March 1 2003 by William J. Holstein
For a decade, American newspapers have kept up a steady drumbeat of articles deploring the lack of economic growth in Japan, the decline of the Nikkei stock average to two-decade lows and other signs of economic disarray. Most ominously, the articles warn about a deflationary spiral that could suddenly escalate out of control and tank the world economy. The image that’s painted of Japan is one of a rapidly aging population facing a slow, painful and inexorable decline.
So the traveler could be forgiven for being surprised at what the Japanese economy and society look like today. In just the past five years, Tokyo has overcome earthquake worries and become a city of skyscrapers with many new, towering residential and office complexes. The skyline has been transformed. That has expanded the amount of physical space available and driven down its cost. The subway and train system-far more advanced than those in New York or London-has also expanded and continues to be a marvel of the modern world, with train doors opening at precisely the right time and precisely the right place.
If this is a crisis, where is it? The visitor doesn’t find it on Omote-Sando boulevard in Harajuku, a fashionable shopping district that is every bit as sleek and sophisticated as New York or Paris. On a bright Sunday afternoon, shoppers stroll through the Paul Stewart and Armani shops and display their finest and highly personal styles of clothing and accoutrements. Everywhere you look, it seems, there are pink-haired and blonde-haired teenagers chatting on their third-generation cell phones, even transmitting pictures of each other with a click of a button.
Automotively speaking, the streets of Tokyo boast far more late-model Audis, BMWs, Mercedes-Benz’s and Volvos than ever before and certainly far more than the streets of Beijing or Seoul. And the entertainment areas of Roppongi and Akasaka still bustle with vibrant nightlife.
In the resort area of the Kamakura Peninsula, about 90 minutes south of Tokyo, wealthy Japanese have begun building million-dollar-plus homes in plush subdivisions, a startling display of affluence in a nation that has long shunned ostentatious displays of personal wealth.
These physical impressions are useful in attempting to untangle the statistical debate over the health of Japan’s economy and the opportunities it may represent. On one hand, Japan’s economy is growing at only 0.5 to 1.0 percent a year, yet it is still the world’s second largest economy and may not need rapid growth to sustain a declining population. The stock market is down, but the vast majority of Japanese who dabbled in the late ’80s have sold their stocks and have instead invested in the nation’s banks or postal savings system. Better to get a small but guaranteed rate of return than play roulette, they have concluded. Japanese households are sitting on a net wealth position of at least $11 trillion. They aren’t spending much of that money on consumption-they say the money is “sleeping.”
As a result, consumer spending isn’t increasing as rapidly as it has in the United States, yet Japan’s retail sales still amount to a cool $1 trillion a year. The days of sprinking gold flakes on one’s sushi are gone and so are the waves of newlywed couples descending on Waikiki; yet it’s obvious that Japan remains a hugely wealthy nation.
The contrast between dire headlines and a seemingly prosperous nation led the Financial Times recently to invent a new term to describe the situation: The eminent British newspaper announced Japan was in a “golden recession.”
Whatever the macroeconomic arguments, smart American CEOs realize that they cannot entirely ignore Japan. They’ve either learned to insinuate themselves and their companies into the fabric of the Japanese system, earning big rewards, or else they’re hammering away at the market because they realize that the technological innovations occurring in Japan simply can’t be ignored.
Less growth needed
Tetsufumi Yamakawa is one of Japan’s brightest economic minds. With an undergraduate degree from Japan’s elite Hitotsubashi University and a Ph.D. in economics from Brown University, Yamakawa worked for the Bank of Japan for 15 years before joining Goldman, Sachs. His Goldman office is high in the ARK Mori Building, one of the vast new office complexes that have sprung up throughout central Tokyo. Sitting in a walnut-paneled conference room, he expresses frustration that an American rating agency has downgraded Japan’s government debt to the same level as Botswana’s. He tries to explain why so many Westerners don’t understand Japan’s economy.
“There is a stereotypical image of Japan as a place where consumers are losing their jobs and suffering,” he says. “But consumers have been huge winners.”
The reason is that prices for housing and just about everything else soared to astronomical heights in the bubble era of the late 1980s. Many hard-working Japanese couldn’t afford to buy homes or cars. But because prices have come down, he says, “real wages, after adjusting for the deflation rate, have been sustaining positive growth for most of the time in the 1990s, except for 1997-1998.”
Yes, deflation is hurting commercial banks because they have a harder time paying off bad debts since the value of their assets declines. And deflation would be dangerous, Yamakawa adds, if it led to a contraction in production. But he doesn’t believe the government will allow deflation to damage the economy. “There are two sides of the deflation coin,” he notes, and so far the more positive side has prevailed.
The other key point that Yamakawa makes has to do with economic growth. Many Japanese argue that a declining population isn’t necessarily bad for Japan in view of its intensely crowded conditions (still visible on the commuter trains rolling in from Yokohama.) There will be more space, and more money, for a smaller population. If relatively few young people and few immigrants seek to enter the work force (in sharp contrast with the U.S.), Japan doesn’t need the same growth levels to achieve its social and political objectives of full employment and a high level of prosperity. “One percent is not a bad growth rate for Japan,” Yamakawa says.
That would be heresy, indeed unthinkable, in the U.S., where even the current 3 percent growth rate isn’t generating sufficient employment gains. But Japan’s declining birth rate means that its economy marches to a different drummer.
A booming market, even without the duck
Americans who watch television have seen the commercial where the irritating duck walks into the room and starts quacking, “Aaaa-flaaak.” But few would know that AFLAC, which stands for American Family Life Assurance Corp., earns 70 percent of its roughly $10 billion a year in revenue in Japan. In fact, AFLAC, based in Columbus, Ga., says it is the second most profitable American company in Japan after IBM. That can’t be confirmed because IBM doesn’t break out its Japan earnings. But if AFLAC is making $7 billion a year in Japan, it has earned serious bragging rights. (Analysts estimate its net profit at just under $1 billion in Japan.)
AFLAC got started in Japan in the 1970s. Co-founder John Amos came to the World’s Fair in 1970 and noticed Japanese wearing white surgical masks to avoid infecting others with their cold germs. He was convinced that such a fastidious people would buy insurance. His older brother William came in 1972 to get the ball rolling. A third brother, Paul, also was involved.
Because Japan’s life and medical insurance sector was dominated by one firm, Daichi Mutual Life Insurance Co., and the government wanted a more vibrant industry to compensate for gaps in Japan’s social safety net, it granted AFLAC a license. “It was very hard to get a license, but once we got it, they wanted us to succeed,” says Daniel P. Amos, Paul’s son who is now AFLAC’s chairman and CEO. “They gave us a monopoly for the first eight years because they knew the competition would crush us.”
When Dan Amos took the helm in 1990, AFLAC was operating in 12 countries. But he sold all the other operations outside the U.S. and Japan and reinvested the proceeds in Japan. The company has three major distribution channels: some 95 percent of the companies listed on the Nikkei offer AFLAC products to their employees; a direct sales force of more than 50,000 pushes the product; and AFLAC has inked a joint venture with Daichi Mutual, which now sells AFLAC products as well.
AFLAC has specialized in selling cancer insurance because it’s the No. 1 killer in Japan. Japan’s medical system has long demanded a 20 percent co-payment for medical services and is increasing that to 30 percent on April 1. Other kinds of incidental medical expenses aren’t covered by any insurance system and there is no Social Security system as in the U.S. So individual Japanese are in even greater need of AFLAC products as they age and worry about their health.
The eye-popping statistic is that $21 trillion of life insurance is in force in Japan, a nation of 125 million, compared with $13 trillion in the U.S., a nation of 280 million. So even though Japan faces what Amos calls a “tough economic environment,” his company expected to increase its business by 12 percent in 2002. “There’s an enormous amount of savings there and people want to protect those savings,” Amos says.
Aside from getting the license, other key things that AFLAC has done include allowing Japanese nationals to manage its subsidiary. Only two Americans are based in Japan for AFLAC. At the behest of Japanese managers, the company has adopted a merit system rather than a seniority-based system, so younger high-performance executives can climb the ladder faster. And AFLAC rotates some Japanese executives into senior positions in the U.S. company.
“Japan is a great market and has enormous opportunities,” Amos says, “But there is no quick way to be successful. It’s a long-term investment and generally an expensive investment.” And AFLAC hasn’t used the duck commercials in Japan yet. Its name, “American Life,” is so distinctive in Japan that it hasn’t needed the quirky duck to generate brand-name recognition.
Surviving bank misdeeds
Takatoshi Kato is one of the gray mandarins who run Japan’s economy. Kato was vice minister of the Ministry of Finance, which means he was the de facto leader of the incredibly powerful ministry. (Top ministers are political appointees and have little real clout.) After retiring, Kato was able to make what the Japanese call “amakudari,” or descent from heaven. He is now an advisor to the president of The Bank of Tokyo-Mitsubishi. In the lobby of the building, in Nihombashi just east of the Imperial Palace, there is a bank of elevators for regular employees and visitors. But Kato’s visitors take a special elevator that goes straight to his floor. He appears to be the only person there. In one of Japan’s centers of power, Kato appears to be much more than just an “advisor.”
Kato was at the MoF during the bubble years of the late 1980s. Anybody who has ever walked through the gritty, low-slung MoF building in Kasumigaseki has noticed that only a handful of employees, perhaps 10 to 12, have huge responsibility for different sectors of Japan’s financial system. The reason the ministry had so few employees was that it trusted Japanese banks to give them reliable information.
But in the late 1980s, Kato recalls, the banks violated that sacred trust. They secretly created finance companies on the side and funneled billions of yen into the stock market and real estate pyramiding that occurred during that era. The betrayal was total. “Now we have a very different system,” Kato explains. The government has created a Financial Services Agency that actively inspects the banks’ books, which MoF never did. And Kato notes that the commercial and city banks have been forced to consolidate. His own bank represents one merger; Mizuho Bank is another. It’s the result of smashing together Dai-Ichi Kangyo Bank, The Fuji Bank and the Industrial Bank of Japan.
Seen through Kato’s eyes, it’s clear the government’s financial elites have been trying to discipline the banks for their transgressions-forcing them into mergers and insisting they own up to their bad loans-rather than rushing in with taxpayer dollars.
But doesn’t the weakness of the banks hurt the overall Japanese economy? Kato doesn’t think so. It is a different era from when Japanese banks were critically important in allocating precious capital to manufacturers; now companies like Hitachi and Matsushita are sitting on billions. “We are at a different stage of development,” Kato explains. Forcing the banks to reform themselves is “healthy,” he says. In short, there is no hint of alarm in the inner sanctums of power that Japan’s financial system is about to spiral out of control.
A good supplement for declining U.S. sales
Japan is also important to American CEOs because of its technological sophistication. Take Corning CEO James Houghton, who came back from retirement in an attempt to save his company from the spectacular collapse of the telecommunications sector. At one point in 2000, some 70 percent of Corning’s revenues came from fiber optics, while just 30 percent came from the Corning Technologies division, which made such things as glass screens for laptops.
But when fiber optic sales hit the wall, Houghton had to cut his company almost in half to survive. Today, fiber optic sales are just 50 percent of Corning’s much-reduced sales of about $3 billion. “We can see the light at the end of the tunnel,” he wisecracks, “we just don’t know how long the tunnel is.”
Meanwhile, sales of fiber optic gear in Japan have helped. “Japan has been our strongest market over the past 12 months,” Houghton says. “They’re taking fiber to the home.” Indeed, sales of optical fiber cable, which were projected to decrease in fourth quarter 2002, instead rose by 6 percent, all thanks to Japanese demand.
Japan has also become increasingly important for the other side of Corning’s business, particularly its display glass. Although the company has 11 joint ventures in China, major alliances with Samsung Electronics in South Korea and operations in Taiwan, it has concluded that Japan is the center of the new wave of thin-screen computer monitors and large, liquid-crystal display televisions that are hitting the market. So about 14 months ago, it moved the headquarters of its LCD glass business to Japan so that it can compete better against the likes of Asahi Glass. “These are tough guys,” says Peter F. Volanakis, president of Corning Technologies. “They’re not going to go away. So we have to be much better on cost and product performance to stay in the game.”
Altogether, Corning Technologies now accounts for 50 percent of the company’s sales, up from 30 percent. So Japan is important to Corning both for its diminished fiber optic sales and for its emerging new businesses. The company doesn’t disclose what percentage of its sales today come from Japan, but it’s obvious that the Land of the Rising Sun is critical to its comeback hopes.
It’s a similar story for Micron Technology, the long-struggling maker of dynamic random access memory, or DRAM, semiconductor chips based in Boise, Idaho. Micron stood toe-to-toe against Japanese rivals throughout the 1990s, forcing many of them to migrate away from DRAMs. (Micron’s stiffest competition these days comes from Samsung Electronics and other Korean chipmakers.)
Micron has been losing money and is placing high hopes on a new kind of chip called the complementary metal oxide semiconductor, or CMOS. This essentially is a camera-on-a-chip and it’s the technology that is allowing the manufacturers of cell phones and other mobile devices to build cameras into them. Japan is a key target for Micron’s CMOS chips because it is the market with some of the highest penetration rates for third-generation cell phones and it is also home to the companies that make the devices. “The target market is a 15-year-old Japanese girl with pink hair and a cell phone,” says Shawn Maloney, director of marketing for Micron Imaging. “The whole world is watching Japan.”
Micron CEO Steven Appleton is one of the few top American executives who speak Japanese. He learned it to help him do battle in an earlier era, but now he’s using it to try to persuade Japanese makers of mobile devices to use his CMOS chips. “We see the potential for our CMOS image sensors in high-growth markets such as digital still cameras, PDAs and cell phones, and we plan to pursue that business,” Appleton says.
An opportunity in the east?
So the evidence about what’s happening on the ground in Japan and the aspirations of American CEOs there suggests that the direst of media pronouncements have been overblown. A Wall Street Journal editorial, for example, warned that Tokyo was “letting Japan, Inc. continue to go down like the Titanic” and Fortune called the bankruptcy of WorldCom the biggest “since the entire Japanese economy filed for Chapter 11 a few years ago.”
The more sophisticated view is that there is wealth in Japan and therefore, money to be made. IBM, Microsoft, Apple, Applied Materials, Intel and other technology companies all enjoy strong sales in Japan. Coca-Cola, which boasts vending machines on nearly every corner in most Japanese cities, is believed to make more money in Japan than any other single market.
So the question in the corner office should be not whether, but precisely how and where to make money in Japan. Merrill Lynch, which charged in with an acquisition of Yamaichi Securities in 1998, has closed down and retreated from Japan with its tail tucked between its legs, but AFLAC, Goldman Sachs and other financial players see opportunity. “Japanese financial services are very inefficient,” says David A. Ingram, an international economist at economy.com in West Chester, Pa., “There are tremendous resources locked up in a very simple postal savings system.”
Ingram doesn’t think there is much opportunity in Japan for traditional manufacturers, however. For General Motors and Ford Motor, it may simply be too late. He also notes that Japan’s steel and shipbuilding industries are being allowed to fade into the sunset. No new players need apply.
But technology manufacturing sectors are still critically important, he argues. So are services, particularly health care. Small wonder that Merck & Co. decided in January to offer $1.52 billion for the 49 percent of Banyu Pharmaceutical Co. that it didn’t already own. Acquiring all of Banyu will allow Merck to ramp up distribution of its cholesterol-lowering drug, Zocor, known as Lipovas in Japan.
Despite the opportunities evident to many, predictors of gloom will continue to forecast dire economic conditions in Japan for the foreseeable future. But the evidence suggests that as CEOs look up at the maps on their walls showing their worldwide operations, they would do well not ignore the world’s second largest economy, whatever the confusion raging over its ultimately direction.
A Japanese Enigma
Some American economists have argued that Japan is in serious difficulty because its rate of economic growth has been distinctly anemic and its stock market seriously depressed. Yet Japan’s current account surplus, which is the measure of how much more it exports than imports, has begun to increase. So the riddle remains: If Japan’s economy is such a basket case, how can it remain a great export powerhouse?
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