The Japan Times, Monday, January 23, 1978

Modern Nation Preserves Outdated Attitudes Key to Japan's Economic Ills is to Correct Inefficiency of Tertiary Industry - Service

By GREGORY CLARK Visiting Professor, Sophia University International Division

The key to Japan's economic problems may not be apparent to its leaders or economists. But to the average foreigner who has to live here it should be as obvious as the fact that a kilogram of beef costs more than a calculator embodying some of the world's finest technology, or that a meal out with the family can easily cost more than a very adequate color television set

In short, Japan's economy is hopelessly unbalanced: The nation with the world's highest productivity in much of its manufacturing (secondary) industry has one of the lowest productivities, relative to wages, in the primary (mainly agricultural) and tertiary (service) sectors of its economy. And while inefficiency in agriculture is something a modern economy can tolerate (since it represents a small and declining share of economic activity), the inefficiency in the service sector is a crippling burden even for an economy as strong as Japan's manufacturing, which amounts to little more than 30 per cent of the GNP of an advanced economy, has to compensate for the inefficiency in service, or 60 per cent of the economy.

To date, Japan has been able to make this compensation, thanks to the amazing growth of its manufacturing productivity. But this in turn has required rapidly growing domestic and export markets. As we see today, such a policy has its very clear limits. Japan has two ways to break out of this deadlock: (1) It can internationalize its economy: or (2) it can do something about its inefficient tertiary sector. The former involves far more than liberalizing imports of Australian beef or Californian oranges. It would require massive restructuring of Japan's manufacturing industry, with specialization in certain areas such as plant and heavy machinery and the abandoning of other areas such as textiles and even light electrical goods.

In other words, it would develop 'horizontal' trade in manufacturing, on the pattern of West Germany. As well, it would have to undertake massive investment in production overseas. I, for one, doubt whether Japan has the leadership, the international attitudes, or the time needed for such changes.

The second path is simpler, and its effects would be far more dramatic. To date, Japan has had to increase manufacturing output by 20% simply to get an annual 6 per cent GNP growth., Even with internationalization, the scope for further increases of this size is ruled out by the simple fact that the markets do not exist for the additional output.

The same GNP growth can be had, however, with only a 10 per cent annual growth in tertiary sector efficiency. And here there is virtually no market limitation, given the pent-up demand for services together with the well-known fact that rising GNP increases demand for services more rapidly than demand for goods.

The tertiary sector includes all activities that produce these services, from government and banking to education, transport, housing and distribution, if it is inefficient it is not because of objective problems such as lack of capital or technology. It is because of subjective factors directly related to the Japanese personality. The human-relations conservatism of the Japanese in anything involving services rather than manufacturing (men rather than machines) works to preserve attitudes that would make even a Tokugawa daimyo feel at home, even if the high level of information technology does allow some efficiencies in certain areas.

Where else in the world does business spend more on entertainment than the government spends on education (and not very good education at that)? It happens in Japan, thanks to the human-relations ethic which decrees maximum expenditure of time and entertainment on creating the right 'atmosphere' for any deal or sale.

Nowhere else in the advanced world could financial institutions survive with the outdated policies Japan allows. The housing industry is riddled with middlemen, restrictive practices and archaic land and rental policies. The distribution system is a maze of wasteful channels, markups and frills which survives largely due to the apathy of the Japanese consumer. Holding this melange of inefficiency together is the attitude of mind that says the 'human fabric' of Japanese society requires that in the service industries at least no one should ever be forced to change their way of life through exposure to competition or innovation - an attitude that has made the inefficient 'small- and medium-scale enterprise' almost as sacred a political cow as the rice farmer. (The same attitude could have crippled Japan's manufacturing growth. Fortunately it was counter-balanced by an even larger sacred cow - the goal of overtaking the industrial West.)

If the Japanese could break away from these inefficient, albeit not unattractive, attitudes the results would go well beyond finding a new and more effective means of increasing the GNP. One by-product would be curbing inflation; the unusual gap between Japan's stable wholesale price index and its relentlessly rising consumer price index reflects almost exactly the gap between the ability to cover labor cost rises in manufacturing by increasing efficiency and the inability to produce any corresponding rise in distribution and retail efficiency.

Another result would be the stimulation of internal demand. A reduction in housing costs in particular could provide a major new lead sector for the economy. But the major gain would be the discovery of a way to raise GNP without having to increase exports, and so allowing the yen to move back to a more realistic level. Indeed, it might even work to increase imports, to the extent that improved distribution channels allowed more opportunities for foreign exporters.

There are signs already that the merits of this second path are being realized, even if only subconsciously. The Government is at least giving lip-service to the importance of the housing industry and the need to reduce excessive manpower in the national railways. Some Japanese financiers are beginning to improve their ways. Discount retailers, and the shakeup of some wholesale networks, promise some improvement in the distribution system. The Japanese consumer is showing slightly more discrimination than before. But the ground still to be covered is still enormous.

The legacy of the past that says making goods is more honorable than selling them, that any service - from a department store sale to a round of golf - must be accompanied by the most ostentatious use of labor, will take time to eradicate. The Government still persists with legislation deliberately protecting the inefficient; the opening of new supermarkets, for example, is strictly controlled.

Indeed, there are signs that the proportion employed in secondary-level wholesale and other wasteful middleman activities is rising. Everything from the sale of airline tickets to golf memberships now has to have its army of brokers. And while they, too, may improve the human relations 'atmosphere' they also frustrate direct and more efficient links between buyer and seller.

But the most frustrating aspect of it all is that any argument for a massive improvement in service efficiency meets a Luddite-like complaint that Japan could not hope to find employment for those forced out of their present inefficient employment.

Curiously, no one recalls that exactly the same argument could have been used to keep Japan's manufacturing industries in a state of Tokugawa backwardness. The other argument used is the simple prewar view that Japan must continue to give priority to manufacturing since it has to export to live, and the only thing it can export are its manufactured goods.

No one notes that, even allowing for OPEC, the share of imports in Japan's GNP is on a clearly declining trend, or that the surest way to cripple its export industries is to allow the yen to continue to rise. In the middle of the last century Japan, under pressure from the outside world, set out to transform itself from an agricultural to a manufacturing society. For more than 100 years it persisted single-mindedly, in this course, with a success beyond the wildest dreams of its original Meiji reformers.

What Japan now needs is another Meiji revolution, this time from a manufacturing-export society to a service-consumption society.

Can it make the change itself? Or does it need more outside pressure?

G. Clark is author or the prize-winning 'Nihonnjin-Yunilkusa no Gensen' (The SimulPress) and a specialist in Japan's direct investment overseas.