Sun Still Rising

For those who claim to understand the global economy, here's a pertinent question: Which East Asian economic powerhouse recently announced the largest current-account surplus in world history?

The answer is Japan, although very few readers of the American press are likely to have noticed. Given the continuing media obsession with China, little news about East Asia's other giant economy makes it into print or onto television these days. Yet in most of the ways that matter to current U.S. economic policy, Japan remains far more important than China.

To be sure, China is growing very fast. But misinformed American commentary to the contrary, China remains many years away from displacing Japan as Asia's largest economy. Still less is China any sort of benchmark against which a high-wage economy like the United States should be measuring itself.

Japan, by contrast, is a useful benchmark. One important fact ignored by the American media is that Japanese industrial wages are now among the world's highest. Not only are they far higher than in China (between four and 15 times higher, depending on the region of China), they are actually 20 percent to 30 percent higher than in the United States. Yet Japan's export industries have not only survived but thrived.

The largely untold story of Japan's extraordinary manufacturing successes in recent years should inspire a radical reappraisal of fundamental American economic assumptions. Certainly Japan's trade performance stands as a stunning rebuke to those who hold that high-wage nations can no longer compete in manufacturing. Their argument has fostered an utterly unwarranted sense of inevitability about America's manufacturing implosion. The damage already done can be gauged from the fact that, at 5.7 percent of the gross domestic product, America's current account deficit last year was proportionately the second-worst of any major economy in history. It was exceeded only by Italy's 7.7-percent deficit in 1924 -- hardly a happy precedent, considering that Benito Mussolini seized dictatorial powers in January 1925.

Here are a few statistics that put Japan's true economic standing in perspective:

  • Measured at market exchange rates, Japan's GDP last year came to $5.1 trillion -- three times China's $1.7 trillion.
  • Japan's current account surplus last year, at $181 billion, was more than two and a half times China's. Even more impressively, that Japanese surplus was more than three times what Japan earned in 1989, the last year of the Tokyo financial boom. (Owing to higher oil prices, among other factors, the Japanese surplus may dip as low as $145 billion in 2005. But that would still be a nice contrast with the last time oil prices seriously cramped Tokyo's mercantilist style; in 1980, after all, Japan incurred a deficit of more than $10 billion.)
  • Japan makes most of the high-tech components and materials in China's vaunted exports to the United States. In fact, Japan's knowledge-intensive and capital-intensive factories are using China (as well as dozens of other nations) as an export pipeline to the United States. Judged by where the added value is really created, Japan is still a far larger source of U.S. imports than China, despite the higher dollar value of exports from the latter.

How can all this be reconciled with accounts of a perennially ailing Japan? It can't, of course. The truth is that Japan is no basket case and never has been. Strange as it may seem, for many years Japanese leaders have -- for very Japanese reasons -- been assiduously exaggerating their nation's weaknesses and understating its strengths.

Perhaps the biggest surprise is how rich Japanese consumers have become. Their affluence is immediately obvious in the way they dress. Already considered the world capital of fashion by such style mavens as Suzy Menkes and Amy M. Spindler, Tokyo was recently pronounced “the coolest city on the planet” by the editors of GQ magazine.

As UCLA management professor Sanford Jacoby points out, Japan's prosperity is also abundantly apparent on its roads, which are full of late-model cars, and in its electronics stores, which are constantly packed with free-spending males. Indeed, the Japanese are so wealthy that the most advanced new products -- from the latest game machines to the most spectacular new flat-screen TVs -- are often launched in Japan months or even years before they reach the United States.

“Japan is a very affluent country with an income distribution much less unequal than in the States,” says Jacoby, author of a new book on Japanese corporate governance. “Those in the bottom two-thirds of the income distribution enjoy a higher quality of life than their U.S. counterparts. As for the upper one-third, they, too, benefit from Japan's high level of public services, as well as the security that comes from a stable, cohesive society.”

Even in the late 1990s, when commentators abroad were performing daily last rites for the Japanese economy, the palpable prosperity on the ground there stunned visiting Americans. Nathanial Gronewold, a University of Minnesota graduate who studied economics in Hiroshima in 1997 and 1998, recalls: “My time in Hiroshima went down in the record books as two of the worst years for Japan's economy. But the affluence I witnessed in and around Hiroshima was a stark contrast to the scores of empty storefronts and offices in downtown Minneapolis, which was supposed to be booming at that time.”

Although Japan's real-estate crash in the early '90s has received plenty of attention, the construction boom Gronewold witnessed was no local phenomenon. As measured by the architectural Web site, 80 skyscrapers were built in Tokyo in the '90s, versus just 49 in the '80s (with skyscrapers being defined as buildings rising at least 115 feet). In Osaka, the total was 56 versus 18; in Yokohama, 19 versus none. London's total, by comparison, was 33 versus 28. New York actually registered a decline: Only 103 skyscrapers were built there in the '90s, versus 257 in the '80s.

There are still more ways to measure how well Japanese consumers have been doing:

  • Car-navigation systems. With 3 million systems sold annually, Japan is by far the largest market for these invaluable gadgets, which use satellite signals to pinpoint a car's position, suggest routes, and provide alerts on traffic jams.
  • The Internet. As reported by London-based Total Telecom Magazine, Japanese Internet connections are now not only the fastest in the world but also the cheapest, and Japan now leads the world in so-called FTTH (fiber to the home).
  • Mobile phones. Japan came from nowhere in the early '90s to establish a lead of 25 percent over the United States in the rate of mobile-phone ownership. Japanese mobile-phone networks now lead the world in service quality. By 2003, according to the Virginia-based consulting firm TMG, nearly 29 percent of the Japanese population enjoyed Internet service on their mobile phones. Such access was then still almost unknown in the United States.
  • Health care. Since 1990, Japan's excellent universal health-care system has cut infant mortality by more than one-quarter, to just 3.28 per 1,000 live births. At roughly half the American rate and a mere one-seventh of China's, that is nearly a world record. And even though the Japanese have been eating more unhealthy Western food, they are living longer than ever. They now live four years longer on average than Americans, and almost a decade longer than the Chinese.

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If Japanese consumers have made remarkable progress in recent years, the advances in Japanese industry have been stunning. Thanks to consistently heavy investment, Japan has made huge strides in industrial productivity. As Fortune magazine recently reported, Toyota Motor seems set to pass General Motors within the next two years to become the world's largest automaker. Back in Japan's “juggernaut” era of the late '80s, Toyota was still being outproduced more than 2 to 1 by GM and more than 50 percent by Ford.

Japanese workers these days typically work with 10 to 20 times the capital of their Chinese counterparts. The Japanese and the Chinese are thus positioned at opposite ends of the manufacturing spectrum -- a spectrum that has never been wider. The Japanese workers' huge productivity advantage is well illustrated by the fact that, according to the latest CIA figures, Japan is home to 57 percent of all the world's industrial robots.

Underlying all this has been a national strategy to surpass all foreign competition in investment. Completely overlooked by the American press, the result is that Japan has established monopolistic leadership in more and more areas of advanced manufacturing, particularly in producers' goods such as materials, components, and machine tools. Such monopolies constitute “chokepoints” that give Japan control over ever-larger swathes of the global industrial landscape.

One such chokepoint is Japan's little noticed but important lock on advanced lens cutting. Leadership in production of high-tech lenses helps explain why Japanese companies dominate the world market in everything from television studio equipment to endoscopes. Lens technology even gives Japan a crucial inside track in semiconductors. This is the single most important technology in creating so-called steppers, the photolithographic machines that print minute electrical circuits on silicon chips. Japan's champion lens cutters, Nikon and Canon, make more than two-thirds of the world's steppers.

Japan also monopolizes such important semiconductor-production equipment as photomasks, as well as key materials including silicon, gallium arsenide, and epoxy cresol novolac resin (with ever-purer versions needed for each new generation of computer chips).

Elsewhere in the electronics industry, Japan's hidden chokepoints include charge-coupled devices (essential in everything from home video cameras to guided missiles), high-tech batteries (vital in many portable devices, including advanced military equipment), and laser diodes (the enabling technology in the ever growing CD/DVD family of gadgets). In miniaturized disk-drive motors, Kyoto-based Nidec controls 90 percent of the world market. Its tiny, highly precise, almost silent motors are the key technology in the Apple iPod.

In mobile phones, the Japanese are likewise quietly dominant. Although Western brand names like Motorola and Nokia appear to lead the industry, today's sleek mobile phones would not exist without Japan. Two decades ago, Japanese electronics makers embarked on a massive government-led effort to miniaturize the various mobile-phone components. A survey by Deutsche Bank found that as of 2000, 29 of 36 suppliers of the nine key components in mobile phones were Japanese. And Japan also owns most of the world's optical-fiber production capacity.

Perhaps the single most surprising area of Japanese industrial success is aerospace. After decades of quietly capturing key chokepoints in avionics, carbon fiber, and titanium, Japan has now passed a fast-declining United States in all but name. One indicator is that -- as officially acknowledged by Boeing -- Japanese contractors will build 35 percent of the new super-advanced Boeing 787, a big jump over their 21-percent share of the Boeing 777. In the view of David J. Pritchard, co-author of a major study on the hollowing out of Boeing, the 787 will be more a Japanese plane than an American one.

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In short, the “lost decade” story was a hoax. The Western media were duped by a total reversal in Japan's public-relations program. Whereas Japan had once aggressively emphasized both its real and imaginary strengths, that emphasis switched in the 1990s to a highly counterintuitive “bad news” strategy.

The upbeat propaganda of the 1980s had been intended primarily as a defense in dumping lawsuits. Thus the American media were induced to publish greatly exaggerated claims of Japanese productivity. As noted by Pat Choate, an expert on the Japanese trade lobby, The Wall Street Journal proved particularly credulous.

After major American corporations laid off their factory workforces and switched to outsourcing, Japan's propaganda needs changed abruptly. As companies like Hewlett-Packard and Motorola stopped competing with the Japanese and started buying from them, the dumping litigation disappeared. America's trade deficits with Japan widened rapidly, prompting Washington to view Tokyo more and more as a power rival.

In the new circumstances, Japan's old super-economy image was not so much an irrelevance as a liability. Washington's mood softened remarkably, however, after the Tokyo stock market crashed in 1990. Assuming quite wrongly that the crash signified fundamental problems in Japan, Washington began expressing gentlemanly concern for the “fallen giant.”

Soon Japanese political and business leaders started to tell other sob stories. During the '80s they had carefully kept Japanese cities miraculously free of vagrants, thus fostering a myth that Japan was immune to the pathologies of lesser societies. In reality, as James Fallows has documented, down-and-outs had existed all along in Japan. But until the early '90s, homeless people had been kept hidden in remote ghettos such as Tokyo's Sanya district. The bad-news strategy called for a radical change: Suddenly, the homeless were given carte blanche to camp out in Tokyo's glitziest neighborhoods, such as the park opposite the swanky Imperial Hotel.

Another official gambit was to adopt highly conservative national accounting assumptions that drastically reduced Japan's apparent growth rate. Although both Japanese living standards and exports have palpably boomed in recent years, annual GDP growth is officially stated to have averaged only about 1 percent.

In keeping with this strategy, Japanese officials began beating their breasts about an apparently disastrous deterioration in public finance. One “footnote” has been omitted: Japan's official foreign-exchange reserves rocketed from $85.1 billion in 1989 to $840.6 billion at last count. In effect, the Japanese government has been borrowing to prop up not the Japanese economy but the American one.

Some of the sob stories had a basis in truth, but nonetheless greatly exaggerated the real trauma. Consider the banking crisis. Among Tokyo-based observers, this writer was virtually alone during the 1980s in predicting the banks' problems. These duly emerged in the early 1990s, but, despite all the misinformed alarmism in the American press, Japan never came close to a domino-style banking collapse.

Many prominent Japanese corporate chieftains compounded the jitters. In 1998, for instance, the president of Toyota Motor made world headlines when he suggested that a collapsing Japan could take the world financial system with it. This remark seemed on its face inexplicable. Certainly no one climbs to the top of a major corporation anywhere, least of all in Japan, by shouting “Fire!” in a crowded theater. If all the dramatis personae in the Japanese establishment knew that the fire alarm was merely part of a kabuki act, that would be different.

What is clear is that nothing in Toyota's own business experiences remotely justified that scary remark. In fact, Toyota's profits in 1998 represented a healthy 56-percent advance from 1989, a performance that put Ford and GM in the shade. The home market in Japan had remained profitable, as household car ownership increased by nearly 2.2 million in the '90s. And Japanese cars had become much larger and more luxuriously fitted, with the svelte Toyota Lexus, for instance, replacing the dowdy old Toyota Century as the executive limousine of choice.

If Japanese leaders put on a convincing impression of economic decline in the 1990s, it has to be admitted that Western commentators made a gullible audience. Many business correspondents wailed about corporate Japan's low profits, and, sure enough, profits are low in Japan. What those correspondents failed to understand is that in the Japanese system -- whose workings are consistently misunderstood by foreigners -- profits are a secondary consideration. That may seem surprising, but the fact is that even in the “juggernaut” years of the late '80s, Japanese corporations were notoriously unprofitable.

The further those commentators were from Japan, the more extreme were their assessments of the “basket case.” Take New York–based Karen Elliott House, who in 1992 compared the Japanese economy all too gleefully to children's toys called Shrinkies, which were advertised to “shrink right before your eyes.” Even the normally astute Paul Krugman, in a similar outburst of misplaced schadenfreude, recycled a myth that Tokyo had been reduced to building “bridges to nowhere” and “highways with no traffic” to stimulate the economy. Japan has no bridges to nowhere, and it is hard to build unnecessary highways in a nation with one of the highest ratios of cars to road space in the world.

For sheer absurdity, however, few observers came close to Michael E. Porter. In a book titled Can Japan Compete? Harvard's competitiveness oracle convinced himself that Japan had ceased to innovate by the mid-'80s. Thereafter, wrote Porter, its export drive had supposedly become increasingly dependent on industries so laughably low-tech they would embarrass an Afghanistan or a Peru. Among these were yeast, flaked cereal, and, most memorably, “raw bovine and equine hides”! For some reason Porter's list overlooked all the hundreds of high-tech products that were then -- as he was writing in 1999 -- driving not only Japan's export boom but the world technology revolution.

To be fair to Porter and many others who got the story wrong, it has to be added that key members of the Tokyo foreign community sought to mislead visiting Americans. It has always been so. As far back as the 1970s, Tokyo-based consultants were already suggesting that Japan's utterly closed market was one of the world's most open. In the 1990s, key analysts pitched in to support Japan's bad-news strategy. While that may seem surprising, several of the key analysts in Tokyo have consistently shied away from invitations to debate their doom-and-gloom take on post-bubble Japan.

If there is a moral in Japan's hidden strengths, it is this: Washington must address the implosion of advanced U.S. manufacturing. As a first step, policy-makers should take a jackhammer to Japan's closed markets.

Nearly a decade ago, U.S. trade negotiators chivalrously removed almost all pressure for Tokyo to open its markets. Today, even Japan's rice market is still tightly closed -- despite the fact that the American press announced with banner headlines in 1993 that the market had been opened.

For U.S. trade policy, the most outrageous failure has been the Japanese car market. Detroit's share in Japan fell to less than 0.5 percent in the late 1990s. Of course, Japan's trade lobbyists contend that Detroit does not make cars configured for Japan's drive-on-the-left roads. But this is blatant propaganda, as the Detroit companies have never had any trouble serving Britain, the world's other major drive-on-the-left market.

The ultimate smoking gun here is the plight of the Korean car industry. Its products have made inroads all over the world -- everywhere, that is, except Japan. While Japan has opened up in a token way to Korean electronics exports (Samsung in particular sells in Japan), Korean automakers are still completely excluded. Their sales in Japan last year came to just 2,930 units -- less than 0.04 percent of Toyota's output.

So why hasn't Detroit pressed harder for access? Up to the mid-'90s U.S. automakers did try to penetrate Japan, but they have since surrendered. The reason is that the Japanese corporate establishment is noted for the alacrity with which it retaliates against U.S. corporations that make trouble for its trade policy. Detroit used to be relatively immune from such pressure, but not any more. American car companies are now heavily dependent on Japan for key materials such as special steels, for precision components such as air-conditioning compressors, and, most of all, for such vital machine tools as painting robots and body presses. Which is to say that the U.S. auto companies are at the mercy of Japan's chokepoint strategy. If they were to make more than a token effort to fight Japanese mercantilism now, they would face certain retaliation.

All of which prompts another pertinent question: If America's largest manufacturing industry can't stand up to Japan anymore, which nation is really the basket case?

Eamonn Fingleton is the author, most recently, of Unsustainable: How Economic Dogma Is Destroying American Prosperity.