ANALYSIS : Challenging the System : Trade Friction With Japan Gets Down to Basics: Is Its Entire Economy Stacked Against Free Trade?

The Bush Administration cited Japan for unfair trade practices on supercomputers, satellites and lumber Thursday. But the real focus was not on particular products--it was on a whole economic system.

Ultimately, the U.S. action stemmed from the growing belief that Japan’s economy is geared to what is called adversarial trade--importing reluctantly but exporting aggressively. That’s a way of benefiting from the other fellow’s market but denying him the benefit of your own--a particularly galling fault when the offender is a big economic power like Japan.

The Bush Administration, which is proposing talks with Japan on impediments to trade, is asking its Asian ally to shoulder the responsibilities that go with being a major nation, to grow up and no longer try to live at the expense of others.

Japan’s trade surpluses are unique. It sells more than it buys just about everywhere. To West Germany--one of the world’s great exporters--Japan sells $14 billion worth of goods but buys only $6 billion worth. To the European Community, Japan sells roughly $20 billion more than it buys; it sells more to Asia than it buys, and more to Latin America, and much more to the United States--which accounts for 37% of Japan’s exports.

Both friends and critics of Japan have acknowledged that it practices adversarial trade--a term coined three years ago by Peter F. Drucker, a longtime friend and adviser to Japanese industry. Drucker warned Japan at the time that keeping its markets closed while taking advantage of others would bring a reaction.

Reaction Growing

Now to some extent it has, although on Thursday Sen. Lloyd Bentsen (D.-Tex.) criticized the Administration’s action as “only a first step” that Japan already had been “able to water down.”

But reaction has been growing. Where for years Japan was admired for its hard work and industry, today its very system is being seen as a problem. In “Politics and Productivity,” a new book edited by University of California scholars Chalmers Johnson, Laura D’Andrea Tyson and John Zysman, the industrial policy that raised a defeated and hungry Japan to the heights of prosperity in a few decades is seen as a disturbing model for developing nations and a problem for the United States.

Other recent commentators have less kind things to say. One new book, “The Enigma of Japanese Power” by Karel van Wolferen, a Dutch journalist who has lived for 25 years in Japan, sees its industrial complex as a danger to itself and to the rest of the world. And the same thought is taken up by American journalist James Fallows in an Atlantic magazine article titled “Containing Japan,” using a term for America’s chief Asian ally that formerly was reserved for its principal ideological and military adversary, the Soviet Union.

The focus of all that criticism is much more than traditional trade matters--tariffs and other barriers. The charge is that Japan’s true trade barriers lie in its closed system of corporations, particularly the way its big companies organize in groups, hold each other’s stock and coordinate business activities. Here, that would be against U.S. antitrust laws; there, it’s standard business practice.

Groups are no secret. About 100 of Japan’s largest and best-known corporations belong to six groups of companies connected to banks or finance houses. The Mitsui group, for example, consists of 24 companies, including such familiar names as Toshiba and Toyota. The 21-company Sumitomo group includes NEC, the world’s largest semiconductor maker.

Exchange Information

The Dai-Ichi Kangyo Group includes Hitachi, a giant electrical and computer company, as well as Fujitsu, Japan’s leading computer maker, and 45 other big companies that in total employ 500,000 people and have total sales of 44 trillion yen--or $338 billion, slightly more than the combined revenues of General Motors, IBM and Exxon.

What do groups do? “Representatives of the group meet every three months to exchange information on business opportunities and, where applicable, to coordinate their companies’ activities,” says Dai-Ichi Kangyo in its annual report. They give preference to other group members in purchasing and trade business information.

To a Japanese observer such interconnections are no big deal. The six big groups, with 182 companies, are only the top level of a structure of business among Japan’s estimated 1.7 million companies, in which small firms serve big ones, and big companies have a responsibility for the well-being of the small--”as feudal lords and vassals had mutual obligations,” explains Bob Ching, the Shanghai-born head of Asian operations for Boston Consulting, who served 11 years in Japan.

The groups are “the tip of the iceberg of the shared purpose and vision that one feels in Japanese industry,” says William Ouchi, professor of management at the UCLA graduate business school. “What lies under the surface is a series of networks--financial networks and government-business networks, scientific networks and political and educational networks that jointly provide the interstitial tissue that knits it all together.”

Companies within the groups hold stock in each other--between 15% and 30% on average of a group member’s shares are held by other members, providing a stable source of ownership for group companies.

Cross-share holding, familiar from an earlier era in American business--when for example Du Pont held General Motors shares for decades--is common in Japan and thought to be a good idea by many U.S. business people.

Toyota owns more than 20% of the stock of Nippondenso and Aisin Seiko, its major parts suppliers, as a form of pledge or bond. The investment assures the supplier that if he makes capital investments--which ultimately benefit Toyota cars--he won’t be left in the lurch by the big company. U.S. car companies now are offering suppliers similar pledges by means of long-term contracts.

“The Japanese have a good understanding of supplier relationships,” says James Morgan, founder and president of Applied Materials, a Santa Clara, Calif., company that makes semiconductor manufacturing equipment. Fujitsu, for example, owns 21% of Advantest, a principal semiconductor equipment supplier. But Advantest supplies Fujitsu’s competitors, too. Why does Fujitsu permit that? “So they remain strong,” explains a Fujitsu executive. “If they are weak, they are no good to us.”

Members Come First

That’s nice, say trade experts, but a country that seeks to benefit from free markets internationally can’t fall back on group behavior at home. Both the U.S. and Japanese economies are theoretically open, says UC Berkeley business professor Michael Gerlach, but the word means different things when firms of one country habitually buy from one another and ignore bids from foreign competitors.

Bluntly put, U.S. companies or trade officials may press all they want for sales in Japan, but a group member’s supercomputer or semiconductor comes first.

U.S. semiconductors, for example, go in the motors of all the world’s cars--except Japanese cars. “Where we take 70% U.S. semiconductors,” says the head of one U.S. car company, “the Japanese maker will take less than 1%.” Why take any? Because the U.S. industry is technologically ahead in many semiconductor products. “The Japanese will only buy what they absolutely cannot make themselves,” says Robert Noyce, a U.S. semiconductor industry pioneer.

Sometimes discrimination against the U.S. supplier seems comic, as in the episode of Motorola’s cellular phones. The Japanese government, in an ostensible example of encouraging free trade and competition, gave out cellular telephone specifications for a partnership including Motorola, and one including Toyota. Toyota got the Tokyo-Osaka corridor through the populous heart of Japan; Motorola got the hinterland.

So the question on trade has become not whether Japan imports another supercomputer, but whether it changes its closed system. And to penetrate the system, trade advisers who have gained influence recently, such as former Commerce Department official Clyde Prestowitz, counsel the broad approach. Clearly, say these analysts, U.S. officials will never understand the true inner workings of Japan’s group culture, so they shouldn’t negotiate on details. Instead, they advise, require Japan to give U.S. products the same market share Japan’s products enjoy here. And let Japan work out ways to meet broad targets, they argue; it is the trading partner that must change.

Domestic Prices High

Which raises the question, Why should Japan change when its system has brought it success? The answer, say many experts, including Japanese officials, is that the price of Japan’s success is coming out of the hides of its own people.

Prices in Japan are high in order to provide a home market cushion of profit for Japanese companies competing in international trade. Buyers in Tokyo pay more so foreign customers in New York can pay less for Canon cameras, or Hitachi (Sears, RCA) TV sets and VCRs. Japanese telephone users pay more for phone calls than do Americans, so that suppliers to Nippon Telegraph & Telephone can support overseas business with home market profits. In the modernization of the phone system, prices being paid for fiber-optic cable are three times the world price--because Japanese cable suppliers are uncompetitive except in their home market.

That’s why economists figure the Japanese people, despite the strong yen and the fact that they have the world’s highest gross national product per person at $17,244, have 30% less purchasing power than the currency’s strength should warrant. That is, the Japanese people have lower purchasing power than they should because the goods are not available or they are unaffordable--as housing is in big cities.

The blame for that situation lies more in politics than economics, says Naohiro Amaya, a former vice minister of Japan’s renowned Ministry of International Trade and Industry (MITI) and one of the chief planners of his country’s postwar development. “After the war we put more emphasis on economic values than political values of freedom and democracy--but modern economies need democratic society,” says Amaya. “Of course we pay respect to the ideals of freedom and democracy, but in everyday life they are not implemented. If freedom prevailed, prices would go down.”

It’s Up to the People

Amaya equates political freedom with economic freedom--the principle that allowing products to compete freely and consumers to choose is the most just and democratic way to allocate resources in society.

Amaya is also saying Japan has unfinished business. “We are facing the question of what sort of relations we are going to have with the outside world and, domestically, what sort of political ideals we are going to pursue.” Now retired from government and serving as executive director of the Dentsu Institute for Human Studies, Amaya argues that if Japan is to change, its people will have to demand it.

Yet the country’s whole image and demeanor seem to refute him. In a time of restructuring in the West and perestroika in the East, Japan seems like a song from the 1950s. Big companies rule its business undisturbed, as elderly politicians survive the Recruit scandal and carry on quietly arranging things behind the scenes. Protest is scarcely seen or heard, even though millions of middle-class salary earners now reckon they will never be able to afford to buy a home.

Why are the Japanese people so apparently uncomplaining? Because rising standards of living since the war are better than anything that went before; Japan has always been a tough place to live. “One of the most difficult things for Americans to understand is the Japanese lack of opportunity,” says Jiro Tokuyama, senior adviser to the Mitsui Foundation and a Tokyo- and Harvard-educated, longtime student of the two societies. Japan is not only crowded, it is competitive; it has 120 million people living in a country the size of California (28 million population), and in the postwar years, 40 out of every 100 of them graduate from college and want good jobs. Before the war and throughout Japanese history, most of the people lived in villages, yet in the cities before the war, labor relations were violent.

There Is Change

Japan’s postwar solution was the corporate system, with a hierarchy of organizations and assured employment. It was stable, but also static. A man didn’t move from company to company, and companies didn’t hire talent away from each other.

But closed systems are challenged when conditions change. And change is occurring today as foreign firms demand a place in the Japanese market and Japanese companies move to foreign markets. Employees in new fields such as financial services are changing employers these days as premiums are paid to attract specialists and experts. “The group system is changing,” says Minoru Makihara, president of New York-based Mitsubishi International Corp., the U.S. arm of the 42-company Mitsubishi Group.

Companies are trimming staff, setting up dozens, even hundreds, of subsidiaries, often solely for the purpose of getting surplus employees off the payroll. Japan is seeing an entrepreneurial wave as members of the Japanese baby boom--those born during a population surge in the 1950s--are reaching 35 to 39 years old and hearing “up or out” at their companies.

And companies are changing to get more efficient and competitive for world markets--a surprise perhaps to many Americans who tend to overestimate Japan’s industry. The fact is, for all the sheltering and group cooperation, results overseas for Japanese companies have been mixed. Automobiles have been a big success, but telecommunications has not.

Similarly, despite advance publicity about their great size, Japanese financial companies have made negligible strides in financial services worldwide. The size of Japan’s brokerage houses, in any case, results from the fact that fixed commissions--and the profits they bring through restricted competition--are still in force in Japan as they have not been since 1975 in the United States.

Little Overseas Production

The comforts of the home market have made Japanese industry reluctant to go abroad before now. Although Japan accounts for almost 20% of the world’s industrial output, and its exports account for 10% of world trade, its companies on average have less than 5% of their production outside of Japan. This compares to 15% to 20% for West Germany, Britain and other major nations, and 17% for U.S. business. “It’s still a developing economy,” says Drucker of Japan today.

So it may be, because last week the Bush Administration gave Japan notice that it’s time to move on, as one would to an aging adolescent. For four decades now, Japan has been able to make its economic strides and practice adversarial trade without world retaliation, because it had both a big protector and a big customer in the United States. Now that protector and customer is demanding a change, asking Japan to look beyond its own needs and face new responsibility. That’s what the whole trade thing is about, not trade war but trade maturity.