Joi Ito's conversation with the living web.

April 2002 Archives

I was invited by Yotaro Kobayashi, the chairman of Fuji-Xerox and the Keizaidoyukai to give a speech at the Trilateral Commission about reform in Japan. I didn't know what the Trilateral Commission was when Kobayashi-san called me. A quick google pulled up a lot of rumors about it being a secret society to control the world.

The Trilateral FAQ says:

Is the Trilateral Commission secret?

A. Not at all. Right from the beginning, the Commission痴 membership list and informational materials on its aims and activities have been available to all free of charge. Each of the Commission痴 task force reports is publicly available, as is the publication providing extensive coverage of each annual plenary meeting. Information on the Commission痴 funding and major contributors is also available. The agenda and a list of participants for each plenary meeting are regularly distributed. Press conferences are held during the meetings, and draft task force reports are customarily made available to the press. Only the discussions at the meetings are kept 登ff-the-record,・to encourage frankness and maximize the learning process for members.

The conference was a lot of fun and a great chance to get feedback from some influential people about my thoughts as well as hear frank comments from them about their own thoughts. We had to cross a anti-war picket line in front of the State Department on the way to dinner, but other than that there were no problems.

Following is the text of the speech I gave. The speech was later picked up by the Asian Wall Street Journal. Thanks to David Farber for distributing the speech for feedback on his mailing list before I gave it and thanks to all of the people who helped me edit it.

Japan Reform and Recovery
Panel Comment by Joichi Ito
April 7, 2002
Trilateral Commission Annual Meeting
Washington D.C.


On the bus on the way to dinner last night, I overheard someone say, "The panel tomorrow on reform and recovery in Japan should be a short one. Maybe I'll have time for a nap." Well, I don't know about the recovery side, but reform is certainly moving forward. The fact that you have a 35 year old college drop-out entrepreneur instead of a 70 year old banker telling you that Japan is OK is evidence of that.

I would like to briefly describe what I think is going to happen to Japan, where we are now in that process, and what do we do afterwards. I would like to qualify my remarks by saying that I am not an economist or a historian, but I will make up for in honesty what I lack in knowledge and experience.

I believe that the primary problems facing Japan today are a dysfunctional or absent free market, an aging population and an impaired national balance sheet due to excessive and persistent bad debts. I believe the bad debt issue is being thoroughly discussed and considering the fact that it is probably about 1/12th of the financial savings of Japan, I believe the solution is a procedural one. The intense sense of urgency necessary to move reform ahead quickly as it has moved in countries such as Korea is hindered by the cushion of high savings.

I believe Japan has the resilience to rebound from a hard landing if we do it before the aging of Japan makes it impossible. I believe that Japanese entrepreneurialism after WWII shows that, given the opportunity, Japanese can be entrepreneurial, focused and efficient.

One of the biggest differences between the current crisis and the post-war period is that in 1950 there were 12.2 working-aged Japanese for every retirement-aged Japanese (although many were still engaged in primary industries such as farming). In 1995 there were 4.8 and according to the 1998 UN population projection based on a no-immigration policy, Japan will have 2.2 working aged Japanese per retirement aged Japanese in 2025 and 1.7 in 2050. It will be very difficult to revive a country when over a third of the population is retired.

The problem that needs to be solved for Japan to have a true productivity and growth revival is that of building new businesses that it can be competitive globally considering the recent changes in the global markets. Japan can no longer be competitive in manufacturing long-term considering the emergence of China and other competitors in Asia. Although Japan is still weak in these areas, a shift towards IT, bio-tech and service businesses is the only alternative. For this reallocation of human and financial resources to occur, a major change is required in Japan. Japan has historically been prone to reforms based on central planning rather than allowing free market forces to develop new industries. A market-oriented shift is the most efficient and appropriate. It is important to realize that in Japan, industries that have developed without government interference have been the most successful. The automobile and consumer electronics industries have been quite successful, but the sector of the economy that has been the most tightly controlled, the financial industry, has failed.

Many people blame the illiquidity of the equity markets on the ignorance of the Japanese people or the tax structure causing Japanese to keep their assets primarily in savings rather than in equity. In fact, the figures are even worse for new businesses, studies showing that only 1% of the population invests in start-ups. I believe that the Japanese people are in fact quite intelligent, the figures reflecting a very well founded belief that the markets are rigged against them.

The Japanese stock market has been a rigged market geared towards large institutions and "insiders", cross shareholdings making it even more opaque. Fund returns (ROI) are terrible and companies difficult to understand due to inadequate financial disclosures.

This has caused foreign investors to be wary of Japan, foreign investment per capita in Japan being $97 in 1999 compared to $1034 in the US, $199 in Korea and $1793 in Singapore. Notwithstanding, it is interesting to note that foreign investment in the Japanese stock market exceeds investments by Japanese individuals, clear evidence of distrust.

Japan has developed an educational system that filters an elite group of obedient and intelligent people to populate the government agencies and the large companies who are consequently awarded with a career of low risk and high return. The not-so elite end up in small business or even worse, new businesses, forced to take the high risks for lower return. This has caused a society where it is socially disrespected to be an entrepreneur. The total entrepreneurial activity in Japan is less than 2% of the population according to Global Entrepreneurship Monitor, whereas the in the US it is around 13%.

The "elite" in Japan who have been mandated with guiding Japan's resource allocation and direction maintain their power through a tight network of relationships and social contracts. These contracts fueled much of the productivity early on, but now hinder greatly Japan's ability to change. The collusion between bureaucracy, politics and business which was hailed as Japanese great strength is now its enemy.

Most employees in Nissan knew what it would take to turn Nissan around, but top management was unable to execute these changes because of the social contracts in place. The current CEO, Carlos Ghosn, although he is a great leader, made his biggest contribution by defaulting on social contracts

These networks of relationships cause business in Japan to be more about relationships and less about running efficient companies in productive markets. A reset of this power structure will create a risk/return model which is the core of a healthy market and new business growth. It will allow young people like me to take risks and create new businesses instead of spending our lives trying to climb the ladders of power inside of large Japanese companies.

I am not a nihilist, but I am comfortable with a certain level of anarchy, and I believe that this is necessary to create the true bottom of the market which will be the platform of rebuilding Japan. A soft landing with a false bottom will not root out the entrenched corruption and will not set in motion a true open and free market. Japan missed the opportunity to create such a market after the war because the American military government, in order to fight communism, allowed the old Japanese power structure to remain in pace. The current crisis may be a very important next step in a restructuring process that started with the Meiji restoration.

I want Prime Minister Koizumi to destroy the system. Many people of my generation call him "Koizumi the Destroyer". "Scrap and build" has become a popular phrase in Japan, but I believe that when we use that phrase most Japanese tend to focus on the build side and not enough on the scrap side. I would like to make no escape routes and suggest that we not talk about building until we finish scrapping. Many of my elders call me irresponsible to talk about scrapping without a plan in place, but I have yet to see a plan that has worked out the way economists have predicted, for that matter, any other planners have predicted. I believe that unleashing the entrepreneurial spirit in Japan on to a free and open market has a much better chance of success than some methodical plan created by economists and bureaucrats based on today's assumptions.

The key is to do it quickly. I do believe that things are moving in the right direction. Although Prime Minister Koizumi's popularity is waning, he has made it possible and popular to talk about destroying the system and has made it possible for people like me to say things like this at places like this today. The financial crisis is imminent, the political system is destabilized and there is a consumer confidence crisis.

Because of the rigidities built into the system, necessary change will force many large companies to collapse and the basic fabric of Japanese trust will be damaged causing a continuing increase in the crime, unemployment and the suicide rate short term. (Suicide in Japan is 30,000 per year vs. traffic accidents which kill only 10,000 per year.) I believe that an increased role of women, immigration, a proper representative political system with an elected prime minister, financial literacy and self-esteem will be essential elements of rebuilding Japan into a globally integrated and productive country. Although many Japanese are trying to back-pedal on the commitment to implementing global best practices since Enron, I think that foreign investors such as Ripplewood and foreign CEO's such as Carlos Ghosn will help Japanese understand that companies can be competitive without being trapped within the fabric of traditional Japanese relationships. I believe that Japanese business has some great unique traits such as the hard working stick-to-it attitude of Japanese workers and the ideological flexibility that allows quick changes when necessary, but I believe these Japanese features will be of most value to Japanese business once we prove that we can manage a free and open market with global best practices.

This is a picture from my seat on the floor at the Trilateral Commission conference during a break. Interesting that I was seated next to Tim Collins... ;-)

Here is a picture of my bathtub at the hotel. Pretty bourgois, huh? ;-)

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