The Impact of Globalization on the Japanese Economy and Industry

Susumu Yoshida (Senior Coordinator, Sumitomo Chemical Company, Ltd.)

1. Meeting the Challenges of Globalization and Intensifying Competition

As Cambridge University professor A.C. Pigou declared, "optimism justifies optimism, and pessimism justifies pessimism." Many Japanese show marked signs of a lack-of-confidence syndrome and are trying to justify pessimism about the state of the Japanese economy.

There are good reasons for such state of mind: the nominal growth rate has been negative for five fiscal years since 1998 except for very modest recovery in 2000; consumption which occupies about 60 percent of Japan's GDP is stagnant due to a lack of consumer confidence; investment is caught in the so-called "liquidity trap", and in spite of nearly zero interest rates private-sector companies are reluctant to invest in plants and equipment; the cumulative public deficit is estimated at around 700 trillion yen and has become a very heavy burden on Japan's financial and monetary systems; and not least importantly, financial institutions have a huge amount of non-performing loans and are taking an extremely cautious approach to their lending operations, making the start-up of new business ventures difficult.

In light of the above situation, some foreign economists and financial analysts believe that Japan faces a critical situation and has limited economic policy options. For example, Harvard economics professor Martin Feldstein wrote in the Wall Street Journal that Japan might try to achieve economic recovery and create jobs by significantly lowering the yen vis-à-vis the U.S. dollar and increasing military expenditures. But Japan can exercise neither of these options because of a number of existing constraints.

The Japanese economy is suffering from not only pains caused by structural reforms in old industries, but also "growing pains" of new industries. With the accelerating process of globalization and the IT revolution, traditional industries are losing momentum, but new industries have not yet grown strong enough to become the engine of economic development. The central issue is how to make necessary adjustments from one economic period to another speedily.

The Japanese industrial system of mass production of standardized products, with such features as "indirect financing,"¹⁾ credits based on land mortgages, cross shareholding, and the seniority and lifetime employment system no longer represents advantages but has become a pressing burden, especially after Japan's economic growth rate started tapering off in the early 1990s. At the same time, new industries such as IT, biotechnology, nanotechnology and aerospace engineering, which are anticipated to be the engine of future economic growth, have not yet been fully developed.

In this context, the present economic turmoil should not be viewed as the down phase of the business cycle which recurred in the post-Second World War period, but rather as a crisis caused by delays in initiating structural reforms responding to the drastic changes in the global economic structure which were brought about after the end of the Cold War.

One significant cause of such turmoil is that Japan failed to react to the newly emerging geopolitical situation speedily, due primarily to lack of a clear vision as to which direction to pursue in the maddening aftermath of the economic bubble in the latter half of the 1980s. Though the environment changed irreversibly, Japanese in general continued to stick to the ways of a world long gone. In other words, they made judgements based on the old paradigm and implemented policy measures accordingly. This is reflected in the decline of international competitiveness of Japanese industries.

Against the background of the globalization of economic activities and intensifying competition (mega competition), industrialized countries have been implementing various measures to strengthen their competitiveness.

For example, in the United States the Industrial Competitiveness Council was organized by the U.S. government in the 1980s and John Young (the president of Hewlett-Packard Co.) was appointed as chairman. In 1985 the Committee summarized its findings in "The Young Report." The Report made policy recommendations to strengthen competitiveness of American industries through, inter alia, creation of innovative technologies, reduction of the cost of capital, development of human resources and deregulation and other regulatory reforms. Subsequently, in the 1990s the United States diligently implemented development strategies for high technology areas and succeeded in regaining its competitiveness.

Harvard sociology professor Ezra Vogel's book "Japan As No.1" was extensively promoted by the media after it was published in 1979 and many of Japan's export-oriented industries were perceived as a threat to the United States. Both Americans and Japanese overestimated international competitiveness of Japanese industry. In the meantime, Americans learned the features of Japanese plant management systems, such as "just-in-time" production, and steadily put them in practice in their own manufacturing facilities.

As globalization advanced, Japan has faced international competition not only from developed countries but also from newly industrialized economies (NIES) including Taiwan, Korea and Singapore. Developing countries, notably China and India, are adding significantly to this competitive pressure. All of these rising nations have pursued export-oriented development policies. In fact, products that are competitive in terms of quality, price, design and delivery can find customers in all corners of the free world.

2. Countermeasures for Industrial "Hollowing-out"

Along with the sharp appreciation of the yen vis-à-vis the U.S. dollar and other currencies, which took place following the Plaza Accord in 1985, the transfer of production bases to overseas was accelerated. In particular, production of labor-intensive products such as textiles, household electronics, general purpose electronics products and their parts and components have been transferred to various countries in Southeast Asia and East Asia where abundant labor is available at significantly lower costs.

As a result, products manufactured by the developing countries in Asia and East European countries became available all over the world market. They have had a material impact on Japan's price and wage levels as well as on employment, causing the "hollowing-out" problem. Due to various institutional constraints under the traditional labor market, the wage level in Japan is "downward rigid." Therefore, as a means to remain competitive, many companies have been reducing the number of employees.

Consequently, the unemployment rate in Japan has increased to nearly 6% and is likely to rise further as deflation continues. In particular, recruitment of new graduates has not increased. This situation is very alarming: one-third of college graduates and two-thirds of high school students reportedly cannot find decent jobs upon their graduation. When our youngsters are not given opportunities to exert their energy, they suffer from a sense of uncertainty and powerlessness in a confined world, causing the entire Japanese society to be deprived of its vitality.

If the bulk of companies in Japan streamline their business operations or withdraw from the market, it causes a shrinkage of macroeconomic activity. Individual companies' rationalization measures help improve their balance sheets, but have a negative impact on the economy as a whole. This is a typical case of the "fallacy of composition."

As a result, the Japanese economy has been suffering from the unprecedented problem of deflation. To cope with this challenging problem, new industries and enterprises, which bring new demands, are acutely needed. As an effective measure we must invite foreign companies to make direct investments in Japan by making the investment climate attractive. In other words, we must make Japan a place where investors can make a handsome profit if they invest and work hard.

In this context Japan can learn valuable lessons from the initiatives taken by a number of the U.S. state governments, which set up their representative offices in Tokyo, Nagoya and elsewhere to encourage Japanese companies to make direct investments in their home states. Since Japan needs foreign direct investments for revitalization of its economy and creation of new jobs, local governments and municipal offices may well follow suit.

In doing so, Japanese government agencies must listen to the voices of existing foreign enterprises. For example, it has been pointed out that infrastructure costs, including the costs of plant sites, office rent and housing for foreign expatriates, is extremely high, particularly in the metropolitan Tokyo area. We need to remedy the comparatively high cost of doing business in Japan by providing tax incentives and reducing the cost of public services charges and telecommunications. Needless to say, creation of an investment climate attractive to foreign companies will bring similar benefits to domestic companies. Japanese consumers will also benefit from intensifying competition, resulting in increased presence of foreign companies.

The Japanese market is very attractive to foreign companies in terms of export potential. Japan, with its population of 127 million and its GDP of 4.2 trillion dollars, both of which are around half of that of the United States, is one of the largest consumer markets in the world. Japanese consumers are extremely conscious of product design and quality, and are very brand loyal.

In spite of the gloomy picture of the Japanese economy, the number of foreign companies operating in Japan sharply increased from about 1,500 to 3,400 (as of the end of 2001). The primary reason for such a remarkable increase is the fact that those foreign companies have been successfully providing Japanese customers with "differentiated" and attractive products and services.

3. The Impact of the Emerging Chinese Economy

Globalization has brought about the free flow of goods and services, capital, people and information. Indeed, over the past decade, especially after the collapse of the Soviet Union in 1991, we have seen enormous expansion of the trade of goods and services in many regions of the world. For example, in 1989 U.S. exports to East Asia amounted to 54 billion dollars; by 2001 they more than doubled to 117 billion dollars. Over the same period, U.S. imports from the region increased sharply from 93 billion to 241 billion dollars.

Intra-regional trade also showed a vigorous expansion during the same period. Japan's exports to Southeast and East Asia increased from 78 billion dollars in 1989 to 159 billion dollars in 2001. In 1989 Japan exported more to the United States than to the East Asian region; but in 2001 Japan sold more to East Asia than to the United States. This reflects that the U.S. and Japanese economies are closely intertwined and local production by Japanese companies in the United States has sharply increased with a resultant decrease of Japan's exports to the U.S. market.

Exports from ASEAN (the Association of Southeast Asian Nations) to China and Hong Kong showed a remarkable increase: the amount more than quadrupled, from 4 billion dollars to 21 billion dollars. ASEAN's imports from China also increased sharply from 4 billion dollars to 17 billion dollars. Despite occasional economic turbulence such as the monetary crisis triggered by the sharp fall of t he Thai baht in 1997, trade within the region has grown vigorously and de facto economic integration has been progressing. Because of its high economic growth potential, the "move to Asia" became a common strategy for European, American and Japanese companies.

After the shift to a market-oriented economy, China has maintained a path of high economic growth and has achieved international competitiveness in a number of industries. China is equipped with an overwhelmingly abundant and diligent work force, and the wage level is in a range of about one twentieth to one thirtieth that of Japan. In Asia, only few countries such as Vietnam are able to effectively compete with China in terms of labor cost.²⁾

China's basic strategy towards economic development is noteworthy. With respect to new industries, China has been introducing foreign technologies, capital and the management systems needed to achieve growth, while taking more time, out of necessity, to reform traditional state-owned industries. It is a system that may be called the "progressive approach" to industrial modernization.

Another striking feature of China's industrialization process is the "simultaneous, multiple-sector approach," i.e., both labor-intensive and highly sophisticated capital-intensive industries are pursued simultaneously within one country. Since the latter half of the1990s China has been effectively accumulating results in capital-intensive industries, particularly machinery, telecommunications, automobiles and semiconductors, in addition to labor-intensive industries such as textiles and household electric appliances. This pattern of industrialization is different from the so-called "geese flight model" in which Japan spearheaded the process of industrialization, followed by Singapore, Taiwan and Korea, and then other Southeast Asian countries.

I believe that China will be able to manage its "dramatic economic transformation" successfully and continue to be a big magnet for foreign direct investment. Southeast Asian leaders are feeling the potential threat that China's full-fledged entry into world trade is likely to bring about, lest it would cause "hollowing-out" of industries en masse. Since its entry into the World Trade Organization (WTO), China is expected to deal with pending issues related to protection of intellectual property rights and the patent system as well as Responsible Care.³⁾

China's improvement in the standard of living is rapidly becoming more visible. Deng Xiaoping declared "Those who can become affluent first should do so." However, China, under the new leader Hu Jintao, is aiming to shift from a society of "some people enjoying great affluence" to one in which "every one can enjoy moderate affluence."

As a footnote, India is also treating a similar path of industrialization, but has, like many developing countries, a challenging population problem. In the late 1970s, India's population was about 670 million. In 2000 it was estimated to have reached one billion. This means that over the past 20 years or so, India's population increased by as much as 50 percent. If the present rate of its population increase continues, India's population is forecast to exceed 1.5 billion by 2020, surpassing that of China. The enormous increase of the populations of India and China combined will have a profound impact of global importance in terms of not only resource allocation but also social order and the ownership of property.

Needless to say, a stable and globally integrated China is in East Asia's regional interests. In terms of Japan's relationship with China, it is important for Japan to become its "partner" for economic development. Japan also needs to foster its own strategic thoughts as Chinese leaders did over many centuries, while business and industrial leaders should diligently deepen their understanding of the unique business practices and the investment climate in China.

4. The Shift from Multilateralism to Regionalism

Japanese tourists visiting the United States are often surprised by the fact that prices of Japanese products sold in the United States are often lower than those in Japan. Why are these products being sold at lower prices than in the domestic market, even after having paid shipping fares, warehouse charges, and insurance fees? It is because every exporting country wants to export their products to the United States; it is a huge market with 70 percent of its 10-trillion-dollar GDP spent in consumption. It is also because this is a comparatively less regulated market, and the principle of competition functions in a straightforward way.

Furthermore, even after the convertibility of the dollar to gold was discontinued in 1971, when the Bretton Woods system (established in 1944) collapsed, the U.S. dollar has been the domestic currency and simultaneously the de facto key currency used for settlement of international trade. Almost all the countries in the world have been trying to export to the big U.S. market in order to get those U.S. dollars to settle international trade accounts.

Confidence in the U.S. dollar among the world's nations has been strong, and the United States has been taking full advantage of the existing international monetary system. American people have been gaining enormous benefits.

On the other hand, the EU, consisting of 15 countries including the Euro Zone which unified the European currency in January 2002, has a population of 380 million and its aggregate GDP amounts to about 8 trillion U.S. dollars.

In a recent EU summit meeting it was decided that ten countries that belonged to the previous communist block will be admitted into the EU, including Poland, Hungary, the Czech Republic and Slovakia,. When fully implemented, the EU community will have a population of 460 million with an aggregate GDP of 8.2 trillion U.S. dollars. A common currency gives distinct benefits not only for account settlements of international transactions but also for international travelers who do not need to change currencies every time they cross national borders.

It can also be anticipated that along with an expansion of the EU economy the Euro will become a key currency similar to the U.S. dollar in the long run. Depending upon the future structural change of the world economy, the time may come when the creation of such a world currency "Bankor" as advocated by John Maynard Keynes warrants reconsideration.

For Japan, in order to maintain the present comparatively high standard of living of the people, it will be important to strengthen its economic fundamentals and promote a Comprehensive Economic Partnership in the East and Southeast Asian region.

The combined GDP of the countries in the above region is about 7 trillion U.S. dollars. When the Comprehensive Economic Partnership is realized additional capital, goods, services, information and people will be significantly mobilized. This will cause a rapid expansion of economic activities beyond national boundaries.

It is expected that the Japanese yen will play a bigger role as one of the currencies to use for regional trade. Unlike the U.S. dollar or the Euro, the yen will not be able to bear the burden of an international currency. It will, however, be important, as the initial step, to make use of the yen easier so that it can play a role as a regional currency that meets the need of the advancing globalization of economic activities.

5. The Imminent Need to "Recover Trust" and Self-responsibility

The fall of traditional authority is a marked and grave social phenomenon that has taken place recently in Japan. In the 1980s many Japanese executives and managers saw the price of land and stocks sharply soaring, and were strongly tempted to seek windfall profits. The primary Tokyo stock market index, the Nikkei Index of 225 leading issues, which was slightly above 16,000 yen in early 1986, reached its peak of 39,000 yen in December 1989 and then plummeted to 14,300 yen by 1992. At present the Nikkei Index is around 8,200 yen. The sudden collapse of the stock market coincided with a similar deterioration of the real estate market.

In retrospect, after the Plaza Accord in 1985 the Bank of Japan maintained an expansionary monetary policy for too long against the background of recessionary pressures from the sharp appreciation of the yen. As a result, it failed to increase the discount rate to prevent overheating of the economy. Its easier monetary policy was reflected in skyrocketing increases of asset prices all over Japan. Eventually it became clear that the extremely low interest rate could no longer be sustained, and in 1990 the alarmed Bank of Japan took corrective measures too hastily and belatedly: it tightened money, which led to the bursting of the bubble and a nose-dive of asset prices, resulting in the deepest economic malaise of the past 50 years.

Corporate executives, who used to make steady profits through their own risk-taking and creative endeavors, suddenly turned around and started pursuing windfall profit. They had been respected as the principal promoters of economic growth and the creators of wealth. As numerous cases of default became known to the public after the collapse of the economic bubble, they were criticized with scorn and distrust and were regarded as dubious profit seekers who lack self-restraint and modesty, which are necessary ingredients for corporate leaders. Some industrial psychologists claimed that lack of a sense of responsibility and the spirit of independence are deep-rooted pathological phenomena of Japanese society in the post-WWII period, causing the spreading of protectionism of vested interests.

Under the situation, I believe that nothing is more strongly needed in Japan than a "recovery of trust." The general public sees injustice, illegal transactions and unethical matters with increasingly critical eyes. They show a much greater concern about corporate social responsibility than they did in the past.

Recently a number of cases of illegal practices such as out-of-book transactions, inside information handling and insider transactions were reported. For example, in the United States, Enron, a major energy company and Andersen, a consulting firm for Enron, were involved in these illegal activities. In addition, similar problems arose at WorldCom, a large long-distance telecommunications company, and Xerox, a leading office equipment company. Considering that disclosure of information to the public and auditing by independent auditors based on the authoritative International Accounting Standards had been most rigorously practiced, it was a surprise that a series of illegal cases was caused in the United States but it was very impressive that corrective actions were taken by the U.S. government agencies so speedily.

In Japan, too, a number of illegal practices by leading Japanese companies were discovered. This brought an intensive focus on corporate social responsibility. The general public has serious concern over issues of corporate governance and moral hazard.

The basic rule of capitalism as a socioeconomic system has always been: "borrowed money must be paid back." In light of this, the recent business practices such as borrowers' requests to abandon debts and financial institutions' giving up credit are nothing but signs of a pending long-term disaster. A series of these events occurring in and outside Japan indicated that capitalism as an economic system is far from perfect. This means that capitalism needs an apparatus for adequate and constant institutional improvement.

6. The Issue of Zero Interest Rate

The compound interest system is the foundation of capitalism. Broadly speaking, one of the essential ingredients for healthy development of modern capitalism is that society must be organized so as to save through diligent work as if it were an end itself and bring about maximum accumulation of capital for growth of the economic pie. In America, a culture of savings, hard work and education can be traced back to Benjamin Franklin, and even earlier to the Pilgrims.

In the case of Japan, the people had little exposure to Protestantism, but a group of thinkers in the 18th century, led by Suzuki Shozo and Ishida Baigan, preached the virtue of diligence and hard work as part of religious practice. They argued that devotion to work, whether farming, commerce or craftsmanship, was a concrete means to religious enlightenment, and that making and saving money were not immoral activities. Saving money became a virtue, and economic growth a national objective.

Therefore, capitalist society is an economic system in which saving is encouraged, and expands with compound interest. This system is based on the acceptance by members of society that annual produce is not equally distributed on the tacit assumption that those who take the lion's share do not consume but save so that such saving is invested and gets multiplied year by year.

The power of compound interest is mighty. For example, at an annual interest rate of 5 percent, monetary assets owned by the household sector in Japan, amounting to 1,400 trillion yen (equivalent to 12 trillion dollars) get multiplied 11.5 times to 16,100 trillion yen in 50 years. Over the same period of time, if the interest rate is 0.25 percent per annum, the same amount of monetary assets get multiplied by only 1.13 times to 1,582 trillion yen. Such is the power of compound interest.

Since the high economic growth period ended in Japan and the economy entered a period of low growth, the flow has not increased. It is vitally important for Japan to manage the available funds efficiently both at home and in overseas markets. This will enable Japan to achieve a comfortable increase of national wealth through an expansion of stock values. Compound interest must be an important ingredient in Japan's economic growth. It is amazing that a nearly zero interest policy has been continued for so long. It causes an unhealthy distortion in society.

7. Redevelopment of Tokyo and Other Urban Areas and Promotion of New Ventures

The government must take initiative and effective policy measures to get deflation under control. Unfortunately, this has not been done. As a result, deflation has continued and the corporate profit situation has been adversely affected with resultant increases of additional non-performing loans.

Japan watchers overseas have been uneasy with a feeling that Japan might be nosediving into a deflationary spiral. In order to bring about a turnaround of the Japanese economy, people must first of all become aware that the Japanese economy is faced with severe challenges. Various obsolete regulations that prohibit private-sector initiatives need to be abolished. In the process of implementing structural reform it is necessary to cope with objections by interest groups that resist change to the status quo. This is always a tough job.

Reform and deregulation in the administrative system creates friction for those who want to maintain the status quo in order to protect their vested interest. Indeed, too many vested interests - ideological, political and financial - stand in the way. For bureaucrats, giving approval has been the very source of their power, and for many bureaucrats deregulations means reduced power for them and their organizations. For those private industries that are subsidized by the government, deregulation means the intensification of competition.⁴⁾

While Americans seem to think every socioeconomic system is man-made, the Japanese tend to think that their social system cannot be changed without unanimous consent among people concerned. Thus, many times in the past, Japan failed to act quickly and missed opportunities for its policies and measures to achieve maximum effect. Japan's efforts have often been described as "too little, too late." Someone said, "In America, everything is allowed unless it's forbidden, but in Japan, everything is forbidden unless it's specifically allowed. In France, everything is allowed even if it's forbidden."

It would have been best if remedial actions were taken with unwavering determination immediately after the burst of the economic bubble, but obviously strong political leadership was missing. After Prime Minister Noboru Takeshita resigned in 1989, nine prime ministers (Uno, Kaifu, Miyazawa, Hosokawa, Hata, Murayama, Hashimoto, Obuchi and Mori) were appointed over the subsequent 12-year period before Junichiro Koizumi was elected in April 2001.

In Britain, after Sir Winston Churchill became Prime Minister in 1951 there were nine prime ministers in a half-century before Tony Blair took the office in 1997. Mrs. Margaret Thatcher was Prime Minister for eleven and a half years after she took office in 1979. In France, Francois Mitterand was Prime Minister for fourteen years; and in Germany, Helmut Kohl was Prime Minister for eight years. In China, Jiang Zemin was the president from 1989 until March 2003 when he was succeeded by Hu Jintao (Jiang Zemin stepped down as state president last spring but remains as head of the Central Military Commission).

An effective prescription for the Japanese economy to overcome deflation is to create effective demand rapidly in order to fill the deflationary gap. As a concrete policy measure, redevelopment of the Tokyo metropolitan area and other urban areas would be very effective. This policy measure of the government putting money into the economy will create new jobs and effective demand for goods and services.

It is a well recognized fact that the infrastructure of Japanese urban areas is poorly equipped; often coordinated city planning is missing. Buildings of various sizes and heights are placed in a haphazard fashion. Traffic is extremely congested almost everywhere; the condition of commuter trains and subways during both morning and evening rush hours is almost unbearable, and has been making little progress over the decades, partly because of additional influx of people. The highways in and around the metropolitan area have not been completed in time according to original city planning. Such partial construction of planned highways is a major cause of low efficiency and high-cost ground transportation. High-rise buildings are seen only in limited places in Japanese cities. It is clear that there is room for improvement in the infrastructure.

Redevelopment of urban areas will enable people to live near their work places, alleviating commuter congestion. Major world cities such as New York, Paris, London, Singapore and Hong Kong have been well organized. This is because political leaders had a clear vision that was executed through sound city planning. For example, in the 1980s under the strong leadership of Mrs. Thatcher, the British government implemented a London development plan. She established "the Development Corporation," and made it wholly responsible for urban development in London. A new financial center was built in the suburbs of London, complete with some 150,000 residences. At the same time, the Development Corporation revised the immigration law and the tax law to enable foreign experts such as IT professionals to work in London's financial center.

Japan's birthrate has been declining partly due to long-distance commuting. If communities in large cities were made safe and comfortable by improving the entire living environment, it would contribute to preventing such decline. Revision of regulations is vital for effective use of land. In order to accomplish this we need statesmen with a clear vision, courage and wisdom.

8. Closer Cooperation between Academia and Industry

Because of the intensifying competition in the world market, methods of research and development in private sector companies have been changing. Emphasis has been placed on application research that enables them to introduce new products to the market in a short period of time. For universities, industries have higher expectations for discovering innovative technologies.

Private-sector companies are seeking creative researchers who can generate technological innovations more than ever before. IT has been accelerating a new "Industrial Revolution" and is becoming the driving force of the drastic reform of the industrial structure in the 21st century. When this reform becomes full-fledged, it will certainly create enormous new demand, as was the case of the industrial revolution that began in Great Britain in the later half of the 18th century. Along with the phenomenal development and spreading of IT, the modus operandi of private sector companies' research activities will significantly change.

The physical boundaries between private sector companies and universities have practically disappeared. Researchers of both academia and industry can communicate and collaborate with research institutes at home and abroad on a much broader basis. As a result, management of traditional academia is pressed for rapid change; building close cooperative and mutually beneficial relationships between academia and industry is now in high demand.

In order to strengthen international competitiveness with other industrialized countries, particularly the United States, the government should play an important role in setting forth national technology development strategies. The imminent necessity to reform higher education has also been broadly recognized in Japan, particularly in the industrial communities. Ongoing reform of university and college education will certainly have repercussions on primary and secondary education.

One of the fundamental issues of educational reform is revision of the Basic Education Law. Reform of the education system with a view to fostering human capital is an imminent issue. Japan needs people who can lead the world in terms of intellectual property creation and the kinds of contributions that benefit the people of the world. To achieve this it is necessary to improve salaries and other employment conditions for schoolteachers. It would follow that the infrastructure must be improved to meet the new focus on education.

9. A New Agenda for Japan

Overcoming the serious aftereffects of the collapse of the economic bubble and regenerating the economy are at the top of the agenda for Japan. From a historical perspective the Japanese have been trained over many centuries in an extremely challenging, resource-scarce natural environment. They have also assimilated themselves to foreign cultures extremely well. These qualities of national character will prove to be very valuable in the future.

In Asia, the North Korea problem has direct relevance to Japan's security and economy. It is not a problem local to the Far East, but rather is an international issue involving the United States, China and Russia. North Korea's apparent intentions to become a nuclear power has sparked a strategic re-assessment in all neighboring countries. The sheer fact that weapons of mass destruction are in the insecure hand of Kim Jong Il poses an enormous threat to all the countries in the Asia-Pacific region, as the North Korean economy is bound to collapse within several years.

As we know, the United Nations Security Council failed to support the United States in enforcing previous UN resolutions, and the recent moves of France, Germany, Russia and other countries to Security Council action against Iraq. This created a host of new issues. Will NATO remain relevant to European security? Will the UN family organizations, including the World Bank, be able to continue their work in a business-as-usual manner? Will the United States convert to a selective bilateralism or even to "new isolationism"?

It is unfortunate that authority of the United Nations deteriorated, and, as someone said, it became "an ineffective, irrelevant debating society." Whether it is true or not, the existence of U.S. military forces in Japan under the U.S.-Japan Security Treaty has become critically important for peace and stability in the Asia-Pacific region. The presence of the U.S. forces is indispensable in terms of geopolitical stability and economic growth in Asia. I hope that South Korea under new president Roh Moo Hyun will not be swayed by its popular public rhetoric that reportedly seeks withdrawal of U.S. forces from the Korean Peninsula.

At the same time, it is important for Japan to establish a sense of national identity and self-determination. I believe that Japan will be able to recover from the present economic malaise once the general public perceive the impending crisis and become conscious of the vital issue of national security. Japan will tread a path toward a "normal" country by going through the process of responding to a series of crises in and outside the country. In that process, the issue of collective self-defense will have to be thoroughly reviewed.

I believe that the Japanese people should not be excessively pessimistic about the future of their country's economy. At critical times in the past the Japanese have shown a high degree of flexibility in adjusting to changes in the economic and business environment and have muddled through national issues.

The imperative of structural reforms requires strong political leadership to put Japan's house in order. Prime Minister Junichiro Koizumi's attempts to implement structural reforms such as small government, deregulation, privatization of public-sector entities with a view to stimulating private sector initiative and development of individual creativity have been receiving strong support from the Japanese public. Human beings act only when they are convinced. Prime Minister Koizumi needs to convince the general public that they must meet the enormous challenges that Japan faces. At this moment it is not crystal clear whether he will be successful in achieving his original policy objectives.

On the part of private sector companies, it is a challenge to work out a "new Japanese management system" that makes use of Japan's close human network effectively. While Japan is equipped with human resources that are well-trained in manufacturing and know how to develop new skills, this is not a sufficient condition to succeed in the era of globalization and the IT revolution. Japanese companies must develop an entrepreneur ecosystem that can fully utilize advanced technologies such as biotechnology and nanotechnology and the human network both inside and outside Japan. And if Japanese people do not justify pessimism, Japan's economic future in the 21st century is extremely bright.

Note: 1) Funds are transferred from the household sector to the industrial sector through financial intermediates such as commercial banks and others financial institutions. Indirect financing facilitated financing of highly priority projects primarily for comparatively larger corporations listed on the stock market. This is a system which worked well at the time of high economic growth when the capital market in Japan was not well developed, compared with strong demand for capital needed to invest in plants and equipment.

Note: 2) According to a comparative labor cost survey conducted by the UFJ Bank's Singapore Branch, the general worker's relative labor cost index was (assuming the labor cost in Japan as of 2002 is 100): 6.0 in Shanghai, 4.0 in Shenzhen, China; 6.5 in Bangkok, Thailand; 8.3 in Kuala Lumpur, Malaysia; 4.3 in Jakarta, Indonesia; 6.4 in Manila, the Philippines; 3.9 in Hanoi, Vietnam; 5.5 in New Delhi, India.

Note: 3) Responsible Care is an initiative in which industries commit to work together to improve the health, safety and environmental performance of their products and processes, and so contribute to the sustainable development of local communities and of society as a whole. Responsible Care programs are now being implemented in more than 46 countries.

Note: 4) Niccolo Machiavelli, the 16th-century historian and political scientist wrote in his insightful The Prince, "It must be remembered that there is nothing more difficult to plan, more uncertain of success, nor more dangerous to manage than the creation of a new order of things. For the initiator has the enmity of all who would profit by the preservation of the old order, and only lukewarm support is forthcoming from those who would prosper under the new. Their support is lukewarm partly from fear of their adversaries, who have the existing laws on their side, and partly because there are generally incredulous never really trusting new things unless they have tested them by experience."