 69, no. 4, fall 1990.
7 Tachi, R., The Contemporary Japanese Economy: An Overview (translated by
Richard Walker), University of Tokyo Press, Tokyo, 1993, p. 195.
8 The Economist (London), 11 October 1997, p. 89.
9 Eichengreen, B., ‘Bailing in the Private Sector: Burden Sharing in International
Financial Crisis Management’, Fletcher Forum of World Affairs, vol. 23, no. 1,
winter/spring 1999, p. 67.
10 Levinson, Jerome I., ‘The International Financial System: A Flawed
Architecture’, Fletcher Forum of World Affairs, vol. 23, no. 1, winter/spring
1999, p. 14.
11 ‘Japan Official Denounces IMF’, International Herald Tribune, 27–28 March
1999, p. 17.
12 Levinson, Jerome I., ‘The International Financial System: A Flawed
Architecture’, Fletcher Forum of World Affairs, vol. 23, no. 1, winter/spring
1999, pp. 22–3.
166 Notes

13 Far Eastern Economic Review (Hong Kong), October 1997, p. 15.

14 Boston Globe, 18 November 1998, p. A2.
15 Petri, Peter A., ‘Asia Summit Offers a Chance to Tackle Crisis’, Boston Globe, 17
November 1998, p. A27.
16 See ‘Mahathir Sees Asia’s Woes as Western Plot’, The Australian, 13 October
1999, p. 13.
17 Far Eastern Economic Review (Hong Kong), October 1997, p. 15.
18 The herd mentality of foreign investors is manifest in the way that actions of
one foreign investor are quickly replicated by others to unleash a tide of capital
flows in and out of a country.
19 The Economist (London), 8 January 1998.
20 Far Eastern Economic Review, 11 September 1997, p. 14.
21 Japan’s tardiness in dealing with these issues is in sharp contrast to the approach
of the European countries which have continued to provide financial compensa-
tion to victims of persecution in the Second World War. For example, in May
1999, the Norwegian government announced compensation, a standard pay-
ment of NOK 200 000, to heirs and surviving victims of anti-Jewish measures
during the Second World War. See New York Times, 3 May 1999, p. A24.
22 Pempel, T. J., “Transpacific Torii: Japan and the Emerging Asian Regionalism”,
in Katzenstein, P. J. and Takashi Shiraishi (eds.), Network Power: Japan and Asia,
Cornell University Press, Ithaca and London, 1997.
23 Bello, W., ‘East Asia: On the Eve of the Great Transformation’, Ampo: Japan Asia
Quarterly Review, vol. 28, no. 3, 1998, p. 13.
24 Takii, M. and Fukushima, M., Ajia Tsuka Kiki: Higashi Ajia no Doko to Tenbo,
Nihon Boeki Shinkokai, Tokyo, 1998, p. 36.
25 ‘A Regional Test for Japan’, Japan Times, 19 January 1999, p. 16.
26 Bullard, N., Walden Bello and Kamal Malhotra, ‘Taming the Tigers: The IMF
and the Asian Crisis’, in Jomo, K. S. (ed.), Tigers in Trouble: Financial Governance,
Liberalisation and Crises in East Asia, Zed Books, London and New York, 1998, p.
103.
27 Helleiner, G. K., ‘The East Asian and Other Financial Crises: Causes, Responses
and Prevention’, in Jomo, K. S. (ed.), Tigers in Trouble: Financial Governance,
Liberalisation and Crises in East Asia, Zed Books, London and New York, 1998, p.
235.
28 Sakakibara, E., ‘Watashi ga Tatakatta Beikoku Shijo Saikyo Conbi’, Bungei
Shunju, September 1999, p. 134.
29 See Khanna, V., ‘Think Twice About an AMF’, BT Online (Singapore), 22
February 1999. (http://business-times.asia1.com.sg/1/focus/focus14.html)
30 Blaker, M., ‘Evaluating Japanese Diplomatic Performance’, in Curtis, G. L.
(ed.), Japan’s Foreign Policy After the Cold War: Coping with Change, M. E. Sharpe,
Armonk, NY, 1993.
31 ‘A Regional test for Japan’, Japan Times, 19 January 1999, p. 16.
32 ‘The Real Message in Miyazawa’s Plan’, Asiamoney, vol. 10, no. 1, February
1999, p. 14.
33 The Asian crisis of 1997 was followed by similar crises in Russia and Brazil in
1998.
34 Khanna, V., ‘Think Twice About an AMF’, BT Online, 22 February 1999.
35 See ‘Mahathir Raspberries West, Media’, The Australian, 19 October 1999,
p. 27.
 Notes 167

36 Richardson, M., ‘Japan Backs Standby Fund for Southeast Asia’, International
Herald Tribune, 27 November 1999.
37 Richardson, M., ‘Asian Monetary Fund Stirs Again Despite US Veto’, The
Australian, 30 November 1999, p. 25.
38 See http://www.nttls.co.jp/fpc/e/shiryo/jb/0018.html.
39 ‘Next Currency Swap Targets Revealed’, Japan Times Online, 12 May 2000.
40 See Financial Times (London), 3 May 1999.
41 Wijnholds, Onno De Beaufort, ‘Maintaining an Indispensable Role’, Financial
Times, 1 March 1999, p. 16.

7 Conclusion
1 Sasaki, T., ‘Assessing the Obuchi Administration’, Japan Echo, vol. 27, no. 4,
August 2000. Italics in original.
2 Economic Survey of Japan 1997–1998: Preparing for Creative Development,
Economic Planning Agency, Government of Japan, Tokyo, 1999, p. 21. Italics
added.
3 Ujimoto, K. Victor, ‘The Aging of Japanese Society: Human Resource
Management in Transition’, in Bowles, P. and Lawrence T. Woods (eds), Japan
After the Economic Miracle: In Search of New Directions, Kluwer Academic,
Dordrecht, 2000, p. 174.
4 Kiuchi, T., ‘Japanese Economy: Facing a Real Test for Restructuring’, speech
delivered at Beijing on 21 March 2001, unpublished.
5 Schoppa, Leonard J., ‘Japan: The Reluctant Reformer’, Foreign Affairs, vol. 80,
no. 5, September 2001.
6 Itoh, M. and Naoki Shimoi, ‘On the Role of Monetary Policy in a Deflationary
Economy: The Case of Japan’, Journal of Japanese Trade and International
Economies, vol. 14, no. 4, December 2000, p. 250.
7 The consumption tax had been increased earlier in the year at the insistence of
the Ministry of Finance in order to reduce public sector debt. Earlier, in 1994,
the Ministry of Finance had tried unsuccessfully to increase the consumption
tax from 3 per cent to 7 per cent.
8 Wu Dunn, S., ‘Japan Gives Consumers Free Money’, International Herald
Tribune, 15 March 1999, p. 13.
9 See New York Times, 12 September 2000.
10 ‘Japan’s Shoppers Herald Recovery’, The Australian, 3 September 1999, p. 23.
11 Masuda, E., ‘Kokyo Jigyo ni yoru Chiho Ikkyoku Shuchu wa Hokai e’, Shukan
Ekonomisto, 22 May 2001, p. 21.
12 Japan Statistical Yearbook 2001, Government of Japan, Tokyo, 2000, table 3–26.
13 Lunn, S., ‘Japan Hits Panic Button Over Jobless’, The Australian, 29 August
2001, p. 21.
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Index
accountability 18
adaptive change 74–5
administrative reform 12–14
see also bureaucracy; regulatory
reforms
Administrative Reform Commission
(ARC) 93–4
Afghanistan 3
ageing population 43, 148
amakudari 65, 96–7
Argentina 123
Asaumi, N. 108
ASEAN Plus Three (APT) 16, 139, 142,
143
ASEAN Regional Forum (ARF) 130
Asia Pacific Economic Cooperation
(APEC) 117, 121, 125–6, 131, 136
Asian bubble 24–8
Asian capitalism 134–5
Asian crisis 8–9, 9–12, 115, 116,
145
catalyst for change in Japan 12–16
foreign policy opportunity 119–25
Japanese aid to crisis countries
119–20, 125–8, 129, 137
and Japanese economy 3–4, 5,
28–30
and Japanese financial sector 5, 14,
40, 41, 45–6
US perception of 125–6, 128, 131,
134–5
Asian Development Bank (ADB) 14,
123, 138, 140
Asian Monetary Fund (AMF) 15–16,
16, 118, 142, 145
American rejection 15, 128, 132–6,
142, 145
initiatives following American
rejection 136–42
Japanese proposal 126, 127–8,
128–32
Asian standby facility 136, 138–9
asset price inflation 20–1
172
Association of South East Asian
Nations (ASEAN) 126–7, 138
atrocities, wartime 14, 115–16, 131,
145–6
austerity measures 29, 133
Australia 6, 9, 121, 136, 142–3
automobile industry 69, 80
aviation industry 88
Aziz, R. 126
bad loans see non-performing loans
bailouts 36–7, 47–8
Bank of Japan 38, 41–2, 58–9
interest rate cuts 17, 24, 27, 47, 58
interest rate increases 20, 21
and managed inflation 30
bank closures (East Asia) 123, 124
bank lending 19–20, 21
non-performing loans see non-
performing loans
overseas 24–8, 41
bank oversight 18, 65, 66
Bank of Tokyo-Mitsubishi 52
banking and financial sector 16,
39–61, 91
Asian crisis and 5, 14, 40, 41, 45–6
bailouts 36–7, 47–8
crisis in 40–6
main bank system 18, 62, 64–5,
66–8
reform and persisting economic
weakness 56–61
reforms 3–4, 5, 13, 46–54, 144, 146
regulatory controls and surveillance
41, 54–6
bankruptcies 41, 69–70
Bello, W. 133
big-bang reforms 55
bilateral swap agreements 139
birth rate 148
Blaker, M. 118, 136–7
blood transfusions 32
boards of directors 65

Brady Plan 123
Bretton Woods agreement 122
Brown, B. 31
bubble economies 11
Asia 24–8
Japan 2, 13, 17–24, 97
bubbles, speculative 11
bureaucracy 7–8
decline in powers 31–3
opposition to deregulation and
reform 94, 96–7
bureaucratic capitalism 89
Bush, G. 113
Bush, G.W. 107–8
business confidence 57
cabinet town meetings 108, 112
capital injections 51–2
capital reserves 27, 39, 51–2
capitalism
Asian 134–5
bureaucratic 89
Japanese 73
captive imports 77
Cargill, T.F. 21, 48, 55–6
Carlile, L. 12–13, 93
Carter, J. 92
chequebook diplomacy 120
Chiang Mai initiative 139
China 116, 119, 129, 130–1
Chrysler Corporation 37, 81
Chuo Trust Bank 50, 53
Citicorp 69
Clinton, W. 46, 125, 128
Communist Party of the Soviet Union
(CPSU) 153–4
competition
banks and global financial
market 52–4
regulation and 91
comprehensive economic measures
(CEM) package 29
conditionality 133, 134
constitution, pacifist 121
construction industry 152–3
consumers 94, 95–6
confidence 82–3
consumption demand 4, 22–3,
147–52
Index 173
consumption tax 24, 36, 43, 150
contingent credit lines (CCLs) 141–2
contraction, economic 46–7
convergence
corporate reforms and 68–74
regulatory 94–5
convoy strategy 66
core business 75
corporate sector 4, 16, 62–86
adaptation to shocks 6–7
corporate reform in Japan 74–83
corporate reforms and
convergence 68–74
debt 149; NPLs see non-performing
loans
foreign takeovers 60–1, 84, 85
main features of the J-firm 63–8
corruption scandals 31–2, 34, 97
Council on Economic and Fiscal Policy
(CEFP) 109, 110
crises 10, 87
cross-ownership of shares 4, 57,
65–6, 67
currency reform 31
currency swap regime 139
Daiei 149
Daiichi Kangyo Bank 53
Daiwa Bank 51
debt
forgiveness and waiver 59–60
government debt 93
NPLs see non-performing loans
overhang 149
public sector debt 2, 13, 23, 147
deficit bonds 152
demand, domestic 4, 22–3, 147–52
Democratic Party of Japan (DPJ)
(Minshuto) 45, 100, 111, 113,
114, 153
electoral support and policy
strategies 102, 103, 104, 105–6
Democratic Socialist Party (DSP) 99,
104
demography 43, 148
Deposit Insurance Agency (DIA) 35
deregulation see regulatory reforms
developmental state 88–9
domestic demand 4, 22–3, 147–52
174 Index
Doner, R. 117, 118
Dore, R. 73
East Asian countries 45–6
see also Asian crisis; and under
individual names
East Asian Economic Caucus (EAEC)
117, 126, 127, 131–2, 142
Economic Planning Agency (EPA)
28–9, 35, 92, 94
economy 1–2, 9, 17–38, 146
Asian crisis and 3–4, 5, 28–30
bubble economy 2, 13, 17–24, 97
contraction 46–7
domestic demand 4, 22–3,
147–52
explaining failure of economic
recovery packages 30–6
growth 1, 72, 151
stagnation 2, 3–5, 9, 21–4, 144
EIE Group 50
elections
1993 34
1998 34, 43–4, 103
2001 3, 108–9, 111
electoral reforms 100
employment system 53, 71, 86
long-term employment 64, 78,
81, 84
ethnic violence 127
exchange rate 6–7, 21–2, 71
Export-Import Bank of Japan 125
export-oriented industrialization
(EOI) 10
exports 6–7, 22, 116
Far Eastern Economic Review 129
Federal Deposit Insurance Corporation
(FDIC) 49
Feldstein, M. 10
fertility rate 43
financial assistance
IMF role 122–3
Japan’s provision 119–20, 125–8,
129, 137
Financial Rehabilitation Law 48
Financial Restructuring Commission
(FRC) 48–9, 50, 52
financial sector see banking and
financial sector
Financial Services Agency 56
Financial Supervisory Agency
47, 51–2, 55–6
Financial System Planning Bureau 56
fiscal stimulus packages 3, 4, 23–4,
29, 37, 151
foreign acquisitions 60–1, 84, 85
foreign direct investment (FDI) 25,
116–17
foreign managers/executives 85
Francis, J. 113
free rider 120
free shopping vouchers 149, 150–1
Fuji Bank 53
G–8 Summit 1997 128
General Agreement on Tariffs and
Trade (GATT) 136
globalization 73–4
Gorbachev, M. 153–4
Gore, A. 126
government debt 93
Great Depression 87
gross domestic product (GDP) 72
growth, economic 1, 72, 151
Gulf War 21, 118, 120–1, 137
Harner, S. 55
Hashimoto Ryutaro 4, 29, 36, 98,
109, 130
financial reforms 42–3
resignation 30, 44
Hata Tsutomu 99
Hayami Masaru 30, 38
Helleiner, G.K. 134
Henderson, C. 25
Hitachi Metals Ltd 79–80
Hokkaido Takushoku Bank 41, 48, 51
Hollerman, L. 21, 32
Holzhausen, A. 64, 86
Honda 89
Hong Kong 25, 26
Horiuchi, A. 54–5
Hoshi Takeo 67
Hosokawa Morihiro 100
housing loan corporations (jusen) 21,
47–8

Ibrahim, A. 129
Ichimura, S. 30
Imai, K. 74
import substitution industrialization
(ISI) 10
imports 150
captive 77
incentive pay system 72–3
income distribution 1
income tax cuts 149–50
individualism 148–9
Indonesia 10, 124, 125, 127
Japanese aid 125, 137
Japanese investment in 25
Industrial Bank of Japan 53
industry see corporate sector
inflation
asset price inflation 20–1
and corporate debt 149
Koizumi reforms 37–8
managed 30
injection of public funds 51–2
innovation 89
interest rates 24, 37–8
cuts 17, 24, 27, 47, 58
increases 20, 21
threatened increase 28
International Monetary Fund (IMF)
15, 128, 137, 138, 145
AMF proposal and 129–30
Asian crisis 122, 133–5
Asian standby facility 136,
138–9
criticisms of 133–4
Latin American debt crisis 122–3
precautionary line of credit 140–2;
International Trade Organization
135
intra-keiretsu contracting 82
intra-regional trade 12, 116–17
investment 18–19
FDI 25, 116–17
Ishibashi Tanzan 10, 106
Itoh, M. 149
J-firm 62, 63–8, 68
Japan Communist Party 45
Japan Leasing Company 50
Japan National Railway ( JNR) 91
Index 175
Japan Socialist Party ( JSP) 99, 104,
105
Jiang Zemin 131
job losses 79–80, 83
Johnson, C. 120
Johnston, D. 7
jusen (housing loan companies) 21,
47–8
Kajiyama Seiryoku 44
Kan Naoto 32, 105–6
Kato Koichi 48, 98, 101–2, 106
Katz, R. 59, 77
Katzenstein, P. 117
Kawamoto, A. 97
Keidanren (Federation of Economic
Organization) 13, 92–3
keiretsu 64–5
Kindleberger, C. 11–12, 20
Kiuchi Takashi 57, 58
Koizumi Junichiro 2–3, 9, 44, 102,
114, 115, 145–7
NPLs 40
and reform agenda 106–13
reforms and pain 37, 152, 153
visit to Yasukuni Shrine 116, 145–6
Korea, South 10, 116
IMF rescue programme 124–5, 134
Japanese aid 125, 137
Japanese investment in 25
Krugman, P. 30, 82, 90, 149
Kumagai Gumi 59, 149
Kuroda Haruo 139
labour costs 78–9
Latin America 10, 36
debt crisis 20, 28, 41, 122–3, 140
Lazonick, W. 66, 67
Lee Kuan Yew 130
letters of intent 123
Levinson, J. 123
Li Peng 130
Liberal Democratic Party (LDP) 33–4,
45, 145, 146, 153–4
and bureaucracy 32–3
elections: 1998 43–4, 103; 2001
3, 109, 111
Koizumi and reform agenda
106–13
176 Index
Liberal Democratic Party (contd)
party politics 97–106 passim
proposed tax cuts 150
Liberal Party 32, 33, 100, 106
lifetime employment 64, 78, 81, 84
Lincoln, E. 7
line of credit 140–2
liquidity trap 30, 149
Long-Term Credit Bank (LTCB) 37, 50
long-term employment 64, 78, 81, 84
Lunn, S. 153
MacAvoy, P.W. 88
Mahathir Mohammad 127, 130,
131, 138
Mahoney, C. 49
main bank system 18, 62, 64–5, 66–8
Malaysia 10, 117, 127, 136, 137
American criticism of 125–6
AMF 138
managed inflation 30
mandate of heaven 86
market share 76
Marshall, D. 26
Matsumoto Shinsaku 84
McAlinn, G.P. 94
Meiji period 98
Mera, K. 20
mergers
banks 53–4
corporate 81, 84
Mexican debt crisis 115, 135, 140
Millard, F. 142
Miller, M. 25
Ministry of Education 131
Ministry of Finance 20–1, 25, 27, 31,
36, 37
criticism of 55–6
inaction in post-bubble recession
32
Ministry of Foreign Affairs 3, 29, 32
Ministry of Health and Welfare 31–2
Mitsubishi 69, 79
Mitsubishi Electric 79, 80
Mitsubishi Research Institute 13
Mitsubishi Tokyo Financial Group
54, 57
Mitsui Trust & Banking Co. 50, 51, 53
Miyajima Hideaki 65, 84
Miyauchi Yoshihiko 92, 93, 95
Miyazawa Initiative 16, 137–8
Miyazawa Kiichi 2, 23, 34, 47, 138
Mizuho Group 54
moral hazard 36
Mori, Prime Minister 4, 98, 101, 107,
115, 145
Morinaga Takuro 53
Murakami Seichiro 139
Murayama Tomiichi 131
Musa, M. 141
mutual shareholding 4, 57, 65–6, 67
Nader, R. 95
Nakamura Shozaburo 121
Nakasone, Prime Minister 150
nationalization of banks 49, 50
Neiss, H. 124
Neuffer, J. 44–5
New Komeito 106
New Liberal Club (NLC) 99
Nikkei share market index 19, 21, 57,
152
Nippon Credit Bank 50
Nissan 69, 80, 81
non-performing loans 5, 20, 35, 39,
59–61
accumulation of new NPLs 56, 59
Obuchi reforms 13, 47–52
overseas lending and 24–5, 27,
40–1
two-year strategy for reducing
60–1, 67–8, 109
NTT 91
Obuchi Keizo 4, 36, 37, 44–5, 107,
115, 144–5
financial reforms 3–4, 5, 13, 46–54,
144, 146
oil crisis 1, 71
Okuda Hiroshi 72–3, 75
Organization of Petroleum Exporting
Countries (OPEC) 1
overseas lending 24–8, 41
Ozawa Ichiro 32, 99, 100, 101–2, 111
pacifist constitution 121
party politics 97–106
see also under individual parties

Peace Keeping Operations (PKO) law
121
Pempel, T.J. 74, 104, 132
pet stag beetles 11
Petri, P. 126
Philippines 137
Plaza Accord 17
Pokarier, C. 82
Policy Research Council 110
political leadership 144–5
economic mismanagement 33–6
political power 7–8
Porter, M.E. 75–6, 89
postal savings system 109
precautionary line of credit 140–2
price deflation 148
price stability 37–8, 58
prime ministers, tenure of 113
procreation award systems 148
production capacity 18–19, 45–6, 81
profitability 76–7
public sector debt 2, 13, 23, 147
public works programmes 17, 23,
151, 152
punctuated equilibrium 6
quality control circles 64
rationalization see corporate reforms
Reagan, R. 92
real estate 27
bank lending 19, 20–1
speculation 11
recapitalization plan 51–2
Reed, J. 69
reform agenda 106–13
regional diplomacy 14–16, 16,
115–43, 145–6
Asian crisis: as foreign policy
opportunity 119–25; Japanese
aid to crisis countries 125–8
Asian Monetary Fund 128–32;
American rejection 132–6;
initiatives following American
rejection 136–42
regulation of financial sector 41,
54–6
Regulatory Reform Committee (RRC)
94
Index 177
regulatory reforms 12–14, 16, 78,
87–114
bureaucratic opposition 96–7
Koizumi and reform agenda
106–13
politics in Japan and US 88–93
reforms in Japan 93–6
structural reforms and Japanese
party politics 97–106
resistance to reform 13–14, 96–7,
109–10
Resolution and Collection Corporation
109
Resolution Trust Corporation (RTC)
( Japan) 50
Resolution Trust Corporation (RTC)
(US) 49
Ripplewood Holdings 50, 60–1
Rix, A. 117
Rogowsky, R. 88
rural–urban divide 102–3
Sakakibara Eisuke 52, 97, 135, 139,
142
Sakura Bank 54
Sanyo Securities 48
Sasaki Takeshi 144
Sat-Cho-Do-Hi clique 98
Sato, K. 75
savings 22, 148
Schoppa, L. 148
Second World War 8, 10
wartime atrocities 14, 115–16, 131,
145–6
seniority-based wages 64, 81–2
shares, cross-holdings of 4, 57, 65–6,
67
Shimada, S. 35
Shimoi, M. 149
Shinsei Bank 50, 57
Shinseito (Renewal Party) 99–100
Shinshinto (New Frontier Party) 100,
102–3
Shinto Sakigake (New Harbinger Party)
99
shopping vouchers, free 149,
150–1
Singapore 25, 26, 127, 136
‘six plus one’ reforms 42
178 Index

Social Democratic Party of Japan (SDPJ) trade 90–1

34, 105 exports 6–7, 22, 116
social welfare system 89 friction with US 17, 22, 150
Sogo department store 67 imports 150; captive 77
Sohyo 105 intra-regional 12, 116–17
Sony Corporation 66, 79, 89 liberalization 6, 77
Soviet Union 153–4 Truman, E. 140
specialization 63 Tsubame 6–7
splinter parties 99–100 tulips 11
stag beetles, pet 11
stagflation 1 unemployment 2, 9, 60, 72, 81, 153
stagnation 2, 3–5, 9, 20, 21–4, 144 labour costs and 78–9
stock market collapse 57–8 ‘unequal treaties’ 8
strategy 75–6 United Financial of Japan 54
structural adjustment United Kingdom (UK) 6, 87, 91–2
IMF structural adjustment United Nations Law of the Sea
programmes 123–5, 133 Conference (UNCLOS III) 137
Japan 5–9 United States (US) 6, 72, 143
subsidiaries 80, 82 APEC 121
subsidies 81 Asian crisis 125–6, 128, 131, 134–5
Suharto government 124 bailout of Chrysler Corporation 37,
Sumitomo Bank 52, 54 81
Sumitomo Corporation 80 corporate reforms 69
Sumitomo–Mitsui Banking endorsement of Koizumi 107–8
Corporation 54 IMF line of credit 140
surveillance 54–6 Mexican debt crisis 115, 135
regulatory reforms 87, 88, 91–2,
Tachi Ryuichiro 120 113
Takao, K. 28–9 rejection of AMF proposal 15, 128,
Takemura Masayoshi 99 132–6, 142, 145
Takenaka Heizo 114 savings and loans crisis 26, 49
Takeo Hiranuma 60 trade friction with Japan 17, 22,
Tanaka Makiko 3, 110–11, 112 150
Tarullo, D. 134 US–Japan relations 110, 132
taxation urban–rural divide 102–3
consumption tax 24, 36, 43, 150 Uruguay Round 136
reforms 149–50
temporary tax cuts 29–30 Van Wolferen, K. 21, 120
technology 73 vested interests 94, 95
Thailand 10, 24, 125 Vogel, S. 103
Japanese aid 125, 137
Japanese investment in 25 wages structure 64, 71, 81–2
Tobacco and Salt Monopoly wartime atrocities 14, 115–16, 131,
Corporation 91 145–6
Tokugawa period 98 Weber, M. 96
torii 132 Wijnholds, O. De B. 141
town meetings 108, 112 Wood, C. 26
Toyama Atsuko 110 workforce reductions 79–80, 83
Toyota Motor Corporation 66, 69, 75 World Bank 123, 128, 129, 133
 Index 179

World Economic Forum 73 Yasukuni Shrine 116, 145–6

World Trade Organization (WTO) 22, yen
73, 95, 135 appreciation in 1995 21–2
shock in 1980s 6–7, 71
Yafeh, Y. 65–6, 86 Yosana Kaoru 31
Yamaichi Securities 29, 41, 46, 48
Yamamura, K. 94–5, 114 Zoku giin 109–10
Yanagisawa Hakuo 48, 56, 69, 98