Today's date:
Fall 1987

Don't Blame It on Tokyo

Kenichi Ohmae - Ohmae is Japan's best known management consultant He is Director of the Tokyo office of McKinsey & Ca, the management consulting firm, and author of Beyond National Borders: Reflections on Japan and the World, Triad Power and The Mind of the Strategist. In the following comments, Mr. Ohmae discusses the myths about trade relations from the Japanese perspective and assesses the very different orientation of the coming generation of Japanese leaders.

1. Myths About Trade
- The controversy over trade deficits with Japan is a false issue. The real issue is the corporate strategy of American management which is increasing competitiveness by globalizing production. In one word, capitalism. American companies want to maximize return on investment and do not particularly care about how and where they do so.

The United States has developed trade deficits with almost all of its trading partners because American companies have the management capabilities to produce efficiently in Mexico, Taiwan, Japan or elsewhere and export products back to the US market.

In its criticism of Japan, the US government does not understand this. It worries instead about tonnage, dollars or yen crossing national boundaries. But trade deficit statistics are very superficial and only represent one aspect of the US-Japanese relationship. An examination of American corporate activities in Japan and Japanese corporate activities in the US reveals the true picture.

If we look at the activity of the top 2000 American companies operating in Japan during 1984, for example, we find that they had production of $43.9 billion in Japan, more than compensating for the US trade deficit with Japan that year of $31 billion. US companies also exported $25.6 billion to Japan that year. While Japanese companies had only $12.8 billion of production in the US in 1984, they exported $56.8 billion to US markets from Japan, including $19 billion in original-equipment-manufacturer (OEM) components to American companies. In sum, Japan purchased $69.5 billion of goods produced by US companies in 1984 and Americans bought $69.6 billion of goods produced by Japanese companies.

In this more accurate overall perspective. Japan and the United States are very nearly equal customers for each other's goods. The real issue then, is not an imbalance of purchases between Americans and Japanese, but where American corporations decide to produce and the effect of those decisions on employment.

Certainly, American management is not losing its competitiveness. On the contrary, US companies are getting stronger globally. Although the US share of manufactured exports has slipped from 12% to 8% on a world scale, US subsidiary operations overseas as a percentage of US export share of goods in the world market has risen to 14%. The situation is more striking in services. American companies have an expanding worldwide share in hotel chains, car rentals, computer software, telecommunications, hospital management, fast food chains, credit cards, life insurance and banking.

The fact is that America has lost interest in production. Seventy percent of the American workforce is already in the service sector. America has increasingly moved away from the production mode in its evolution towards a postindustrial society. As a result, America 'is not a very good place to manufacture anymore. It is hard to find skilled people, components, a flexible vendor relationship and above all, good manufacturing managers. The best people are not interested in production. They would rather come up with computer software or manipulate exchange rates on a computer screen than go through the blood, sweat and tears of assembling PCs.

The dwindling manufacturing base of the US is not a question of America vs. other countries. It has been America's choice. America's aspirations have changed from the time of Thomas Edison. Blaming Japan and Mexico or halving the dollar's value is not going to restore industrial competitiveness to America.

A Closed Market, or Americas Best Customer?
America has little reason to upbraid its best customer, Japan. In 1984, 71% of beef and veal exports from the US went to Japan; 29% of oranges and 56% of grapefruit exported from the US went to Japan. We are California's biggest market. Fifty percent of California's agricultural output goes to Japan. Thirty-eight percent of California's industrial output goes to Japan.

I accept that the Japanese market is very different from the US market. But when impatient American companies make three months effort at market penetration and find they can't speak the language or hire the right people, they get frustrated and conclude that Japan is a closed market. Then they go to Washington and file a trade complaint.

But what about all the successful American companies operating in Japan? IBM has 19,000 employees in Japan and had $6 billion of business and $1 billion in profit last year. Xerox, NCR, Texas Instruments, Kentucky Fried Chicken, 7-11, Denny's, Mister Donut, Lotus and Ore-Ida potatoes are all successful leaders in respective Japanese markets. They don't complain to Washington.

In agricultural products, the Japanese market is clearly not free because of the political clout of farmers which sustains the ruling political coalition. In the manufacturing sector, the only thing that is closed is coal.

Invisible, or non-tariff barriers are a more difficult subject to discuss. In the case of pharmaceuticals, what passes muster with the FDA in Washington must still go through a drug registration process in Japan, Some call this a non-tariff barrier. But we have to look at who's complaining.

Pfizer is very profitable in Japan. They patiently worked through the drug registration process and set up a sales and distribution network. Since they made it, they and other successful foreign manufacturers are not eager for the Japanese government to case the process for others, opening up a lucrative market to their competitors.

In cosmetics, the situation is similar. For Estee Lauder, which also markets Clinique, Japan is one of their best markets. They didn't complain about the regulation of skin cream content. They complied and built a fantastic market and reputation for their products.

NEC or Hitachi don't have the latest state-of-the-art LSI-256K production facilities in Japan; Texas Instruments does. In Japan, TI is the most competitive producer of semiconductors, which it exports to the US, albeit via Singapore for final assembly. No one hears Texas Instruments complaining about the closed Japanese market.

No two nations' economics have ever been so interwoven. The facts of interdependence simply belie the overblown rhetoric and political hypertones about closed markets.

Nakasone's Tie
When the US complained to Japan about not buying enough US goods last year, Prime Minister Nakasone went out, bought an American tic and implored every Japanese consumer to buy $100 worth of American goods. But what happened?

First of all, the logic of the whole proposal was flawed. Even though America's population is twice that of Japan's, we already consume roughly equal amounts of each other's goods, as I have already pointed out. That means that per capita Japanese consumption of American goods is already twice that of the US consumption of Japanese goods.

Second, I went out personally and bought a Wilson tennis racquet, but it was made in Hong Kong. I tried to drink more Coca Cola, but only the syrup concentrate comes from the US. And the well-known American catsup I put on my hamburger comes from Taiwan and Portugal.

Because American corporate management optimizes the location of production, buying goods with American labels does not mean buying goods produced in America. A product may say "IBM-PC assembled in Boca Raton, Florida," but perhaps only final assembly and quality control are taking place there. The components may be Japanese and the keyboards Korean.

Market Access for Third World Exports
Another complaint against Japan is that it takes only 9% of the manufactured exports from non-oil, less-developing countries, even though it is the second largest economy in the world.

To understand this, it is important to recognize that trade as a percentage of Japanese GNP is only about 13% because we have a very large domestic market. Trade constitutes 6% of GNP for the US.

Unlike the US, which has abundant natural resources and does not have to import them, the greatest portion of our imports are raw materials. So, naturally, as a percentage of total imports, the US share of manufactured goods from the Third World will be higher. Comparing the makeup of our imports with those of the US is unfair since we rely so heavily on the Third World for primary commodities and oil.

Lee Iacocca, among others, has said that Japan treats the rest of the world like a colony because we export manufactured goods and import raw materials. In fact, if Japan ever imported more manufactured goods than raw materials we would be in serious trouble. We have to run a surplus in exports of manufactures in order to pay for raw material imports. Otherwise, the Japanese engine would stop.

Our commodity imports are linked to the trade statistics in yet another way. Commodity prices, which have fallen about two-thirds since 1980, contribute significantly to Japan's trade surplus. In yen terms, oil and primary commodities are quite cheap now. Even though we are physically importing more, the trade statistics show a lower value of imports.

However, while our exports have declined 4% over the last year, the trade statistics show their value has increased 40% because exports are expressed in dollar terms. While Japan is headed toward a depression because of falling exports, the trade statistics show an increase in their value!

Using the dollar-devaluation strategy to correct the US-Japan trade imbalance has also paradoxically created less Japanese demand for US imports. Although America has changed the dollar parity with the yen, it hasn't changed dollar parity with other important currencies such as the Canadian, Australian, Malaysian and Taiwanese which have either stayed at parity with the dollar or become even weaker vis-à-vis the yen. So, sitting in Japan thinking about wheat imports, we now opt for Australia. For peanuts, we opt for China. For lumber, we import from Canada.

And, unlike Europe, Japan's neighbors are not yet at the state where they can export sophisticated finished goods. They are very good at producing lower-cost items like the Taiwanese shirts I wear. But Japanese consumers have not seen very satisfactory color TVs or VCRs from Korea.

Detroit Is Japan
Japanese car producers have been accused of stealing jobs from American workers. But the truth is that American auto companies are much more international than the image they project for consumer market purposes. For example, Ford owns about 25% of Mazda. General Motors is the largest shareholder in Isuzu at 34% and owns 5% of Suzuki. Chrysler owns 25% of Mitsubishi. The Mitsubishi relationship is about 15 years old, but the other stockholder positions were all taken during the recent years of trade strife.

Detroit also dominates the European market. Both GM and Ford have some 12% share of the pan-European market. They are at least as dominant as VW, Renault and Fiat in Europe. So where is the sad, depressed and weakening American auto industry?

There is also a very healthy component supply relationship that Detroit has with Japanese companies. Chrysler buys many components from Japan and so does GM. Between 30% and 40% of components that make up American cars are estimated to come from Japan.

The relationship between American and Japanese auto companies is not antagonistic at all. Detroit is Japan. Before quotas, Detroit knew that if it lost too much market share to the Japanese companies, they would have been able to gear up their own Japanese subsidiaries to really compete against the other American companies.

Lee Iacocca's doomsday depiction of the American auto industry several years ago was very far from the truth. American management is much smarter. Crying wolf is an American commercial tactic.

While Chrysler was in crisis Iacocca was selling Challenger and Sapporo - Mitsubishi cars! Although he criticized Japan like crazy in those days, the bulk of Chrysler profit contributions came from Mitsubishi subcompacts! So, while acting like a rational manager on the one hand, on the other he is screaming in political hyperbole about the Japanese peril.

Only the political message gets to Washington, which in turn escalates it for more mileage, politically that is, than they can get out of a Japanese subcompact. We have to realize that this myth-creating mechanism in the United States is founded on Japan's inability to counter the logic put forward by its Big Brother America.

American corporate managers are simply behaving as committed internationalists in the micro-economic decision-making of the firm, but the American political system and political debate does not reflect the real position of the American corporate world.

Auto Jobs
The problem of unemployment in the American auto industry is not the invasion of the Japanese but the invasion of technology. Over the last decade the number of Japanese auto workers has not grown while their output of autos has tripled. But during those same years, Detroit hired more workers when demand grew and fired them when it shrank.

So it is Detroit, not Tokyo, that has created the problem. While Detroit has continued to build cars with underdisciplined workers instead of automation, Japanese auto companies have reduced labor costs to only 6% of total production costs. In Japan, the nine passenger car companies - including Toyota and Nissan as well as all component suppliers and steel mill workers that provide the sheet metal for automobiles - employ only 600,000 people, who produce nearly 12 million cars a year. To produce roughly the same number of cars, the American auto industry has hired more than 2.5 million people.

Japan should not take the blame for unemployment which came as a result of tardy downsizing and automation Detroit needed to compete with the Toyotas of the world. At most, Japan can be blamed for unemployment caused by the 2.3 million cars we sell annually in the American market. And it takes Japan the equivalent of only 4.6% of the American auto industry workforce to make that many cars.

II. The Japanese View
Growing up in Japanese society, we were taught to listen to the teacher and the parents - the authorities - and to respect the wishes of others in the group.

A saying is drummed into our behavior: "Silence is golden; the nail that sticks up should be hammered down." We have been educated in this time-honored fashion to behave with reserve.

Every time the US makes an unfair accusation on trade or defense, we want to demonstrate to the American public that the accusation is untrue. But, instead, we submerge the urge and let it rest, aggravating the situation. We have considered Americans to be the authority. For a long time we accepted the postwar facts and tried to work toward accomplishing what the authority demanded.

Yet, we are increasingly angered and feel that it is totally unfair for Americans constantly to treat one nation with hostile overtones. It suggests that America doesn't care about the relationship. America cannot treat Israel this way, or France. They fight back.

It's instructive to remember what has happened in the past. Before World War II, we made our own statements and expressed our own feelings about what was right in Asia. America continuously put pressure on Japan to give up the Ryoto peninsula. America blocked us from access to Indonesian oil. At the Washington Conference in 1922, the US was granted a 40% superiority over Japan in capital ship tonnage.

Although we could have demonstrated our case that America was unjust in its demands, we could not speak up - at least in words and logic America would understand. We were angry, and that anger accumulated. The feeling built up among Japanese that America would never understand us. Then these feelings exploded. That psychology is building up in Japan again today.

Because of the dreadful experience we had 50 years ago, we must avoid the buildup of that kind of internal pressure. But if the sense of American misunderstanding is coupled with the present reality of a Japanese industry depressed by the US currency devaluation and export curbs, there is trouble ahead.

Rising unemployment - which could reach an unprecedented 7% to 10% over the next several years - is very unsettling for a society expecting lifetime employment. Because of overcapacity geared to export markets now being shut off, shipyards are empty; construction and stamping machinery lie unused. Then, emotions are really elevated when American congressmen crush Toshiba radios in front of Capitol Hill or someone like Cong. Richard Gephardt gets on TV and says, "The Japanese must be punished; they haven't listened to us." But we have been listening.

When this happens, I'm sure that for some industrialists, idle bulldozers begin to look like tanks and empty cargo ships like destroyers. And I'm sure that in the electronics industry, which is increasingly banned from exporting to the US, some executives now feel that guided missiles are only a bunch of semiconductors.

We should not give anybody the excuse to start back down the prewar path. While the probability of that is near zero, we should keep in mind that once Japan heads in that direction, there is little in the way of a safety mechanism.

The Next Generation Is Not Servile
Although this resentment is growing, those in power today who suffered from the war feel that they have learned their lesson and paid expensively for it. Prime Minister Nakasone is frustrated, but he says, "Look, there's no way we don't listen to America. We are not the French, the Germans or the British. We have to listen." His resigned posture is still probably supported by most Japanese.

However, the new generation of Japanese now in their 40s won't be so servile. We will not put up with the American myth-making mechanism because it contributes to the destruction of a very productive alliance between our countries. Our feeling is that we are a highly advanced industrial nation and should not be treated like a developing republic.

We differ from the current leadership, which grew up under General MacArthur's occupation. They will not stand up to Americans. When they go to America, they say, "Please understand our situation. Poor Japan has a very special situation." It's really disgraceful. We hate that. My generation finds their behavior totally humiliating.

My generation, which will come to power next, doesn't know defeat. If America continues to tighten the screws on Japan unreasonably and continues to behave like it is the center of the universe forever, our reaction is, "Let's play the American game." We'll talk back.

The kids below 30 years of age are a different species from my generation and the current leadership. They have only known affluence and they behave like Americans. They retain the traditional Japanese reserve in some ways but their aspirations are identical to those of California youth, whose lifestyle is as much their identity as anything Japanese. They like rock music, roller skating, surfing and American movies. They want a good personal life, don't worship emperors and refuse to sing national anthems - not because the anthems have implications from WWII, but because they are just old music.

These kids want to spend all their free time vacationing in Saipan or Hawaii. They may dedicate themselves to their wives, but not to their country or company.

Japan will be one big Singapore when that generation takes over the leadership. And if things don't work out here in Japan, they'll move to California.

III. Dilemmas of a Supercreditor
Japan's biggest problem today is not trade but too much money and too much 'industrial capacity. The financial surplus accumulating in Japan is not due primarily to our trade surplus with the US. In fact, what we have earned from the US has already been recycled back to the States. Last year, Japan earned $50 billion from the US and we put $100 billion back, mainly in Treasury bills, corporate securities and real estate.

The Japanese surplus comes primarily from personal savings and excess corporate liquidity Personal savings generate as much as $1 billion daily while companies pile up about $500 million a day. The corporate capital from profits was once used for new plant and equipment, but with overcapacity exacerbated by falling exports, that is no longer an outlet for investment.

So capital flows into the stock market, foreign exchange and real estate speculation. The price-earnings ratio on the Tokyo stock exchange has already been pushed up to an unsustainable 80 (compared to Standard & Poor's 20).

Prime Minister Nakasone has proposed pumping $35 billion into domestic stimulation both to reduce Japanese overcapacity and absorb more imports. Such an amount of money will certainly stimulate the domestic economy, but unless Japan liberalizes MacArthur-inspired land-use regulations which favor rice farmers, new housing construction will remain severely constrained. And there is no way the Japanese consumer can absorb more household products. We already have two or three TV sets and stereos.

Moreover, as much as 80% of Nakasone's $35 billion may drain away in real estate speculation. In crowded Tokyo, government 'investment in infrastructure will bid up already skyrocketing land values and sellers of land will undoubtedly take their sale proceeds to the stock market, driving it to further unsustainable highs. Other money will end up in foreign exchange speculation. It's now estimated that almost half of the daily Japanese surplus of $1.6 billion finds its way to foreign exchange and other high speculative instruments.

Simply, we have too much money with no place to invest but in more money. We have too much plant capacity to utilize without generating so many exports that we upset world trade balances. Continuing trade imbalances are not sustainable because they result in a stronger yen, which in turn leads to higher unemployment in Japan because exports become too expensive.

With falling exports and higher unemployment, tax revenues for government spending will constrict, causing a further contraction of domestic demand. The only way of avoiding a deepening recession then is to aggressively export, starting the vicious cycle over again. Protectionism will arise and even larger trade imbalances will drive the yen still higher.

Diversification and New Demand
The nature of the problem is that there is a worldwide shortage of investment opportunities. Still, the overwhelming percentage of the Japanese surplus, perhaps as much as two-thirds, goes to the United States because America needs cash and still is the largest consumer market. Return on investment in America is still relatively high compared with opportunities elsewhere.

But Japan will stop lending money to the States if the dollar, which has already lost 45% of its value vis-à-vis the yen in the last two years, continues to fall. The more we lend the less certain we become about not ending up with worthless paper. After all, the US trade deficit should be seen as accounts payable for its trade partners to buy American products in the future. For us, it has no other value than to buy something American.

As long as we concentrate our exports to the US, earn foreign exchange in greenbacks and recycle them, Japan will remain in trouble. The only strategy that will get us out of this hole is diversification of our export markets. But these potential markets - China, the Soviet Union, the Third World - must have far more consumer purchasing power than they now have in order to attract capital looking for good investment opportunities.

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