There is little question that after an abysmal 1998 and 1999 and the marked turnaround in the early ...
There is little question that after an abysmal 1998 and 1999 and the marked turnaround in the early part of this year, the soft stage of Japan's current economic recovery is now behind it. However, despite the near term peaking out of industrial production growth and a stabilisation in capex expansion, we believe the economy still has enough momentum to maintain current levels of growth into next year.
Even though economic growth in Japan may now be stabilising, the country has come sufficiently far in recent years so that a potential slowdown does not precipitate another major crash. While the world economy battles to adjust to a lower growth phase for the US, we expect to see Japan's economy maintain a 1-2% growth range over the next couple of years as it continues to make the structural changes required to build a strong base for sustained economic improvement.
The pressure to bring about these changes has come from a variety of sources. While the government has failed to actively encourage this shake-out in recent times, the corporates themselves have now taken up the banner. This change in attitude has been driven by a powerful combination of commercial reality and increasingly demanding shareholders, the latter owing much to the growth of foreign ownership.
For example, the practice of cosy cross-holdings between major Japanese companies is coming to an end with Merrill Lynch estimating that crossholdings as a percentage of the Tokyo Stock Exchange has fallen from a peak of over 54% to close to 40% today.
As these relationships have been unwound, companies have found themselves increasingly exposed to the demands of the financial markets. Foreign ownership of the TSE has now risen to close to 15% (according to Goldman Sachs) and alongside a growing trend for foreign companies such as Nissan and CitiGroup to take active stakes in Japanese companies, the pressure on corporate Japan to restructure, provide greater accountability and to deliver real shareholder value, is growing rapidly.
Japan's corporate heavyweights have historically prided themselves on their market share, seemingly regardless of the cost, and on the environment they were able to offer their employees. This, after all, was the basis of the economic miracle. But in today's global economy, employee welfare comes well down the list when it comes to building a successful enterprise.
Companies are increasingly focused on profits rather than sales and, as a result, this is the first generation of Japan's white-collar workers who can no longer rely on having a job for life.
Recent earnings data has provided encouraging evidence as sharp growth in corporate profits has been achieved despite no expansion in sales, suggesting a more disciplined approach from management and a break from historic patterns.
Japan is also taking a page from 1980s Britain as it seeks to address structural shortfalls by beginning a major programme of down sizing. One of the great drags on the modern Japanese economy has always been the over-capacity inherent to virtually all sectors of industry. Now though, the emphasis is on removing duplication and investing more responsibly into a company's future. Capital expenditure within Japanese companies has increasingly focused on raising productivity rather than expanding capacity, and debt levels have continued to fall as companies have shown a more responsible attitude to improvements in cashflow.
One of the most visible examples of this is provided by motoring giant Nissan. It has already closed three of its major manufacturing plants as part of a 15-20% total reduction in domestic capacity, one of the most aggressive down-sizings in Japanese history. The story is similar across a number of industries with the chemicals sector, for example, having already instigated large capacity reductions in a number of areas.
The rising sons
Just putting Japanese companies on the same footing as their Western rivals in terms of accounting standards and corporate governance will never be enough in itself to return the Japanese stock market to its former role as a world leader. But Japan's continued dominance in numerous, usually technology-focused, markets just might.
In telecommunications, for example, Japan will be the first country to move to the new third generation telecom system, providing both the service providers and the equipment suppliers with a decisive edge over their international competitors. While the rest of the world's telecom companies face large bills for new licences and expanding debt levels, Japanese operators have not had to pay for their third generation licences, releasing additional resources to invest in their underlying operations.
NTT DoCoMo, for example, has already become the largest internet service provider (ISP) in the country on the back of the phenomenal success of its I-Mode system. This product offers alternative internet connectivity to Europe's emerging Wap system and has already been operating for over a year and a half.
Digital consumer electronics is another area where Japan has stolen a lead. Japanese providers are leveraging off their traditional dominance of the world's TV, video and hi-fi markets, to steal a commanding lead in the emerging digital age of consumer electronics. The likes of Sony, Pioneer and Panasonic already enjoy substantial market shares in new digital audio/video products and it is a lead that they are unlikely to relinquish.
The Japanese auto industry also holds the keys to future growth. As a sector, it controls much of the more sophisticated technologies that could be central to the future development of the automobile. High among these is the new generation of hybrid cars, already on the road from Honda and Toyota, which combine a conventional petrol engine with a
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