Japanese industrial targeting the neomercantilist path to economic superpower

The recent book, "The Japan That Can Say No," by senior LDP leader Shintaro Ishihara and So ny president Akio Morita, reflects the thinking of most Japanese on international trade issues

JAPANESE INDUSTRIAL TARGETING

JAPAN'S GROWING POWER OVER EAST ASIA AND THE WORLD ECONOMY

THE FOUNDATION OF JAPANESE POWER: Continuities,

Changes, Challenges

Japanese Industrial Targeting

The Neomercantilist Path

to Economic Superpower

William R Nester

Assistant Professor

Department ofGovernment and Politics,

St lohn' s University, New York

Palgrave Macmillan

Softcover reprint of the hardcover 1 st edition 1991

All rights reserved For information write:

Scho1arly and Reference Division

SI Martin's Press, Inc., 175 Fifth Avenue,

New York, N.Y 10010

First published in the United States of Arnerica in 1991

ISBN 978-1-349-21286-6 ISBN 978-1-349-21284-2 (eBook) DOI 10.1007/978-1-349-21284-2

Library of Congress Cataloguing-in-Publication Data

Nester, William R.,

1956-Japanese industrial targeting : the neornercantilist path to

econornic superpower / William R Nester

HF3826.5.N39 1991

CIP

With the deepest love to my brothers Mark, Brian and Steve

Contents

1 Neoclassical versus Neomercantilist Economics:

Theory and Reality 13

2 Japanese Neomercantilism:

Continuities and Changes 25

3 For Their Money and Votes:

Farmers, Distributors, and Builders 43

4 Heavy Industrial Giants:

Steel, Machine Tools, and Automobiles 79

5 Fueling Industrial Superpower:

Energy, Raw Materials, and Comprehensive Security 119

6 From Technological "Catch-Up" to "Leap-Frog":

Computers, Semiconductors, and Telecommunications 161

7 Banker to the World:

Managing Oceans of Cash, Stocks, and Bonds

Introduction

Leaders of the seven top democratic industrial nations - the United States, Japan, West Germany, France, Britain, Italy, and Canada -have met annually to discuss global problems since President Ford initiated the first get-together in 1976 Of the twelve summits to date, none was more richly symbolic of the immense changes that have occurred since 1945 than the July 1989 meeting Hosted by President Mitterrand in Paris to coincide with his nation 's spectacularcelebration

of the French Revolution's 200th anniversary, the summit straddled a year which recalled Dickens' adage that "it was the best of times, it was the worst of times "

The world economy was in its seventh straight year of growth with North America, Europe, and East Asia leading the way The Euro-pean Community's (EC) twelve members were actively preparing for

1992, when they would abandon all internal barriers thus creating the world's largest common market with 360 million people For the first time, the global environmental disasters behind the worsening green-house effect and depletion of the ozone layer were a top summit agenda item Meanwhile Gorbachev's glasnost and perestroika policies were partially fulfilled through his renouncement of the Brezhnev Doctrine which justified Russian intervention in other communist countries, and his encouragement of quasi-democratic elections in the Soviet Union, Poland, and Hungary; the Soviet empire itself appeared to be slowly crumbling as Russian troops withdrew after ten years of fighting in Afghanistan, and calls for genuine autonomy swept the Baltic states and many of the Muslim states; Moscow and Washington took turns announcing unilateral weapon- and troop-cuts, and seemed on the brink of major nucJear and chemical arms reduction treaties - all of which led many analysts to decJare the Cold War's denouement if not finale These positive developments, however, were somewhat undercut by such trends as Beijing's crushing of China's mass democratic movement, the failure of Gorbachev's reforms to spark the fossilized Soviet economy, the $1.2 trillion Third World debt burden dragging at the heels of an other-wise dynamic world economy, and another year of mass famine and natural disasters in Central Africa, South Asia, and elsewhere The most startling long-term economic development, however, seemed to get lost behind all these other headlines - Japan was

1

rapidly solidifying its manufacturing, financial, and increasingly technological leadership over the world economy while the United States remained mired in its immense trade and budget deficits Although the American president still occupied the summit's center stage while the Japanese prime minister remained as obsequious as ever, the real balance of economic power was revealed by their respective foreign aid announcements Before the summit, President Bush paid a visit to Po land and Hungary during which he promised American aid of $110 million and $30 million, respectively, to help alleviate both their immense debts and their attempts at economic reform The Poles and Hungarians were openly disappointed, and commentators on both si des of the iron curtain were critical of these miserly amounts But given its own economic difficulties the money was all the United States could spare Ouring the same week, Tokyo announced a five-year $35 billion foreign-aid program Japan was clearly fulfilling its röle as the world's financial superpower, a position

it had achieved as recently as 1985

How could Japan afford to give so much, and America so little? As

of March 31, 1989, Japan had the world's eight largest banks, sixteen

of the top twenty-five banks, and twenty-three of the top fifty banks;

in sharp contrast, only four American banks ranked among the world's top fifty banks, with the largest, Citicorps, in tenth place, and the second largest, Chase Manhattan, a distant thirty-sixth 1 Japan's financial power reflected its manufacturing and technological power -that same year, there were 345 Japanese firms among the world's top 1,000 corporations, and those firms accounted for 47% of the total assets; aithough the number of American firms was slightly larger

at 353, they accounted for only 32% of the total assets.2 A 1987 National Academy of Engineering report revealed that Japan was superior to the United States in twenty-five of thirty-four critical high technology sectors, while of twenty-five key semiconductor techno-logies, Japanese producers led in twelve, were equal in eight, and were rapidly clsoing the gap in five.3 Japan's 116,000 robots in 1987 were almost five times greater than America's 25,000 and ten times more numerous than West Germany's 12,400.4 Japan's per capita income of

$21,040 and household savings rate of 15.1% in 1989 far surpassed America's $19,780percapital income and5.4% household savings rate Japan's economic superpower is largely based on its ability to maximize its economic growth and exports and minimize imports Between 1977 and 1986, Japan's GNP grew at an annual rate almost twice that of the United States - 4.4% compared to 2.7% In 1987

Introduction 3 Japan had trade and payments surpluses of $96.3 billion and $87.0 billion while the United States had deficits of $160.2 and $153.9 billion Despite its trading prowess, Japan's dependence on trade is actually the second lowest of the OECD countries In 1987, Japan's trade dependency to GNP ratio of 8.0% was actually only slightly higher than America's 7.5%, while both countries were dramatically lower than Germany's 23.1%, France's 17.6%, and Britain's 21.0% The possession of a large merchant fleet in an interdependent world is

as important a basis of international power as the possession of a naval fleet was in a world in which the great powers were constantly

at war Japan's merchant fleet of 9,804 ships in 1987 was the world's largest - the Soviet Union had the next largest fleet with 6,741 Thousands more Japanese ships, however, fly under Liberian or Panamanian flags The achilIes heel of Japan's economic superpower

- one which American policymakers have refused to take advantage

of - is its overwhelming dependence on the Uni ted States Over one-third of all Japan's trade (36.5%) is with the United States; Japan's next largest trade partner is the twelve-nation European Community which accounts for only 16.4% In comparison, only 21.1 % of America's trade is with Japan.5

How did Japan develop so rapidly from the mass poverty and destruction of 1945 into the world's most dynamic and powerful economy? How did the United States fall so far behind? Libraries can

be filled with books and articles attempting to answer the first question Many of these works fall into either the "Japan Inc." or

"hard work in a free market" theses, both offering outright false answers The "Japan Inc." thesis claims that Japan is run like a giant corporation, with the national government acting as a headquarters that minutely controls and develops all aspects of the economy.6 In reality, Japan was never a command economy - industrial policies always emerged after tough bargaining and compromise between government and the affected sectors; the big corporations enjoyed varying degrees of autonomy even before the 1970s when the government rarely hesitated to use its tight controls over domestic capital and foreign exchange to yank maverick firms into line Equally fallacious is the "hard work in a free market" thesis which argues that Japan became aglobai economic superpower simply because Japan's economy is the world's most open and Japanese work harder than the rest of humanity.7 Japanese assert that their markets are the world's most open and the only reason why fore-igners do not seil more in Japan is because they do not try hard

enough The recent book, "The Japan That Can Say No," by senior LDP leader Shintaro Ishihara and So ny president Akio Morita, reflects the thinking of most Japanese on international trade issues.8

Across several chapters, Morita unwittingly shows the vast gap between Japanese public relations claims (tatemae) and Japan's neomercantilist reality (honne), when he repeatedly mixes claims that Japan's markets are the world's most open with example after example in whieh the government carefully manages Japan's markets

in order to develop the economy 9

In reality, Japan's markets are thoroughly managed through both government- and private-led cartels, while Japanese may work longer hours but their productivity is actually among the worst of the OECD nations 10 Japanese still work far more than their OECD counter-parts, an average 2,129 hours a year in 1988 or about 250 more ho urs than Amerieans and 500 hours more than Britains Despite these differences in work hours, America's productivity rate remains about 50% higher than that of Japan 11 AIthough recently few observers support the "Japan Inc." thesis, the "hard work in a free market" image is becoming increasingly popular as it is systematieally pro-moted by Japanese government, industry, academic, media, and hired foreign lobbyists and neoclassieal economists.12

Essentially, the relative economie success of Japan and the United States is a simple reflection of their different economic orientations Japan's policymakers have discovered a superior way to achieve economic development and create and distribute wealth Japan's success rests on rejection of both communist-style state ownership of the economy and the neoclassieal belief that free markets and minimal state interference are the answer In complete contrast to the United States, neomercantilist rather than neoclassieal ideals and practices shape and fuel Japan's economy Strategie industries are targeted for development and declining industries for protection, and those industries are nurtured through adynamie mixture of corporate collusion and competition Industrial polieies are implemented with a range of subsidies, import barriers, technology infusions, and export promotions These polieies assumed a similar pattern: "Japan im-ports a technology from the West It then protects the industry from foreign competition to whatever extent and by whatever means may be required while it gains scale, experience, cost parity, and momentum in Japan itself - the world's second largest and fastest growing market, exporting aggressively, further enhancing its cost position Gradually it converts apart of its cost advantage into

lntroduction 5 improved product quality At some point the Japanese producer is able to offer a better product, profitability , and lower price." 13

Japan's policymakers constantly added new, higher value-added strategie industries to its older targets Thus the ranks of heavy industries like steel, shipbuilding, automobiles, textiles, and petro-chemicals targeted in the 1950s, were swelled in the 1960s by computers and consumer electronics, in the 1970s by semiconductors, aerospace, and robots, and in the 1980s by biotechnology, fifth-generation computers, and superconductors Behind these industrial polieies designed to create global champions was another set of industrial polieies that propped up inefficient, high employment sectors like farming, distribution, and construction These sectors were targeted with immense protection and subsidies because they represented huge voting blocks of support for the conservative ruling party, the Liberal Democratic Party (LDP) By pursuing two sets of rational industrial policies, one that targeted potential global cham-pions and the other large voting blocks, the LDP achieved a virtuous circle of political power; economic growth and the widespread dis-tribution of that growth resulted in continual LDP political triumphs during elections which in turn allowed the LDP to continue its successful industrial policies, and so on

Japan's neomercantilist policies have overwhelmingly performed America's largely free market policies Tokyo's industrial policies fuelled an average annual economic growth over three times that of the United States before 1973, and over twice the growth rate since; they have allowed Japanese firms to first catch up with and then leapfrog their American rivals in one industry after another until finally Japan itself pushed the United States aside and took over the throne as the manufacturing, financial, and, increasingly, technologi-cal leader of the world economy

out-Japan's political economy runs on a dynamic mix of competition and cooperation There is tremendous conflict among interest groups within Japan's democratic political system and competition among firms within Japan's economy But extensive behind-the-scenes polit-ical and economic collusion is as important to Japan's economic dynamism as competition Collusion is aided by the concentration of political and economic power in an interdependent elite composed of the LDP, Big Business, and the economic ministries Both the political and economic systems have pyramid structures, with those above monopolizing most benefits while allowing a trickle to those below to ensure their continued cooperation

Conservative parties have ruled Japan for all but nine months since

1945 The conservative Liberal Democratic Party rules by maste ring

a virtuous circIe of power in which popular policies, gerrymandered districts, cash mountains supplied by big business, and vast informal networks of key voting blocks continually allow the LDP to outspend and outmobilize the opposition parties during elections; continual re-elections allow the LDP to concentrate on maintaining the neomercantilist economic policies that have brought such vast wealth

to Japan, and the special benefits to key voting blocks Iike farmers, distributors, and construction workers The LDP is hardly a mono-lithic block - it is splintered among a half-dozen factions that compete fiercely to put their candidates in the cabinet, while con-tinuing to cooperate to maintain LDP power The LDP sits atop a political pyramid with mainstream opposition parties - the Japan Socialist Party (JSP), Democratic Socialist Party (DSP), and Clean Government Party (CGP) - just below receiving secret political hand-outs, and the Japan Communist Party (JCP) languishing in the political wilderness on the bottom level However fiercely they may publicIy criticize the ruling conservative LDP, the mainstream oppo-sition parties vote with the LDP on 90% of alllegislation and have a voice on most policies

Japan's economy also has a dual structure - it is presided over by a

half-dozen huge industrial groups (keiretsu) wh ich are each centered

around a commercial bank, trading firm, and insurance firm, which in turn are the predominant financial backers for several dozen manu-facturing firms which incIude steel, mining, automobiles, shipbuild-ing, electronics, and machinery components, and each of those firms

in turn sits on top of hundreds of related subcontractors and tors Cooperation both within and between keiretsu is reinforced by the cross-ownership of stock - about one-quarter of a keiretsu firm's stock is owned by other members while about 5% is owned by the seemingly rival Keiretsu The natural cooperation that would follow from the extensive stock cross-ownership is reinforced by hundreds of cartels - in 1986, 466 cartels were legally sanctioned by the government and hundreds of other cartels allowed by an official wink 14 The cartel members compete fairly freely among themselves

distribu-in times of economic expansion and then carefully collude on market, price, production, and export levels during downturns, while they almost always gang up against any foreign firms attempting entry The more competitive the foreign product, the more tight the collusion among the Japanese cartel members to ensure the foreign

lntroduction 7 firm receives no more than a token sliver of the market For example, Japan's cartels determine the prices of Japanese capital goods pur-chased by foreigners One American manager revealed that: "If I ask for competitive bids from Japan, the Japanese producers would get together and decide on the price and on how to split the business among themselves At times when I bought a cheaper bid from another country the Japanese would lower their bid to remain competitive In fact, they sometimes submit a bid 1% below the German price, having somehow acquired information about the German bid." 15 The Fair Trade Commission (FTC), which is supposed to administer Japan's anti-trust laws, is a paper tiger (tatemae) For example, of 118 cases identified as violating anti-trust laws in 1987, the FTC only prosecuted six Meanwhile it officially allowed 276 additional cartels in 1987 and in 1988 allowed a stagger-ing 4,500 new cartels to emerge to make sure that retailers did not engage in a price war over the new 3% value added tax 16

Continued LDP rule and the vast cartel system have allowed Japan's ruling elite to continue following neomercantilist industrial policies that maximize the creation and distribution of wealth But the ultimate success of Japan's industrial policies depends on Tokyo's ability to continue maintaining the access of Japanese firms to a continually expanding, largely open, world economy while simul-taneously restricting the access of competitive foreign products to Japan's vast market of 120 million consumers By monopolizing Japan's market and enjoying virtually unlimited access to world markets, Japanese firms can enjoy greater economies-of-scale pro-duction and lower prices than their foreign rivals, and thus a vital competitive advantage To these ends, Tokyo's foreign policy has been based on the principle of trading with everyone, avoiding taking sides in regional or global conflicts, and staving off foreign demands for open markets with symbolic gest ures that may make Japan's trade barriers less obvious but no less effective in discriminating against competitive foreign goods

Import barriers and export incentives are the major reason for Japan's vast trade and payments surpluses One major indicator is the relative prices Japanese must pay for goods compared to their counterparts in other leading industrial countries Consumer goods are two to three times as expensive in Japan while food prices range from three to six times as much These prices are related to the web

of restrictions imposed on competitive manufactured goods as a share

of total imports In 1980 Japan's ratio was only 22.8% compared to

America's 56.8%, Germany's 58.3%, Britain's 67.2%, and France's 57.7% ratios Although Japan's percentage doubled to 44.1% in

1987, it was still far behind America's 79.6%, Germany's 73.0%, Britain's 76.8%, and France's 73.9% ratios An extensive study by Robert Lawrence of the Brookings Institute found that Japan's manufactured imports are 40% lower than they would have been if its markets had been as open as other OECD countries, and attributes this discrepancy to trade barriers and buyers preferences.17 In a survey of sixty-two firms in April-May 1988, of which twenty were Japanese, twenty-two American, and twenty European, Mordechai Kreinin found that the American and European firms bought their capital equipment from the lowest cost source on the basis of competitive bids regardless of its national origin while fifteen of the Japanese corporations did not use competitive bids at all and instead bought either all or 80% of their capital equipment from related Japanese firms even if their's were a more expensive substitute 18

Yet another indicator of Japanese trade barriers was the difference between Japan's foreign investments and foreign investments in Japan Japan's accumulated foreign investments were valued at

$139.3 billion in 1987 while the total value of foreign investments in Japan was a mere $8.4 billion Although, officially, Japan has no investment barriers, in reality it is virtually impossible for a foreign firm to make a hostile takeover of a Japanese firm 19 Tokyo ensures that foreigners will have a limited ability to buy Japanese firms by requiring any takeover bid to be carried out through a domestic securities firm which must give the ministry ten days notice of its intentions - more than enough time for a rescue operation to be organized by the government and an appropriate Japanese "white knight" found If the foreign firm somehow clears that formidable obstacle it has only 20-30 days after notification to wrap up the acquisition Japanese firms are not subject to these rules All firms are required to disclose any shareholding of 5% or more.20 Foreign owned firms accounted for 10% of all sales in the Uni ted States but only 1 % in Japan.21

Another sign of Japan's closed markets is the difficulty with which one firm can buy another Japan's firms are highly leveraged - a 1988 survey of 642 publicly traded firms found an average debt-equity ratio of 86.13% compared to about 20% for American firms - and would make prime and easy targets for acquisition if a free market existed.22 In 1988, while there were 3,310 mergers and acquisitions in

Introduction 9 the United States, there were only 223 in Japan There are signs, however, that the market for corporations may slowly be creaking open The 1988 figure was fourteen tim es higher in value than the 163 deals in 1985 A major reason for Japan's limited investment market

is that about 70% of all outstanding stocks are held by institution al investors, and with the vast web of crossharing within the industrial groups (keiretsu) it is estimated that at least 60% of each member's stock is in friendly hands making it impervious to a hostile take-over 23 The c1assic example of this lack of reciprocity has been T Boone Pickens failure to receive any seats on the board of Koito Corporation, a Toyota subsidiary, despite his being the largest stockowner with 20% of its outstanding shares In contrast, Toyota, with only 19% of shares enjoys three board seats and appoints key management Nissan and Matsushita are other key investors

In stark contrast, Japanese are free to buy almost any American companies Between January to September 1989, Japanese firms bought $10.2 billion worth of American firms The biggest of these deals was Sony's purchase of Columbia pictures for $644 million, but most were sm all- and medium-sized high technology firms that sold out to Japan's vast capital reserves In 1989 Japan enjoyed accumula-tive investments of $53 billion in the United States.24 This Japanese buyout of America's most dynamic firms will continue A 1989 Nihon Keizai Shibum survey of one hundred leading Japanese corporation presidents revealed that 82% planned to acquire foreign firms to globalize their economic power 25

But rational industrial policies alone do not fully account for Japan's economic success An accurate explanation of Japan's steady

40 year rise from a poverty-stricken war-devastated country in 1945

to the world's wealthiest, most dynamic economy in the 1980s must carefully analyze a fortuitous combination of both extern al and internal factors Japan would have remained a poor, underdeveloped country had it not been for the American Occupation (1945-52) that pulled the country back from the brink of mass starvation with a $2.2 billion aid program, and then completely revamped the economy with massive land, labor, industrial, and political reforms Even then Japan's economy would have made little headway without being jump-started by the massive procurements of the Korean War, and then grew rapidly only by being allowed largely unhindered access to America's huge market and an expanding world economy

Low military spending has been another stimulus to Japan's rapid

growth Article 9 of Japan's American written Constitution has been interpreted to outlaw any offensive Japanese military force, while Tokyo's 1952 defense treaty with Washington guaranteed that the United States would come to Japan's aid if threatened with invasion Thus Japan, unlike most countries, was able to concentrate scarce financial, technological, manufacturing, and manpower resources on economic development rather than wasting them on an large, in-efficient military sector 26 As late as 1987 Japan's defense spending was only 1% of GNP compared to America's 6.7%, Britain's 4.9%, and Germany's 3.1% Japan's low defense budgets allowed it to concentrate on applied, consumer oriented research and develop-ment In terms of overall research and development expenses, Japan and the United States are relatively equal - in 1987, Japan spent 3.18% of its GNP on research and development compared to 3.06% for the United States But the quality ofthe R&D differs dramatically About half (48.2%) of America's R&D was government funded with about 75% of that geared to military demands while only about one-fifth (19.6%) of Japanese R&D was government funded with only 2% going to the militaryY

This book provides an in-depth study of Japan's neomercantilist industrial policies The first chapter reviews the industrial policy debate between neoclassicalists and neomercantilist, while the second chapter examines the changes and continuities in Japan's economic policymaking system The five following chapters analyze specific strategic sectors Chapter 3 concentrates on industrial policies for the farming, distribution, and construction sectors, designed to distribute wealth earned from the more dynamic sectors and thus win large voting blocks for the LDP The next four chapters analyze industrial policies for the heavy industry, energy, high technology, and finance sectors, respectively

This book will address two interrelated sub-themes essential to understanding Japanese industrial policies in particular, and Japan in general Perhaps the most important theme that pervades all aspects

of Japan is the difference between what seems (tatemae) and what is (honne) Tokyo's ten "significant market-opening steps" during the 1980s nicely illustrated the discrepancy between these two concepts, and how they are used in economic and foreign policy Each of these liberalization steps theoretically (tatemae) gave Japan "the world's freest economy." In reality (honne), as will be seen, Tokyo simply erected more subtle trade barriers to replace the overt ones it eliminated; Japan's markets remain protected by a complex web of

Introduction 11

non-tariff barriers A related sub-theme is the dynamic blend of continuity and change in Japanese policymaking, policies, and the economy While immense changes seem to have swept all three areas, the underlying institutional and cultural foundations have remained essentially unchanged

1 N eoclassical versus

Neomercantilist

Economics:

Theory and Reality

Government is not the solution, it's the problem We need to unleash the "magic of the marketplace"

(Ronald Reagan, 1980 and 1984 campaign speeches) Capital is wayward and timid in lending itself to new undertakings, and the State ought to excite the confidence of capitalists, who are ever cautious and sagacious, by aiding them overcome the obstacles that lie in the way of all experiments

(Alexander Hamilton, Report on Manufacturers, 1791)

Until the twentieth century, the concepts of political liberty and equality - majority rule, minority rights - was expressed by only a handful of political philosophers and practiced by even fewer societies The words of thinkers like Locke, Montesquieu, Jefferson, and Mill, and the republics of ancient Athens and Rome, and eighteenth- and nineteenth-century Holland, Britain, and America are small islands in the vast ocean of history; virtually all other civilizations preached and practiced various forms of authoritarian-ism in which a small hereditary class ruled, usually unhindered, over everyone else In some civilizations, there were some restrictions on power - in China rebellion was justified against unvirtuous rulers who had lost "the mandate of heaven" - and absolute elsewhere -the divine rights of some eighteenth-century European kingdoms Not much has changed now-a-days; although the United Nations Charter and virtually all governments pay at least lip service to democratic notions, in 1988 less than one-quarter of the world's 167 nation-states were considered political democracies 1

The concept and practice of economic freedom has been even more limited Although philosophically, the notion of economic freedom is related to that of political freedom, the connection was not clearly explored until the 1776 publication of Adam Smith's Wealth of Nations Smith, however, valued economic over political freedom

13

14 Japanese Industrial Targeting

- consumer and entrepreneurial rights in a free market were essential

to public welfare and prosperity, but economic liberty could be fulfilled by either a republic or an enlightened monarchy as long as that government minimized its interference in the economy In a free economy, "the sovereign has only three duties first, the duty of protecting the society from the violence and invasion of other in-dependent societies; secondly, the duty of protecting, as far as possible, every member of the society from the injustice or oppres-sion of every other member, or the duty of establishing an exact administration of justice; and thirdly, the duty of erecting and maintaining certain public works and certain public institutions, which it can never be for the interest of any individual, or sm all number of individuals" 2

According to Smith and his followers, economic liberty provides both positive and negative incentives for economic development As rational animals, human beings naturally want to become as wealthy

as possible By allowing everyone to specialize in wh at they do, or think they can do, best, free markets give everyone the opportunity

to make and enjoy the benefits of money, thus maximizing the welfare of each individual and all of society Fierce free market competition forces producers to minimize waste and maximize innov-ation in order to keep prices low and thus seil more But economic liberty also means the opportunity to fail - and starve; if individuals fail to work, they fail to eat Unlike a feudal society in which each class supports the others, a free market society is mobile, and security depends on the individual's ability to produce what others want in an impersonal marketplace

Just as each individual has his own particular skills in which he should specialize, states also have their own "comparative advantage" for which they should concentrate production Since free trade within astate maximizes that society's welfare, it follows that free trade between states will enhance the welfare of those states even more by enlarging market size and thus potential economies-of-scale Inter-national free trade is thus "a system in which all countries gain if each specializes in its areas of comparative advantage and exchanges products with other countries in the free market system A much larger (world) market permits increased specialization, increased productivity, and higher incomes (just as) free trade among the fifty states allows productivity not possible in a single state" 3

Although most governments feel compelled to say they are cated to political liberty, only a minority claim their economies

dedi-operate on free-market principles, and in reality only a few states remotely resemble Smith's ideal economy Over one-third of human-ity is ruled by socialist governments which command alm ost all production and consumption, while the governments of most other states carefully regulate markets and favor some sectors, industries,

or firms over others Throughout the late twentieth century, there has been a slow convergence from the two extremes of pure market- and command-economies The governments of traditionally free market oriented countries like Britain and the United States, whose govern-ments led the campaign to develop agIobaI free trade system in the nineteenth and twentieth centuries respectiveIy, are taking more responsiblity for promoting prosperity and welfare, while some socialist countries like China, Hungary, and Yugoslavia are intro-ducing market incentives to stimulate growth

Why do so few count ries either preach or practice economic liberty? Most governments have recognized that many of the assump-tions on which neocIassical economics are based are unfounded These false assumptions abound, incIuding such conditions rarely if ever duplicated in the real world as "full employment, balanced current accounts, the existence of productive factors that are homo-geneous and mobile between sectors and which can thus costly be reallocated from one sec tor to another, (and) the comparability of knowledge and technology from one country to another" 4

The central weakness of neoclassical economics, however, is the static notion of comparative advantage in which every country has a unique set of resources that destines it to efficiently produce only a certain range of goods while requiring it to import everything else The trouble with this notion is that in a "world of static comparative advantage free-trade favors the rich and the strong - those with natural resources and high levels of productivity in major growth industries They can undersell newcomers in less-fortunate or Iess-developed countries and maintain their favored position The issue is not so much 'exploitation' of the weak as a 'natural state of affairs' governed by an efficient impersonal marketplace It is not surprising that the leading advocates of free-trade have been those who were strong at the time, first the Uni ted Kingdom, then the United States Free trade, like free competition, has political as welI as economic content: taken literally it is a system that enhances the power of the powerful and makes it all the more difficult for the poor to catch up" 5

Yet another neocIassical weakness is the assumption that all industries are of equal value to a nation's economy - that skateboards

16 Japanese Industrial Targeting

are as important as supercomputers if their market value is the same David Ricardo, for example, argued in 1817 that Britain and Portugal should concentrate on producing cloth and wine, respectively, since that is wh at each produces best The trouble is that if "the Portuguese follow the Western theory of comparative advantage, they are sacrificing long-term growth for short-term gains and implicitly accepting a lower standard of living than the British the implications for an economic strategy are likely to lead to second-rate performance at best To stick with these natural advantages is to accept a lower rate of growth and technology development simply because it is a 'natural state of affairs', for which, unfortunately, there is no remedy" 6 In reality, some in dust ries contribute far more

to economic growth than others by acting as the dynamic focus of dozens of related industries For example, strategic industries like steel and semiconductors form the bedrock for vast, heavy and high-technology industrial complexes, respectively

But comparative advantage does not have to be meekly inherited,

it can be vigorously created How? The answer for many countries is the highly visible hand of the state rather than the invisible hand of free markets During the sixteenth and seventeenth centuries, the European states followed the policy of mercantilism whereby they attempted to maximize exports and minimize imports in order to develop their economies The surplus wealth was largely invested in large armies to either defend or aggrandize the state against its rivals States continued to play an important role in developing their respective economies even during the past 150 years when the world economy was supposedly "liberalized" Britain from the mid-nineteenth century and the United States from the early 1940s had mixed success in convincing the other industrial states to abandon protectionism in favor of free-trade In the 1930s, trade wars collapsed the world economy; while international trade has rapidly grown almost every year since 1945, it is increasingly managed by states rather than determined by free-market principles Led largely

by the extremely successful example of Japan, increasing numbers of states are following neomercantilist policies of trying to achieve balance of payments surpluses The key difference in present from past mercantilism is that most states reinvest their wealth in the economy rather than squander it by building up vast military establishments

The argument for neomercantilism was perhaps best summed up

by Friedrich List, a nineteenth-century German political economist

After studying the economy of Great Britain, the world's first industrial state to champion free trade, List advised Germany against free trade, writing: " free competition between two nations which are highly civilized can only be mutually beneficial in case both of them are in a nearly equal position of industrial development, and that any nation which owing to misfortunes is behind others in industry, commerce, navigation must first of all strengthen her own individual powers, in order to fit herself to enter into free competition with more advanced nations' 7 Spanier continues the argument: "the free market may weil be a superior mechanism for allocating goods, when those competing and exchanging goods are

of approximately equal power When one nation is clearly more advanced economically however, free trade benefits it more because

it is able to penetrate the markets of weaker countries The laws of the free market are not neutral Power is the 'invisible hand' determining the distribution of wealth Among nations that are equal

in economic power, economic relations may weil breed ence, as in the EEC and relations between it and the United States But between the economically strong and the economically weak, the inevitable result is the dependence of the latter" 8

interdepend-Thus, adherence to the classical economic trade theory at a time when most other countries of the world are neomercantilist, is an act

of self-destruction Kanemitsu clearly identifies the problem: "The real issue then, is not a pure choice between absolute free trade or protectionism, but rather to wh at extent government interference should be allowed to restrict free-market forces in order to accom-plish the national goals of each country.,,9 Scott and Lodge write that the "Japanese appear to have been the first to recognize that advantages could be created through the mobilization of technology, capital and skilled labor not just to nurture a few infant industries to supply the domestic market but as a way of nurturing the whole industrial sector toward areas of growth and opportunity in the world market government could create policies and institutions that accelerated the attack of new sectors on the one hand and the abandonment of declining or threatened sectors on the other" 10

How can states maximize the creation of wealth and the power that accompanies successful economic development Neomercantilists from France's Colbert and Germany's List to Japan's Ministry of International Trade and Industry (MITI) argue that the state can overcome any natural disadvantages by pursuing industrial develop-

me nt policies Industrial policies can be narrowly defined as anything

18 Japanese lndustrial Targeting

involving "direet or indireet government intervention in the plaee, typically by a range of poliey instruments, in order to aehieve a different alloeation of resourees to speeifieally defined priority indus-tries at any point in time than would oeeur through the normal operation of the market-plaee" 11

market-Other writers define industrial poliey more broadly, deseribing them as any government initiatives "that will improve growth, produetivity, and eompetitiveness", incIuding "inereasing the eeo-nomy's supply potential (that is, inereasing resourees, and labor supply and eapital stock), developing teehnology, fostering industrial development, and improving mobility and struetural adaptation" 12

More sueeinetly, "industrial poliey interventions should be seen as a eomplex set of trade, finaneial, and fiseal polieies, eondueted within a political environment, with outcomes at varianee from market solutions" 13 Like "a eorporate strategy, anational strategy eonsists

of goals, a eoneept of how to aehieve those goals in a eompetitive environment, and a set of policies and institutions to implement the eoneept" 14 Under these broad definitions, any eeonomie poliey is an industrial poliey, either a maeroeeonomie poliey affeeting all indus-tries or microeeonomic policy targeting a specific economic sector , industry, or firm There is eonsiderable overlap between maero-eeonomic and mieroeeonomie polieies, however, with some maero polieies favoring or impeding specifie sectors, industries, and firms, while miero policies affeet the entire eeonomy

If it is true that both maeroeeonomie and mieroeeonomie policies ean be eonsidered types of industrial polieies, then the eentral "issue"

is not one of state intervention in the eeonomy All states intervene in their eeonomies for various reasons, among whieh are proteeting national seeurity (the 'military industrial eomplex'), insuring indus-trial safety, providing eonsumer proteetion, aiding the weak, pro-moting fairness in market transaetions, preventing monopolization and private eontrol in free-enterprise systems, seeuring the publie's interest in natural monopolies, aehieving eeonomies-of-seale, pre-venting excessive eompetition, proteeting and rearing industries, distributing vital resourees, proteeting the environment, guaran-teeing employment, and so forth" 15 Aeeording to many analysts,

"the issue is whether a government's industrial poliey will be ad hoc,

ineoherent, and run by and for insiders or whether it will be consistent, long-term, and run for the sake of future generations" 16

Central questions revolving around any state's industrial policies incIude: How are they justified, eoneeived, and implemented? How

do they eompare with those of other countries? How effeetive are they? The justifications for industrial policy vary from one policy and country to the next, but the most common include the need to support national development, security, employment, welfare, or environmental goals Governments with free-trade ideologies like the United States may even deny that they employ industrial policies under the narrow definition; instead industrial policies are explained away as temporary adjustment measures The bottom-line for indus-trial policy, however, is that if left to itself the market might not produce the same degree of targeted development, or none at all

A government's conception and implementation of industrial policies is usually shaped by and in turn shapes the justification for such policies As will be seen, a country like Japan with its traditional state-dominated economy justifies industrial poliey on the grounds of national development and security, and to those ends has established

a largely centralized, bureaucratic-Ied policy-making regime In contrast, the policy-making regime of the free-trade oriented United States is heavily decentralized and politicized Despite these differ-ences, there are several Japanese industrial policy areas like farming, eonstruction, and distribution that are heavily politieized, while there are Ameriean industrial polieies like defense and aerospaee that are largely bureaueratie-Ied

Johnson and others distinguish Japan's "plan rational" industrial polides from Ameriea's "market rational" polieies 17 The key differ-

enee in national industrial policies is "between those that are growthl

produetivity/opportunity oriented (Japan) and those that are distribution/seeuritylresource oriented (United States) Those that are resouree oriented te nd to see markets and eompetition guided by the invisible hand as the most effeetive way to develop those resourees, with government in the röle of referee and regulator Those that are opportunity oriented see a röle for the visible hand of government as supplementing market forees; not as a substitute, but

as a supplement in shaping ineentives to promote savings and/or

diseourage eonsumption, promote mobility of resourees, and alter risk/reward relationships" 18

Many argue that the effeetiveness of a given industrial poliey is

strongly related to the state's power vis-a-vis other interest groups

like Big Business, opposition parties, eonsumers, labor, or mentalists; the stronger the state the more effeetive the industrial policy Sueeessful development may paradoxieally depend, in part, on the state deliberately leaving so me eeonomie seetors

environ-20 Japanese Industrial Targeting

underdeveloped For example, Zysman has shown that a state's ability to conduct effective industrial policies depends in part on the relative deve\opment of its financial system.19 Okimoto succinctly summarizes this idea: "in countries with mature capital markets, such

as in the United States and United Kingdom, the allocation of capital through the impersonal, decentralized market limits the state's capacity to implement industrial policy By contrast, in countries where banks play a more prominent röle, such as in Japan and France, the state is in a much better position to extend a visible and vigorous hand in the functioning of the industrial economy Owing to their heavy reliance on bank borrowing, Japanese and French corporations tend to be more dependent on and susceptible to, state intervention than their counterparts in capital market systems Highly leveraged companies look to the state to provide not just preferentialloans and R&D subsidies but also a whole range of other supportive policies, including quick and effective countercyclical measures, stable interest rates, and trade assistance" 20

Industrial policies will emerge in any political system - whether by design or default But there is clearly a correlation between a nation's economic orientation and the success of its industrial policies; gener-ally speaking, the more neomercantilist a nation's economic orienta-tion the more successful its industrial policies The vast gap between America's free trade ideology and the political process that shapes its industrial policies has been a major reason for the latter's mixed success Because the concept of free trade is so much apart of the national psyche, American leaders cannot admit that the Uni ted States conducts industrial policies like any other nation As a result, American industrial policies emerge helter-skelter from its political free market rather than through Japanese style long-term planning by experts with the explicit goal of enhancing American wealth and power in the world economy Thus America's few industrial policy successes like agriculture, defense, and aerospace are offset, in Robert Reich's words, by policies whereby Washington "spends five times more on R&D for commercial fisheries than for steel and provides $455 million in tax breaks for the timber industry but none for semiconductors" 21 Scott and Lodge identify the' "internal incon-sistencies or a lack of coherence of public policies as a fundamental source of disappointing performance in the United States" 22

Theoretically, the Uni ted States's economy is a neoclassical market economy where the government sits in the backseat of an economy driven by the impersonal forces of supply and demand; where the

market satisfies the interests of households and entrepreneurs as efficiently and fairly as those of the big corporations; where firms compete on the basis of offering the cheapest priced, best quality goods; where the "playing field" between domestie and foreign goods

is level The American government's role in the economy is restricted

by such axioms as "the government whieh governs least, governs best", and "government is not the solution, its the problem" In reality, of course, although the United States did approach this ideal

to varying degrees throughout its his tory up through the Smoot Hawley trade barriers of 1930, it has increasingly distanced itself from the neoclassieal model as the American economy has become more deeply entangled with the world economy Over the past fifty years, although it vigorously denies it, Washington has targeted strategic industries such as agriculture, defense, and aerospace with a range of subsidies, export incentives, and technology infusions, and protected them from imports - the most important reason why those American industries are world leaders; has increasingly stepped in to protect industries like textiles, steel, automobiles, and semieonductors from lower-priced imports; and bailed out troubled corporations like Lockheed and First Continental Bank by injecting their coffers with billions of dollars while its bail-out of the bankrupt savings and loan system is estimated to eventually cost as much as $285 billion In favoring some economie sectors, industries, and firms over others, the United States clearly has industrial policies, while whenever it discriminates in favor of domestie industries over foreign industries it

is clearly following neomercantilist policies The differences between Ameriean and Japanese industrial policies, however, is stark: while Washington's industrial polieies are largely shaped by a chaotic political free-for-all without regard for America's long-term eco-nomie development or power within the global economy, Japan's industrial polieies are always shaped with avision of becoming

"number one" in the world, not just for that particular strategie industry but for Japan as a whole Johnson argues that "if Japan's industrial policy is led by MIT! for its own economic defense, America's - such that it has one - is led by the Pentagon for the military defense of the West" 23

These departures from the neoclassical ideal, however, are the exception rather than the rule - the United States economy remains largely guided by free-market forces Despite some rough patches for some outsiders, the playing field is level for virtually all domestic and foreign products; the government usually only steps in and protects

22 Japanese Industrial Targeting

domestie firms after foreign firms have "dumped" produets in the Uni ted States and elsewhere at below produetion prices in an attempt

to eompletely win over the market Thousands of interest groups compete fiercely in both economic and political marketplaces; as evidenced by the immense power of the Japan lobby, it is clearly money rather than nationality that buys access to the ears of Washington policymakers.24 Yet even if an interest group lacks enough cash it can affect policy by skilful use of the courts, mass media, Congress, and prevailing mass moods

In contrast to America's highly politicized industrial policy regime, there is a complete accord between Japan's neomercantilist world-view and its political economic system that creates and implements industrial policies designed to enhance Japan's economic develop-ment and world power Scott and Lodge's comparison of the five leading industrial countries revealed that Japan was the only country whose industrial policies were consistently successful Between 1967 and 1981, Japan increased its market share in thirteen of twenty industries targeted for development, remained the same in three, and lost out in four The four losers were all ehemical industries which did fine until their "created" comparative advantage was undereut by the quadrupling of oil prices in 1973 In comparison, the four other key industrial countries - the Uni ted States, France, Germany, and Britain - stagnated or lost ground.25

But neomercantilism also has drawbacks - if all states follow neomereantilist policies in which strategie industries are targeted for development, exports are maximized, and imports minimized, free trade will collapse and strategic industries will wallow in vast pro-duction overcapacity For example, the current global overcapacity in shipbuilding and automobiles is largely the result of Japanese and South Korean neomercantilist policies Neither country would have developed a shipbuilding or automobile industry if their respective govemments had relied on purely market forces However, by following very carefully planned and implemented policies targeting those industries, Japan and South Korea are now world leaders

in shipbuilding and automobiles, and have gathered enormous tional wealth in their economies that would have otherwise gone to the established European and American producers Although it can

addi-be argued that world consumers of ships or automobiles have addi-benefited from the neomercantilist policies of Tokyo and Seoul which have brought down prices and improved quality in those products, the economies of the United States and Northem Europe are worse off

Neither the practice of neodassieal or neomercantilist policies is

a panacea for maximizing a nation's development potential The Uni ted States and Hong Kong are largely free traders while France and Japan are largely neomercantilists, yet Hong Kong and Japan have both grown faster than the Uni ted States and France Generally speaking, however, states that follow neomercantilist polieies grow much faster than those which do not A nation that follows neodassi-cal polieies in a world in which most other states are neomercantilists will soon find its economic growth rate surpassed and its markets taken over by its competitors In the short-run these losses will not hurt as long as the world economy continues to expand; the free-trader's firms will continue to grow, although at a much lower rate than their neomercantilist rivals When world economic growth stagnates, however, trade becomes a zero-sum game in which one firm's loss is another's gain, and firms backed by neomercantilist polieies will always win out over those backed by neodassieal policies But in the long-term, firms without state backing will ultimately lose out even if the world economy continues to expand as the firms with state support expand faster and thus enjoy larger economies-of-scale with which to bring down their product's prices and raise their quality Although neodassical economists continue to ding to the belief that economic success is related to free markets, in reality, as Japan and other nations have shown, the creation of wealth and power is best achieved when astate targets strategie industries for development, carefully manages both market collusion and competition, and prornotes the takeover of world markets by national firms

2 Japanese

N eomercan tilism:

Continuities and Changes

Although most scholars agree that Japan's economy is based on neomercantilist rather than neoclassical principles, there are still some who maintain Japan's markets are free Not surprisedly, virtually all Japanese official and unofficial spokesmen continue to drumbeat that claim Typical were the remarks of Nokutoshi Akao, Japan's then Economic Planning Agency (EPA) head, who told an American audience in August 1989 that the economies of both the United States and Japan "had prospered due to the free enterprise system", and then made the extraordinary claim that rice is the only product protected by Japanese import barriers I AIthough such rhetoric is easily dismissed, similar claims by noted international scholars must be taken much more seriously For example, Hugh Patrick "interprets Japanese economic performance as due primarily

to the actions and efforts of private individuals and enterprises responding to the opportunities provided in quite free markets for commodities and labor While the government has been supportive and indeed has done much to create the environment of growth, its role has often been exaggerated".2 ehen, referring to Japan and the NIEs, declares that "state intervention is largely absent What the state has provided is a suitable environment for the entrepreneurs to perform their functions" 3

Yet, these claims lack convincing arguments Friedman points out

a number of flaws in the "Japan's markets are free" thesis: "(it) tends

to assume that economic activity is basically the same in all countries , Such an outlook downplays or even ignores significant differ-ences, both in government initiatives and in industrial structure, between Japan and other countries Through subsidies, cartels, and planning the state gave Japanese manufacturers an edge by reducing the costs that elsewhere the producers bore directly" 4 The Japanese have rejected any use of "free" markets for their economy Instead, markets are carefully managed to protect insiders from the very "excessive competition" (kato kyoso) on which free markets are

25

based Economic transactions are based on long-term relationships rather than comparative advantage in price or quality For example, American firms control over 80% of the world fiber-optic market but are limited to only 3% of Japan's 5 Why? The comparative advantage

of American fiber optics and other competitive foreign products accounts for little in Japan's markets which are carefully managed by industrial policies involving widespread cartels and 'buy Japan' imperatives

How do these ingrained "buy Japanese" attitudes work? Dore has written extensivelyon the practice by Japanese firms to base eco-nomic transactions on relationships rather than price or quality:

"Japanese automobile companies each buy their steel through the same trading companies and from the same two or three steel companies in proportions that vary little from year to year The price

is set by the biggest seiler and the biggest purchaser in annual deals which the others follow For several years certain kinds of Brazilian and Korean steel have been available more cheaply than domestic products, but it was a long time before they made any significant penetration of the market because the trading companies which handled the steel companies' sales hesitated to jeopardize their established customer relations by dealing with them.,,6 Yet, Dore sees amoral rather than Machievellian reason for Japan's rejection of free markets: "They don't believe in the invisible hand They believe that you cannot get adecent moral society, not even an efficient society, simply out of the mechanisms of the market powered by the motivation al fuel of self-interest" 7

Yet these ingrained "buy Japanese" attitudes may be more a product of conscious official manipulation than a natural outgrowth

of a traditionally insular culture Over the decades government and business have been so successful in using the schools and mass media

to socialize Japanese producers and consumers into believing that it is their patriotic duty to "buy Japanese", that more recent efforts by Prime Minister Nakasone to promote imports have fallen flat Akio Morita, the president of Sony, exemplifies this fear that trade reciprocity will dissolve Japanese culture, asserting that "I am afraid that we will lose our own identity as J apanese in the world" 8 If

someone with as much international experience as Morita really does believe this, and is not simply cynically carrying on that belief's propogation, then there may not be much hope for opening the eyes

of most Japanese Perhaps the most revealing of how ingrained remains the belief that Japanese trade protectionism somehow

Japanese Neomercantilism 27

simultaneously protects Japanese culture attitudes, was the August

1989 televised statements of the Emperor and Empress who urged Japanese to buy more foreign goods, assuring them that "it needn't compromise the ethnic purity of the Japanese" 9

One of the problems in analyzing Japan's political economy is the dearth of concepts that can accurately describe its managed-market system As Henderson points out, social scientists only promote misunderstanding when they attempt to use traditional neoclassical terms to describe Japan: "Terms such as 'competition', 'private industry', or 'free enterprise', commonly used in discussions of Japanese business, conjure up in the minds of readers in English quite different images from existing realities of Japanese business 'Collusive rivalry' , 'semi-private industry' , 'quasi-public enter-prise', respectively, might be more apt expressions, precisely be-cause their Western referents are unclear." 10

Virtually all analysts also agree that Japan's political economy is domina ted by a interdependent "ruling triad" composed of the bureaucracy, Liberal Democratic Party (LDP), and big business Stockwin nicely describes relations within the ruling triad: "the LDP depended upon the bureaucracy for technical expertise and legisla-tive initiative; the bureaucracy depended upon the LDP for parIia-mentary majorities in favor of government legislation, and for jobs

on retirement; the LDP depended upon big business for electoral funding; big business depended upon the LDP for political backing, advantageous policies, and political stability; big business depended upon bureaucracy for favors in the drawing up and implementing of legislation (and more broadly in the exercise of bureaucratic dis-cretion); the bureaucracy depended upon big business for jobs on retirement".11

Here again, the problem is how to adequately describe such a system Japanese political scientists have struggled hard to do so, often coming up with tongue-twisting concepts as labels Some like Takashi Inoguchi and Tomoaki Iwai argue that Japan is a

"bureaucracy-Ied mass inclusionary pluralism" (kanryoshudo taishu hokatsu-gata tagenshugi) in which the bureaucrats may have experi-enced a relative decline in power during the 1970s but today are as influential as ever 12 Two other prominent Japanese political scien-tists, Seizaburo Sato and Matsuzaki Tetsuhisa, describe Japan as a

"mixed, party-bureaucracy-Ied, compartmentalized pluralism" (jimin-kancho kongotai hoko-zukerareta, shikirareta tagenshugi).13 Allinson translates this as a system in which "neither the LDP nor the

bureaucracy is categorically predominant Party and bureaucracy support and enhance each other's powers policy issues are shaped by the jurisdictional arenas of government ministries, where party members are brought together in iron triangles to promote their aims The interests of a diverse, organized mass society are given expression in these sub-governmental exchanges" 14 Okimoto offers broader labels for Japan, as "a 'societal', 'relational' , or 'network state', one whose strength is derived from the convergence of public and private interests and the extensive network of ties binding the two sectors together" 15

Despite being led by an elite "economic general staff' that carefully manages virtually all economic sectors, Japan is often described as having a "minimalist" state in terms of the government budget's percentage of GNP - the success of the Japanese govern-ment's management of the economy has been based on the quality of its efforts rather than the quantity Of the twenty-three OECD coun-tries, no government accounts for a smaller proportion of GNP than does that of Japan; only Spain and Turkey had lower ratios of tax revenue to GNP than Japan, whose tax rate of 27% is lower than America's 29% .16 In 1987, government spending accounted for only 15.7% and its deficit-to-outlay ratio 19.4% of Japan's GNP Com-parable figures for the United States were 23.1 % and 16.3%, Britain 29.1 % and 1 % and Germany 13.3% and 10.4% Japan's accumulated government debt to GNP ratio of 57.4% was actually higher than America's 54.2%, Britain's 48.6%, or Germany's 21.8%, but Japan was able to pay for the debt with its ocean of financial assets.17

Although the government owns over one hundred corporations, these firms cooperate rather than compete with their private counter-parts

Okimoto sees "the secret to Japan's apparent success in the overall system within which industrial policy functions" 18 Yet, Japan's political economic system is largely one "that no individual or

agency ever planned and one that has developed over time as ad hoc

responses to, or unintended consequences of, Japan's late ment and the pro-growth policies of the government" 19 This largely unplanned evolution, however, does not make Japan's political economy any less efficient relative to those of the other industrial nations The basis of every sector of Japan's political economy is the extensive cooperation between government and business, and within business This cooperation is based on a shared obsession with making Japan "number one" and reinforced with a web of formal ties

develop-Japanese Neomercantilism 29 that include membership in LDP policy "tribes" (zoku) and party sections (bukai), "wise men" policy councils (shingikai) and research groups (chosakai), and Diet committees, the retirement of elite officials into the private and public corporations that they were formerly "regulating," as weil as into the LDP (amakudari), the thousands of industrial associations, the hundreds of legal and extra-legal cartels, vast industrial groups (keiretsu), and business groups like the Federation of Economic Organizations (FEO, Keidanren).20 Informal ties such as being alumni from same elite universities (gakubatsu), particularly Tokyo University, inter-elite marriage (keibatsu), and other "old boy" networks (jinmyaku) can also be important

There is a very creative, dynamic tension in the relationship between government and business Both share the common goal of seeing Japan and their respective industrial sectors prosper, yet the various ministries continually try to enhance their influence over business while business just as vigorously tries to keep government at arm's length This mix of cooperation and competition generally produces much more efficient industrial policies than in countries like France where the relationship is largely cooperatve or in the United States where it is largely adversarial

The extensive cross-sharing of stock has been another effective means of economic cooperation and import protection In Japan, over 70% of stocks are held by institutions and only 30% by individuals In 1987, Japan's big six keiretsu were composed of 193 companies which on average owned 22.65% of the total outstanding shares of other companies within the same group, a drop from 25.47% in 1981 The big six aItogether accounted for about 15% of the total sales and capital of all Japanese corporations 21 In addition, keiretsu own parts of each other, reinforcing the tendency to avoid

"excessive competition" since no one wants to damage their own investments

There is a c1ear three-tier hierarchy to Japan's economy, with "old guard" industrial groups (keiretsu) at the top, followed by newcomer entreprenural firms like Honda or Sony, and with foreign firms on the bottom Market shares and government protection diminish con-siderably from one tier to the next It is all but impossible to move up from the second or third tiers to a higher position Firms like Honda and Sony may be number one in the vast, largely free American market, but are weil behind tier one firms in Japan The Recruit Scandal of 1988-89 shows the extent to which a successful entrepreneur

must shell-out hundreds of millions of dollars to buy his way into the first tier of firms, and even then receive only second dass status Foreign firms fare even worse IBM Japan was first established

in 1948, but remains severely discriminated against by Japan's government and business While IBM is number one in every other global market, it is a distant third in Japan largely because of discriminatory practices and "buy Japan" policies

Okimoto asks why second tier firms like Sanyo, Sharp, and Sony accept this discrimination: "Why do they not voice objections or seek legal injunctions to prevent oligopolistic practices from taking place

as exduded companies in the United States would be apt to do? Are there not legal grounds for charges of collusion in restraint of trade?,,22 Although second dass firms must endure discrimination they enjoy a range of government protection and promotion that their foreign counterparts lack Like first tier firms, second tier corporations enjoy the freedom to form cartels The Fair Trade Commission (FTC) is largely impotent, and when it does act it is usually in favor of collusion, particularly if it impedes foreign firms in Japan The 1948 Anti-monopoly Act, strengthened by its 1977 amendments and a 1980 Tokyo high court decision, seem very strict until one comes to the escape dause that says the FTC cannot act if it

"causes a loss of international competitiveness" Largely unable to prevent collusion, it spends its time rubberstamping the legality of hundreds of cartels each year organized by MITI and the other ministries - 422 in 1986 alone - and winks at hundreds of others Each year it prosecutes 10 or 20 of the most blatant offenders These institution al investments have proven to be a highly effective non-tariff barrier to foreign investors Okimoto writes that the keiretsu "exacerbate international trade frictions by making it dif-ficult for foreign firms to acquire Japanese companies and break into Japanese horne markets The logic of pure market principles, such as lower prices, may not be enough to win foreign firms a foothold in Japanese markets, since marginal price differentials may be more than offset by a preference for dealing with fellow Japanese companies in which one owns equity shares and with which one has had long standing business dealings" 23 For example, T Boone Pickens' 1989 purchase of 20.1 % of the shares of the Koito Manu-facturing Company did not translate into the Board room power it would have had if Japan been a free market economy It is Toyota, which owns 19% of Koito, that calls the shotS.24

There is a similar pyramid relationship between large corporations

Japanese Neomercantilism 31 and the mass of small- and medium-sized companies (chusho kigyo) beneath them Most of these smaller firms are tied to one of the larger firms For example, 85% of small- and medium-sized electron-ies firms are subcontractors for the big electronics corporations There is a classie patron-client relationship between the large and smaller firms with the former supplying the latter with finance, technology, markets, and personnel and the latter supplying the former with loyalty and a willingness to cut back and lay-off workers during economie downturns "Vertieal industrial groups" (kigyo keiretsu) include both subcontractors and distributors These sm aller firms are promoted by MITI's Small and Medium Sized Agency, the Chamber of Commerce, and the 64 regional banks.25

One development that has reinforced the power of Big Business has been the steady realignment of organized labor from a leftist,

strike-prone movement into a conservative, status quo politieal force

The percentage of Japan's labor force in unions has dropped steadily from over 50% in the 1950s to about 27% in 1989 Management had knocked the teeth out of Japan's most militant unions by the early 1960s, while coopting most workers into company unions Steady growth rates and a relatively egalitarian distribution of income reinforced the moderation of union demands The annual Spring strike offensive (shunto) became a brief ritual gesture pre-ceded by months of tough negotiations and settlements that generally pleased both white-collar and blue-collar workers In the 1950s, Japan's annual number of strike-days per thousand workers was comparable to most other industrial countries; by the 1970s it was among the lowest 26 These trends were capped by the emergence of the Japan Federation of Private Sector Labour Unions (Rengo) in the 1980s

The Ministry of International Trade and Industry (MIT!) continues

to conceive and implement most of Japan's industrial policies Although MITI's overt power to arm-twist corporations into follow-ing its polieies has clearly diminished from the 1960s, Yamamura argues that "MITI officials are playing a no less visible and important röle today than in the 1950s and 1960s in promoting the technologieal capabilities of major industries", and later quotes an Industrial Science and Technology Agency report describing MITI's mission to continue to select and nurture the strategie in dust ries of the present and future.27 MITI's responsibilities include:

1 consensus building and the artieulation of "long-term" visions for those industries under its control;

2 the setting of sectoral priorities;

3 the allocation of subsidies and facilitation of financial flows to priority sectors;

4 adjustments of industrial structure;

5 infant industry protection;

6 investment guidance in certain industries and under certain conditions;

7 regulation of excessive competition;

8 downside risk reduction and cost diffusion;

9 export promotion and mediation of trade conflicts.28

To facilitate these activities, MIT! is organized into two types of bureaux The demands of industry specific bureaux are counter-balanced by bureaux like the International Trade Policy, Industrial Policy, and Industrial Science and Technology bureaux which have a much broader perspective The resuIt is the same dynamic mix of cooperation and competition characteristic of the rest of Japan's political economy The most important bureau is the Policy Legisla-tion Deliberation Council wh ich includes deputy directors from the General Affairs divisions of each bureau, and the General Coordina-tion, Budget and Accounts, and Personnel divisions of the Minister's secretariat In addition, MIT! has twenty-seven public corporations under its command while it is largely free from any one industry or interest group

Although it is becoming increasingly coy about its röle in the economy, asserting that Japan's is now completely free and inter-national, in the past MIT! frankly described Japan as a "plan oriented market economy" and acknowledged the importance of industrial policies in leading development 29 A senior MIT! official captures the essence of Japan's industrial policy:

MITI decided to establish in Japan industries which require intensive employment of capital and technology, industries that in consideration of comparative cost of production should be the most inappropriate for Japan, industries such as steel, oil-refining, industrial machinery of all sorts, and electronics From a short-run, static viewpoint, encouragement of such industries would seem to conlict with economic rationalism But, from a long-range viewpoint, these are precisely the industries where income e1asticity of demand is high, technological progress is rapid, and labor productivity rises fast It was clear that without these industries it would be difficuIt to employ a population of 100

Japanese Neomercantilism 33 million and raise their standard of living to that of Europe and Ameriea with light industries alone; whether right or wrong (in a neocIassical eeonomie sense), Japan had to have these heavy and ehemieal industries (the government) has been able to eoneen-trate its seant eapital in strategie industries 30

Miyohei Shinohara, former head of the eeonomies seetion of Japan's Eeonomie Planning Ageney, justifies the rejeetion of a free-market for Japan's development by pointing out that although

by neocIassical standards MITl's industrial policies "were wrong" , they "aehieved unpreeedented sueeess by going against modern eeonomie theory The lesson we have Iearned is that per-funetory theories framed in a surrealistie and hypothetieal world, in the years when Adam Smith and David Rieardo were predominant, are no longer workable Should Japan have entrusted its future

if the J apanese eeonomy had adopted the simple doetrine of free trade '" it would almost permanently have been unable to break away from the Asian pattern of stagnation and poverty, and would have remained the weakest link in the free world, thereby beeoming a problem area in the Far East" 31

Few analysts deny that Tokyo uses industrial polieies There is eontroversy, however, over how extensive and effeetive Japan's industrial policies were in stimulating economie development Although, in prineiple, firms are free to opt out of an industrial poliey, in reality no eorporate maveriek has ever sueeeeded in cutting free of the herd and surviving for long Most analysts agree with White and Wade that Japan and the Newly Industrializing Eeonomies (NIEs) are "guided" or "managed" market eeonomies: market eeonomies in the sense that initiative rests mainly with the enterprise, profits remain the enterprise's main motive, and enter-prises which do not make profits will in most cases go out of business In general, but with many important exceptions, the state tries to get things done by influeneing the market, by shifting the composition of what is profitable, rather than by direct regulation or direct production The supply and demand for the vast majority of things is a by-product of market forces and the controls that impinge on them The means of production are mostly privately owned, and profits are mostly privately appropri-ated In these ways (these countries) are fundamentally different from the economies of most socialist countries

On the other hand, they are also different from most Western economies (they) constrain market rationality by the priorities

of industrialization Industrialization per se has been the main aim,

not considerations of maximizing profitability based on current comparative advantage For this purpose the governments have intervened aggressively in the market to bring about specific alloca-tive effects (including) selection measures to establish the industries that it thinks should exist and guide the changes in industrial composition in li ne with wh at the government anticipates

to be sensible 32

MITI and the other ministries have used a wide range of powers to implement industrial policy Perhaps the most significant industrial-policy tool at government's command was "window guidance" (madoguchi no shido) In the capital scarce days from the late 1940s

to the early 1970s, the government rationed capital to strategic industries while others either went without or paid exorbitant interest rates The Bank of Japan (BOJ), after extensive consultation with MITI and MOF, would lend money to a city bank which would in turn lend it to designated industries within the keiretsu Hayden succinctly describes the process: "The Bank of Japan, by controlling the interbank market and keeping the call money rate above the short-term prime lending rate, has typically channeled funds from the highly liquid regional banks to the 'over-Ient' city banks They, in turn, have been enabled to on-I end to their customers, the country's major industrial enterprises ,,33 The Japan Development Bank (JDB) was also an important industrial policy tool Any firm receiv-ing a JDB loan usually had no trouble receiving additional capital because it was c1ear that the government had targeted that particular industry for development In the 1970s, though, as firms began to accumulate huge financial reserves, bank financing declined from an average of 30.2% of total investment funds in 1973-77 to 17.5% in 1978-82.34 Less dependence on window guidance meant more bargaining power for firms in shaping industrial policy

But MITI and the other ministries enjoyed a range of other industrial promotion devices including tariffs, quotas, preferential commodity taxes on national products, import restrictions based on foreign currency allocations and foreign currency controls, supply of low-interest funds to targeted industries, subsidies, exclusion from import duties of designated critical equipment, licensing of imported foreign technology, providing industrial parks and other infra-

Japanese Neomercantilism 35 strueture.35 MITI's powers to implement poliey were vast Johnson writes that before "the eapital liberalization of the late 1960s and early 1970s, no teehnology entered the eountry without MITI's approval; no joint venture was ever agreed to without MITI's serutiny and frequent alteration of terms; no patent rights were ever bought without MITI's pressuring the seiler to lower the royalties or

to make other ehanges advantageous to Japanese industry as a whole; and no program for the importations of foreign technology was ever approved until MIT! and its various advisory committees had agreed that the time was right and that the industry involved was scheduled for 'nurturing' ".36

Johnson's aceount of MITI's arm-twisting of IBM to seil off its high technology to its Japanese rivals reveals three important, interrelated charaeteristics of Japanese industrial poliey - the intrieate, far-reaching degrees to which MITI and other government agencies manipulate markets and firms, the vast powers at their disposal, and the fieree nationalism which underlies Japan's industrial polieies The computer industry was targeted for development in the late 1950s, but in order for it to get off the ground it needed to license teehnology from the industry leader, IBM To do so, MIT! pressured IBM to agree to a classic horse-trade in which IBM was allowed a strietly limited presenee in Japan's market in return for handing over vital teehnology MIT! Vice Minister Sahashi revealed the power behind

"administrative guidance" when he bluntly stated to the IBM sentatives: "We will take every measure possible to obstruct the success of your business unless you license IBM patents to Japanese firms and charge them no more than a five percent royalty we do not have an inferiority complex toward you; we need only time and money to compete effeetively" 37

repre-These MITI powers were all perfectly legal; most of them were granted by the Foreign Exchange Control Law (1950) According to Henderson, for thirty years from 1950 to 1980 this law "remained unehanged as the key instrument of J apanese protectionism During that time, supplemented by the Foreign Investment Law (FIL), the FE CL guarded Japanese businesses from competitive imports and kept the entry of businesses controlled by foreigners to a minimum; it also screened technology licensed by foreigners to build Japan's whole complex of modern industries the FECL was an essential legal adjunet to these export strategies; it preserved ex-clusively for Japanese their huge domestie market, second in size only to ours The FECL was also influential in credit, interest, and