Japan WT/TPR/S/76
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I. ECONOMIC ENVIRONMENT
(1) MAIN ECONOMIC DEVELOPMENTS
1. Since Japan's previous Trade Policy Review in 1998, the Japanese economy has in the
aggregate shown negative growth, continuing the pa ttern of poor growth performance since the early
1990s.  However, real GDP grew 0.2% in 1999 and has shown signs of further strength in the first
half of 2000, suggesting that Japan may be extricat ing itself slowly from a severe economic situation.
In 1998, with real GDP shrinking of 2.5%, Japan was the only industrialized economy in recession
(Table I.1).  The main factors behind this shrinkage were the sharp drops in business investment and
private consumption.  The drop in business investment was the consequence of a 25% decline in
corporate profitability;  this, in turn, was due to low capacity utilization (in manufacturing) and falling
capital productivity, both of which reflect excess amounts of capital that were financed largely bydebt, prompting firms to slash investment as part of  their restructuring efforts.  The drop in private
consumption was due, inter alia,  to households' almost static disposable income together with their
growing insecurity, probably caused by the rise in unemployment and uncertainty surrounding the
sustainability of pensions and the social security system.
1  One of the few components of demand that
contributed positively to real GDP growth in 1998 was net exports of goods and services, along withGovernment spending on consumption.  This was reinforced in the fourth quarter of the year by a
rebound in public investment, reflecting public works projects implemented as a result of the
April 1998 fiscal package;  public works then surged in 1999 as a consequence of an additional fiscal
package in November 1998.  Having recovered in 1999 to 0.2% growth (and in fiscal year 1999 to
0.5%), real GDP growth is projected by the Government to be around 1.0% in FY2000.
2  Consumer
price inflation has been practically non-existent;  that is, only 0.6% in 1998 and -0.3% in 1999.  The
unemployment rate has continued to rise, reaching 4.7% in 1999, the highest level for four decades,although there are signs of improvement.
3
Table I.1
Selected macroeconomic indicators, 1990-99
(¥ trillion and per cent)
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999
Real economy (changes in %)
Real GDP 5.1 3.8 1.0 0.3 0.6 1.5 5.1 1.6 -2.5 0.2
Real domestic demand 5.2 2.9 0.4 0.1 0.1 2.3 5.7 0.1 -3.5 1.5a
Private consumption 4.4 2.5 2.1 1.2 1.9 2.1 2.9 1.0 -1.1 1.7a
Gross fixed investment 8.5 3.3 -1.5 -2.0 -0.8 1.7 11.1 -1.9 -8.8 1.2a
Government consumption 1.5 2.0 2.0 2.4 2.4 3.3 1.9 1.5 0.7 0.7a
Real exports of goods and services 6.9 5.2 4.9 1.3 4.6 5.4 6.3 11.6 -2.3 0.3a
Real imports of goods and services 7.9 -3.1 -0.7 -0.3 8.9 14.2 11.9 0.5 -7.5 1.1a
Household disposable income
(changes in %)6.1 6.2 3.9 2.5 2.7 1.9 2.6 1.3 0.3 ..
Prices (changes in %)
Consumer prices (CPI) 3.1 3.3 1.6 1.3 0.7 -0.1 0.1 1.8 0.6 -0.3
GDP deflator 2.3 2.7 1.7 0.6 0.2 -0.6 -1.4 0.3 0.3 -0.9
Table I.1 (cont'd)
                                                     
1 OECD (1999a), p. 37.
2 EPA (2000a).  Fiscal year (FY) runs from April to March.
3 For example, after peaking at 4.92% in March 2000, the unemployment rate fell to 4.56% in
May 2000.WT/TPR/S/76 Trade Policy Review
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1990 1991 1992 1993 1994 1995 1996 1997 1998 1999
Employment/unemployment
Employment (changes in %) 2.0 1.9 1.1 0.2 0.1 0.1 0.4 1.1 -0.6 -0.9a
Unemployment rate 2.1 2.1 2.2 2.5 2.9 3.2 3.4 3.4 4.1 4.7
Productivity (changes in %)
Labour productivityb3.0 1.8 -0.0 0.1 0.6 1.4 3.4 -0.3 .. ..
Money stock (end of year, % change)
M2 + CD s11.7 3.6 0.6 1.1 2.1 3.0 3.3 3.1 4.0 3.6
Interest rates (%)
Official discount rate 6.0 4.5 3.3 1.8 1.8 1.8 0.5 0.5 0.5 0.5
Exchange rate (¥ per US$) 144.8 134.7 126.7 111.2 102.2 94.1 108.8 121.0 130.9 113.9
Fiscal balance (% of GDP)
Revenue 34.2 33.8 33.2 32.1 32.1 32.0 31.7 31.7 30.8 30.5a
Expenditure 31.3 30.9 31.7 33.7 34.4 35.6 35.9 35.0 36.9 38.1a
Balance 2.9 2.9 1.5 -1.6 -2.3 -3.6 -4.2 -3.4 -6.0 -7.6a
Balance excluding social security -0.6 -0.8 -2.0 -4.8 -5.1 -6.4 -6.9 -6.0 -8.5 -9.9a
Government debtc61.4 58.2 59.8 63.0 69.4 76.0 80.6 84.7 97.3a105.4a
Saving and investment (% of GDP)
National saving (gross) 33.5 34.2 33.8 32.6 31.3 30.8 31.5 30.9 29.2 ..
Domestic investment (gross) 32.3 32.2 30.8 29.7 28.7 28.6 30.0 29.1 26.7 ..
Balance-of-payments
Current account (¥ trillions) 6.5 9.2 14.2 14.7 13.3 10.4 7.2 11.4 15.8 12.2
Current account (% of GDP) 1.5 2.0 3.0 3.1 2.8 2.1 1.4 2.2 3.2 2.5
Exports of goods and services (% of
GDP)10.9 10.4 10.3 9.5 9.5 9.6 10.2 11.4 11.4 10.6
Imports of goods and services (% of
GDP)10.0 8.8 8.1 7.2 7.4 8.2 9.7 10.2 9.5 9.1
.. Not available.
a Estimates.
b In terms of real GDP.
c General government gross financial liabilities, including the debt of the Japan Railway Settlement Corporation and the Inherit ed
Debt Fund from 1995 onwards.
Source: Information provided by the Japanese authorities;  IMF (2000);  OECD (1999b);  Bank of Japan (2000);  Japan
Productivity Center for Socio-economic Development (1999);  and WTO Secretariat calculations.
2. As a consequence of this sluggish economic performance, the Government has sought to
revive the economy through expansionary macroeconomic policies together with structural reforms.
Monetary and fiscal policies may be reaching their limits in this regard, however.  Indeed, after
maintaining what, in effect, constituted a zero-interest-rate monetary policy during much of the periodunder review, the Bank of Japan raised slightly one of its key interest rates in August 2000.
Moreover, with the fiscal deficit approaching 10%  of GDP in 1999, and government debt over 105%
of GDP and expected to rise to about 130% by the end of FY2000
4, there seems to be little scope for
further fiscal stimuli following the most recent fiscal package, amounting to roughly ¥18 trillion,
which was announced in November 1999.5  Hence, there now seems to be a broadly held view within
                                                     
4 Central and local government debt.
5 Bond markets have reacted negatively to the prospect of the Central Government issuing large
amounts of bonds.  Moody's, the U.S. credit rating agency, for example, cut Japan's debt rating by a notch inNovember 1998 and September 2000 because of a high level of public debt (in combination with low GDPgrowth and deflation);  as a consequence, Japan's yen-denominated debt is currently rated "Aa2", two notchesJapan WT/TPR/S/76
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Japan that the cause of the country's economic woes are mainly structural in nature and a sustained
recovery of the economy can be achieved only through more aggressive structural reforms that
enhance competition;  regulatory reform continues to be a key element of these structural reforms
(section (3)(iii)).
Table I.2
Shares of GDP and employment by sector, 1990-99
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999
Share of GDP
Total (¥ trillion) 430.0 458.3 471.0 475.4 479.3 483.2 500.3 509.6 498.5 495.1
Agriculture, forestry and fishing 2.5 2.4 2.3 2.1 2.1 1.9 1.9 1.7 1.7 ..
Mining 0.3 0.2 0.2 0.2 0.2 0.2 0.2 0.2 0.2 ..
Manufacturing 28.2 28.1 27.1 25.5 24.5 24.7 24.5 24.4 23.5 ..
Services 64.5 64.8 65.7 66.7 67.4 67.2 67.2 67.3 67.9 ..
Construction 10.1 10.2 10.4 10.8 10.8 10.4 10.3 9.8 9.3 ..
Electricity, gas and water 2.6 2.6 2.7 2.7 2.8 2.8 2.8 2.9 3.0 ..
Wholesale and retail trade 13.6 13.7 13.5 12.9 12.7 12.6 12.0 12.1 11.8 ..
Financial services and insurance 5.9 5.6 5.2 4.9 5.2 5.0 4.7 5.0 4.9 ..
Real estate 10.9 11.0 11.5 12.3 12.7 12.9 13.2 13.5 14.1 ..
Transport and communications 6.6 6.5 6.4 6.4 6.4 6.5 6.6 6.5 6.5 ..
Other services 14.8 15.2 16.0 16.7 16.8 17.0 17.6 17.5 18.3 ..
Government 7.6 7.5 7.6 7.7 7.9 8.0 8.0 8.0 8.3 ..
Non-profit services for households 2.0 2.0 2.0 2.1 2.2 2.3 2.3 2.4 2.5 ..
Import tax and other -5.2 -4.9 - 4.8 -4.3 -4.3 -4.4 -3.9 -4.4 -4.5 ..
Statistical discrepancy 0 -0.1 0 0.1 0.1 -0.1 -0.2 0.3 0.3 ..
Share of employment
Total (million) 62.5 63.7 64.4 64.5 64.5 64.6 64.9 65.6 65.1 ..
Agriculture and forestry 6.6 6.1 5.8 5.4 5.3 5.3 5.1 4.9 4.9 ..
Fishing 0.6 0.6 0.6 0.5 0.4 0.4 0.4 0.4 0.4 ..
Mining 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 ..
Manufacturing 24.1 24.3 24.4 23.7 23.2 22.5 22.3 22.0 21.2 ..
Services 65.0 65.3 65.5 66.6 67.1 67.9 68.4 68.8 69.5 ..
Construction 9.4 9.5 9.6 9.9 10.2 10.3 10.3 10.4 10.2 ..
Electricity, gas and water 0.5 0.5 0.5 0.5 0.6 0.7 0.6 0.5 0.6 ..
Transport and communications 6.0 5.9 6.0 6.1 6.1 6.2 6.3 6.3 6.2 ..
Wholesale and retail trade 22.6 22.5 22.3 22.4 22.4 22.4 22.6 22.5 22.8 ..
Share of employment
Financial services, insurance and real estate 4.1 4.1 4.1 4.0 4.1 4.1 3.9 3.9 3.9 ..
Other services 22.3 22.7 23.0 23.5 23.9 24.3 24.6 25.1 25.9 ..
Government 3.1 3.1 3.2 3.2 3.3 3.4 3.3 3.3 3.3 ..
.. Not available.
Source: Information provided by the Japanese authorities.
                                                                                                                                                                    
below the highest rating of "Aaa".  In June 2000, Fitch reduced Japan's local currency rating from "AAA" to
"AA+", again citing concern over the health of Japan's public finances.  By contrast, Standard and Poor hasmaintained its top ("AAA") rating for Japan's debt, demonstrating the degree of confusion among the majorinternational credit rating agencies concerning the Japanese economy.WT/TPR/S/76 Trade Policy Review
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3. Since 1997, the shares of services in GDP and total employment have continued to grow,
mainly at the expense of manufacturing (Table I.2).  Much of the growth of services' share in GDP
has occurred in real estate and "other services"6;  the shares of other services in employment have also
grown steadily.  Agriculture accounts for a small and declining share of GDP and employment;
OECD estimates suggest that total transfers were higher than the sector's value-added during the
period 1990-98 (Chapter IV(2)(i)).
(2) MACROECONOMIC POLICIES
(i) Monetary and exchange rate policies
4. During the period under review, the Bank of Japan (BOJ), whose formal independence was
strengthened in April 1998 (with the entry into force of the new Bank of Japan Law), has, in effect,
been pursuing a "zero-interest-rate policy" since February 1999, apparently as a temporary emergencymeasure.  While this policy was seemingly aimed primarily at arresting the deflationary spiral, it also
bolstered ailing banks (section (3)(ii)).
7  Negative rates of inflation in 1999 and early 2000 indicate
that the real interest rate may have been somewhat higher, however.8  It would appear that past
pressure by, inter alia,  the Ministry of Finance (MOF) on the BOJ to loosen monetary policy further
and, more recently, not to tighten it has been resisted by the BOJ on the grounds that Japan'sfundamental problem is not that monetary policy is too tight, but that resource use is inefficient, and
that the solution, therefore, is structural reform.  According to the Governor of the BOJ, the zero-
interest-rate policy might create moral hazard in the private sector and, as a consequence, delay the
necessary structural adjustments.
9
5. More specifically, some members of the Policy Board of the BOJ, which has price stability as
its main goal10, appear to believe that an artificially low cost of credit constitutes an effective subsidy
for companies, permitting them to operate as be fore – notwithstanding their inefficiency – and
postpone addressing their problems (section (3)(i)).  The implication is that raising interest rates
would induce struggling enterprises to restructur e themselves, perhaps freeing capital for more
productive uses.  In the event, the BOJ raised its uncollateralized overnight call rate to 0.25% in
August 2000.
6. Since the zero-interest-rate policy was introduced, banks' commercial lending has continued
to decline, as private credit demand has remained weak.  In such circumstances, they invest in
government bonds, which keeps long-term interest rates extremely low.  As low interest rates tend to
dampen the incentive to curb public spending, a great deal of capital has been channelled into cheap
loans to the Government for spending on public works.
                                                     
6 Services other than construction, electricity, gas and water, wholesale and retail trade, financial
services and insurance, real estate, and transportation and communications.
7 The official discount rate has been maintained at 0.5% since 1995.  The BOJ lowered the targeted
uncollateralized overnight call rate from a level just below 0.5% to around 0.25% in September 1998.  The BOJ
further encouraged the rate to move "as low as possible", to virtually zero, in February 1999.
8 Price deflation is probably significantly higher than that indicated by CPI, which is thought to suffer
from an upward bias of 0.9 of percentage point (Shiratsuka 1999).
9 Governor's reply to questions at a press conference on 12 April 2000.  The Bank of Japan Online
information.  Available at:  http://www.boj.or.jp/press/kisha058.htm.
10 According to the Bank of Japan Law, the objective of the Bank is "to issue banknotes and to carry
out currency and monetary control" and "to ensure smooth settlement of funds among banks and other financialinstitutions, thereby contributing to the maintenance of an orderly financial system." (Article 1).  The Law alsostipulates that currency and monetary control must pursue price stability for "the sound development of thenational economy" (Article 2).Japan WT/TPR/S/76
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7. During the past two years or so, the nominal exchange rate of the yen against the U.S. dollar
has fluctuated widely.  After falling to a 3½-year low of around ¥147 to the U.S. dollar in
August 1998, the yen recovered to around ¥109 in January 1999.  Subsequently, it traded within a
narrow range centred on ¥120 to the dollar until mid-July, possibly aided by mainly unilateral market
intervention by the authorities to prevent the currency from appreciating before the economy had
begun a self-sustained recovery.  While such intervention was seemingly interrupted inmid-July 1999, it resumed when the yen appreciated further, briefly reaching ¥102 to the dollar in
December 1999.  In the first half of 2000, the currency has depreciated somewhat, remaining within
the range ¥102-112 to the dollar.  The real effective exchange of the yen, after hitting a bottom in the
third quarter of 1998, continued appreciating until December 1999;  the rate declined slightly in the
first quarter of 2000.
8. As regards the external sector, Japan's current account surplus increased from 2.2% of GDP in
1997 to a ten-year peak of 3.2% in 1998 (Table I.3), reflecting the widening gap between national
saving and domestic investment (Box I.1), owing to  stagnating business investment;  this surplus
decreased to 2.5% in 1999.  Exports and imports of goods declined in 1999, despite a recovery of
exports to and imports from Asia.
Table I.3
Current and capital accounts, 1990-99(¥ trillion)
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999
Current account balance 6.5 9.2 14.2 14.7 13.3 10.4 7.2 11.4 15.8 12.2
Goods balance 10.1 12.9 15.8 15.5 14.7 12.3 9.1 12.3 16.0 14.0
Services balance -6.2 -5.6 -5.6 - 4.8 -4.9 -5.4 -6.8 -6.5 -6.5 -6.2
Goods and services balance 3.9 7.3 10.2 10.7 9.8 7.0 2.3 5.8 9.5 7.9
Income balance 3.3 3.5 4.5 4.5 4.1 4.2 5.8 6.7 7.4 5.7
Exports of goods, services and income 64.4 66.5 66.4 61.6 61.2 64.5 75.4 84.8 84.5 74.2
Imports of goods, services and income 57.3 55.7 51.7 46.3 47.2 53.4 67.2 72.3 67.5 60.7
Net transfer balance -0.7 -1.6 -0.5 -0.6 -0.6 -0.7 -1.0 -1.1 -1.1 -1.4
Capital and financial account balance -4. 9 -9.3 -12.9 -11.7 -9.0 -6.3 -3.3 -14.8 -17.3 -5.4
Financial account -4.7 -9.1 -12.8 -11.5 -8.8 -6.1 -3.0 -14.3 -15.4 -3.5
Capital account -0.2 -0.2 -0.2 - 0.2 -0.2 -0.2 -0.4 -0.5 -1.9 -1.9
Changes in Reserve Assets 1.4 1.1 -0.1 -3.0 -2.6 -5.4 -3.9 -0.8 1.0 -8.8
Statistical discrepancy -3.0 -1.0 -1.2 0.0 -1.8 1.3 0.1 4.2 0.6 2.0
Source: Bank of Japan.
9. A major development in Japan's balance of payments involves the volatility of portfolio
capital inflows, which fell in 1998, but rose strongly in 1999, thereby contributing to the appreciation
of the yen.  Portfolio inflows were eleven to  twelve times inflows of FDI in 1999.  Another
development was the increase in inflows of foreign direct investment, which reached about
¥2.4 trillion in FY1999 (exceeding the cumulative inflows of the two previous years);  inflows still
remained well below outflows, however, which were at ¥7.4 trillion.WT/TPR/S/76 Trade Policy Review
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Box I.1  Accounting for Japa n's current account surplus
In an open economy, the total output of goods and services available for purchase consists of domestic
production (Y) plus imports (M).  Total expenditure consists of domestic demand, which is the sum ofconsumption (C), investment (I) and government purchases (G), together with foreign demand, namelyexports (X).  As the value of total output must equal total expenditure, the equilibrium condition for GNP is:
Y = C + I + G + X – M. (1)
Thus, whereas exports add to Japan's GNP, imports do not do so directly;  imports add instead to the GNPs
of foreign countries.
The difference between export value of goods and services and the import value of goods and services is
known as the current account balance  (CA) so that:
CA = X – M. (2)
When a country's imports exceed its exports, it has as a current account deficit (CA-).  By contrast, when
exports exceed imports it has a current account surplus (CA+).  (In addition to net exports of goods and
services, the current account imbalance included net transfers, which are ignored to simplify the discussion.)
The difference between government purchases of goods and services (G) and taxes (T) is the government
budget (or fiscal) balance ;  a budget deficit arises when G exceeds T, while a budget surplus, or government
saving, occurs when T exceeds G.
As GNP (Y) is, by definition, equal to disposable income (DI), which can be either consumed or saved, plus
taxes (T) collected from households and firms,
Y = C + S + T. (3)
It follows from the GNP identity (1) and equations (2), (3) and (4) that:
CA = X – M = S  + (T - G) or CA =  NS - I, (4)
where national saving  (NS) is the sum of private saving (S) plus government saving (T-G).  In other words,
the current account surplus (CA+) must be equal to the amount by which national saving exceeds
investment.  This fundamental equation highlights the close relation between the trade surplus and the extentto which national saving exceeds investment.
As the current and capital account surpluses must  sum to zero under floating exchange rates,
CA+ + Net Capital Outflow = 0, (5)
which, when substituted into equation (4) gives:
NS - I = Net Capital Outflow. (6)
The last equation demonstrates that if Japan saves more than enough to meet domestic investment needs,
then the excess must flow abroad.  The resulting outflow of capital tends to drive down the exchange rateleading to a trade surplus.  As the Japanese Government is currently running a large budget deficit, thefundamental cause of Japan's present wide trade deficit is that private saving is far higher than domestic
investment.
Source: WTO Secretariat.Japan WT/TPR/S/76
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(ii) Fiscal policy
10. The zero-interest-rate monetary policy has been accompanied by an expansionary fiscal
policy.  During the period under review, the Gove rnment has implemented various fiscal stimulus
packages, namely the April and November 1998 packages involving ¥16 trillion and ¥17 trillion,
respectively;  a further package of ¥18 trillion was announced in November 1999.11  As a result, the
Central Government's fiscal deficit rose from a bout 6% of GDP in 1997 to almost 10% in 1999.  A
deficit of around 10% is projected for 2000.  The combination of large fiscal deficits, low growth in
real GDP, and non-existent inflation has resulted in mounting public debt, despite very low nominal
interest rates;  general government gross debt rose from 76% of GDP in 1995 to 105% in 1999, and,
according to IMF predictions, will hit 150% in 2004.  These figures exclude the debts of public
entities (outside general government), whose financial situation tends to be opaque, as well as avariety of contingent liabilities in the pension, banking and credit guarantee systems.
12  At the same
time, net interest payments on government debt ha ve also increased,  amounting to 2.2% of GDP in
FY1999.  While Japan's fiscal deficit and consequent public debt are large by international standards,
they do not appear to pose an immediate threat because private domestic saving is sufficient to
finance the deficit.  The build-up of public debt will eventually necessitate considerable fiscalconsolidation, involving both spending cuts and tax increases.
11. A major feature of recent fiscal packages on the expenditure side has been public works
projects.  These projects have been especially beneficial to domestic construction companies, many of
which are heavily indebted.  The share of foreign suppliers in Japan's public works projects was as at
least 0.04% in FY1997 (Chapter III(2)(vii));  a more competitive tendering system might have
reduced the cost of these projects, easing pressure on the fiscal accounts.
12. There have been some cuts in tax rates, notably those concerning corporate and personal
income taxes.  Nonetheless, the question arises as to whether more emphasis might not have been
placed on tax cuts rather than expenditure increases in providing a fiscal stimulus to the Japanese
economy and, at the same time, promoting structur al reform.  The Government Tax Commission is
currently considering reforms of the tax system by reviewing a number of taxes and tax measures;
such reforms include consolidated taxation and improved loss carry-forward provisions, which wouldfacilitate corporate restructuring.  However, the rise in government indebtedness probably reduces the
prospects that any reforms will involve substantial tax cuts.
(3) S
TRUCTURAL POLICIES
(i) Corporate restructuring
13. As a result of the recent recession and the bleak outlook for the economy during much of the
past decade, the corporate sector has had to confront several imbalances that have eroded companies'
profitability.  These imbalances involve excess capital and labour together with high levels of
long-term debt.
                                                     
11 As a result of these and previous fiscal packages, the Government has reportedly spent an estimated
¥100 000 b illion during the past decade.
12 The small business loan guarantees around ¥60 trillion (12% of GDP).  The Ministry of Finance
announced in 1999 that the Government would need to inject an estimated ¥5 trillion into state-run
infrastructure and other projects as subsidies;  the Japan Highway Corporation (¥3.4 trillion) and Housing Loan
Corporation (¥1.2 trillion) as well as the Export-Import Bank (¥188 billion) are among the entities most in need
of such assistance;  these organizations are financed by the Fiscal Investment and Loan Program.  In addition,there are the debts of so-called "third-sector companie s", which are generally cons idered to be local public
corporations.WT/TPR/S/76 Trade Policy Review
Page 8
14. According to the EPA, excess labour is of the order of 1.4 million employees, or 2.2% of total
employment13;  private sector estimates are much higher than these official figures.14  This situation is
largely due to Japan's strong attachment to lifetime employment, mainly found in its large
corporations.  However, anecdotal evidence suggests that firms have been starting to adjust their
labour forces during the review period, through attrition, increased early retirement, and across-the-
board wage cuts, which may explain the rise in unemployment and the steep fall in employment in theperiod 1998-99.  As discussed below (section (3)(v)),  the Government has taken measures to address
the deteriorating situation in the labour market.
15. Excess capital is reflected in unusually low capacity utilization in manufacturing and
declining capital productivity (i.e. a rising capital-output ratio).
15  According to EPA estimates, excess
capital is between ¥35 trillion and ¥52 trillion.  Excess capacity affects in particular steel, motorvehicles, cement, construction, gas stations, and department stores.
16. Japanese companies are highly leveraged by international standards and earn inadequate
returns on their assets.  The outcome is very low returns on equity;  the rate of return for all firms
listed on the first section of the Tokyo Stock Exchange was only 1% in FY1998.
16  In the face of a
deflationary environment, recent and planned changes in accounting rules17, and foreign pressure,
companies have taken steps to redress this situa tion.  They have not only cut back investment, as
discussed above, they have also announced their intentions to sell assets and restructure their
businesses.  Mergers have increased sharply during the review period;  in 1998, for example, there
were over 900, more than double the 1993 figure – the value of such activity rose from US$21 billion
to US$57 billion.  Bankruptcies have also risen substantially;  construction companies, manufacturers,
wholesalers,  and retailers were among the most vulnerable.18
17. An additional imbalance that companies need to confront is their inadequate funding of
pensions.  This situation is largely because until 1997, company pension funds had long been required
by government regulation to guarantee a 5.5% annual return on premiums paid.  Recently, actual
returns on most company pension fund investments have only been around 4%, however, as a
consequence of poor returns on equity and low interest rates, thus requiring companies to bridge the
gap.19  Under new accounting rules introduced in FY2000, companies must disclose any under-
funding and fund any shortages over 15 years.  A ccording to a report by the NLI Research Institute,
listed companies' pension plans are under-funded to the tune of ¥56 trillion on a consolidated basis;
the report estimates that the total annual burden over the next 15 years will be nearly ¥3 trillion, which
could squeeze combined parent-only pre-tax profits by 38% annually.  The decision by the
Government to allow companies to make up their pension shortfalls by contributing their cross-holdings along with the associated voting rights could have profound implications for corporate
governance in Japan, raising the possibility of powerful return-seeking funds exerting discipline on
corporate managers.
                                                     
13 EPA (2000b).
14 OECD (1999a), p. 47.
15 OECD (1999a), pp. 54-55.
16 OECD (1999a), p. 55.
17 These changes include:  a move towards fiscal consolidation over a three-year period beginning in
FY1999;  and a shift from book-value to market-based accounts in 2001 in accordance with International
Accounting Standards.
18 According the Teikoku Data Bank, about 17,500 firms faced bankruptcy involving debts of
¥10 million or more in 1998;  the total debts of these firms amounted to ¥15.2 trillion.
19 OECD (1999a), p. 202.Japan WT/TPR/S/76
Page 9
(ii) Restructuring the financial system
18. Financial market liberalization is a cornerstone of recent structural reform efforts, with the
Government continuing to make progress in implementing the liberalization agenda set in 1997.
Popularly known as the "Big Bang", the purpose of these reforms is to create a "free, fair and global"
financial system (Chapter IV(5)(ii)) by, inter alia , allowing firms to provide various types of financial
services beyond existing borders of financial institutions (banks, insurance companies, or securitiescompanies), and opening the door to foreign institutions wishing to operate in Japan.  Financial
liberalization has the potential to reform Japan's traditional "main bank" system under which banks
extended loans to affiliated companies with littl e regard to credit risk, a practice that eventually
contributed to the financial problems both of the banks and of affiliated companies. Financial
liberalization is also creating new opportunities for household savings, such as fast-growing mutualfunds, which are more inclined to invest in new, fast-growing enterprises.  Financial liberalization is
thus likely to contribute to a more efficient allocation of savings.
19. At the same time, the Government has had to grapple with the threat to economic recovery
posed by the fragility of the financial system.  Accordingly, it has taken steps to recapitalize the
banking system, thus reducing the risk of a sy stemic collapse under the weight of non-performing
loans (NPLs).  Legislation passed in 1998 provided up to ¥60 trillion (12% of GDP) to address the
problem of NPLs.  While some insolvent institutions have been closed, two large banks were
temporarily nationalized and many others have received large injections of public capital.
20
Regulatory and supervisory responsibilities for banks have been transferred from the Ministry ofFinance to a new agency, the Financial Services Agency (FSA) and its parent body, the Financial
Reconstruction Commission (FRC).  Provisio ning standards have also been tightened.
20. Whereas the Government appears to have addressed the banking sector's problems
successfully, some life insurance companies still face severe balance-sheet problems.  The main
reason is that their actual rates of return have fallen short of the rates promised to policyholders;  the
causes of this so-called "negative spread" are similar to those underlying the inadequate funding of
private pension plans.  While there have been some signs of improvement recently (falls in the
cancellation and expiry of policies together with an increase in new contracts), life insurancecompanies are attracting increased regulatory attention  from the FSA.
(iii) Regulatory reform
21. The authorities continue to attach great importance to regulatory reform, which has the
potential to reduce costs and prices towards world levels, thereby stimulating private domestic
demand and growth.
21  A sustained effort has begun to reduce economic intervention in many sectors,
including financial services (Chapter IV(5)(ii)), telecommunications (Chapter IV(5)(iii)) and large
                                                     
20 The Prime Minister decided on 23 October 1998 to place the Long-Term Credit Bank of Japan, Ltd.
(LTCB) under special public management, or temporary nationalization, based on the report submitted by theLTCB to the Prime Minister according to the Law concerning Emergency Measures for the Revitalization of the
Functions of the Financial System (Financial Services Agency online information.  Available at:http://www.fsa.go.jp/danwa/danwae/ dan-e-1023.html.
21 OECD (1999c).  Surveys of price differences by MITI and the EPA show that Tokyo citizens paid
8% to 30% more (for purchases) than citizens of other major international cities in 1997.  In addition, Japanese
industries pay almost twice as much for non-manufacturing intermediate inputs compared with theircompetitors, and three or four times as much as thos e in emerging Asian countries.  According to the EPA,
deregulation contributed to a substantial increase in domestic demand between FY1990 and FY1997 (OECD,1999a, p. 208).WT/TPR/S/76 Trade Policy Review
Page 10
retail stores (Chapter III(5)(vii)).22  One of the most important developments in this regard was the
decision to move towards a regulatory framework based on "retroactive supervision" rather than
"prior intervention";  unlike the latter approach, which had restricted free and fair market competition,
the former accords a greater role to the judicial sy stem.  Another significant development involves the
modification of the price-setting methods of public utilities, notably those operating in the
telecommunications and domestic transportation sectors.  These modifications involved theintroduction of price flexibility, subject only to a cap (instead of fixing prices administratively on the
basis of full costs), and information disclosure requirements.  Electric utilities, which had already
been benefiting from competitive tendering by independent generators, can now choose their suppliers
to a certain extent (Chapter IV(3)(ii)).  Furthermore, to increase transparency of government policy
and related measures, in March 1999 the Government introduced a "public comment" system prior tomaking regulatory changes (Chapter II(2)(ii)).
22. In the Three-Year Program for Promoting Deregulation, introduced in April 1998, particular
emphasis is placed on the removal of barriers to the entry of foreign companies and their products into
the Japanese market.  The Program also stressed the importance of reviewing Japanese standards with
a view to ensuring that they conform as much as possible with international standards.  Since itsprevious Trade Policy Review, more industrial standards defined in the Japan Industrial Standards
have been aligned to international norms (Chapter III(2)(ix)).
(iv) Competition
23. Liberalization of trade and investment has provided a major stimulus to competition in Japan;
it is also an integral part of the Government's present efforts to promote structural reform.  By and
large, tariffs on manufactured goods have declined to low levels and non-tariff barriers have become
less pervasive;  moreover, considerable progress has been made recently in liberalizing certainservices, notably telecommunications and financial services.  As a result, Japanese consumers have
benefited increasingly from lower prices and a wider choice of these goods and services.  Insofar as
domestic producers use such goods and services as inputs, their competitiveness has also been
enhanced.  By contrast, some other sectors, partic ularly agriculture, have been largely exempt from
liberalization efforts and therefore competition, at c onsiderable cost to the economy;  not surprisingly,
productivity in agriculture has lagged behind that in manufacturing.
23
24. Measures have also been taken by the Japan Fair Trade Commission (JFTC) to increase
competition (Chapter III(5)(vii)).  These measures include the abolition of a number of exemptions
from the Anti-Monopoly Act (AMA);  as a result the number of exemptions under the AMA (and
other laws) dropped from 89 in 1996 to 22 in 2000.24  At the same time, following the modest increase
in its budget and staff, the role of the JFTC ha s been somewhat strengthened.  Moreover, judging
from the increased number of cases and actions taken, the JFTC has become rather more aggressive in
addressing private anti-competitive practices.  A majority of these cases involve bid-rigging in
connection with tenders for government procurement contracts.  However, the operation of the JFTC
may be hampered, inter alia , by its lack of resources .
                                                     
22 Deregulation measures affecting distribution, financial services, and telecommunications are thought
to have increased GDP by 1.7% (OECD, 1999a, p. 249).
23 Between 1995 and 1997, labour productivity in manufacturing increased by 7.1%, while that in
agriculture increased by 3.0% (MAFF, 1999).
24 The remaining 22 exemptions (Table III.14) include:   cartels concerning air and maritime transport;
cartels to prevent excessive competition in dry-cleaners, barbers, public bath houses, etc. cartels on exports by
exporters and trade associations;  rationalization cartels by  liquor businesses;  and cartels on fees for secondary
use of commercial phonograms.Japan WT/TPR/S/76
Page 11
(v) Labour market policies
25. The Government has taken measures to address the recent deterioration in the labour market
as reflected in the rise in and duration of unemployment.  Disbursements under the long-standing
Employment Adjustment Subsidy (EAS) programme ar e thought to have more than quadrupled since
FY1997 to reach ¥61 billion in FY1999;  the EAS cons ists of financial subsidies to help companies
overcome temporary demand shortfalls.  In the past, these subsidies have amounted to as much as halfof the wages of employees of major firms and two thirds of the wages of SMEs.  Assistance has also
been provided for hiring at recent start-up firms, job-related training at technical and professional
schools, local government temporary jobs, and employment of older workers, especially in high-
unemployment areas or in new and growing areas.
(vi) Public and private pension reform
26. Sluggish economic growth combined with a rapidly aging population pose a potentially
serious problem for the public pension (and health care) system, and thus fiscal policy, in the longer
term.  According to one study
25, in the absence of action to address the problem, the fiscal burden on
future generations could be 2.7 to 4.4 times that on present generations.  Doubts over the
sustainability of the scheme may well have contributed to weak private consumption and highpersonal saving.  In 1999, however, the Government announced plans to reform the scheme;  among
the measures included in the reform were increases in contributions, reductions in benefits, and an
increase in the age of eligibility.
26
27. Furthermore, in order to encourage private pensions, the Government is considering the use of
tax incentives for defined-contribution plans.  It has also lifted a part of the regulations concerning
employee pension funds.
(4) DEVELOPMENTS IN TRADE AND FOREIGN DIRECT INVESTMENT
28. During the period under review (1998-2000), Japan ran a merchandise trade surplus, which
stood at ¥14.0 trillion in 1999;  this contrasts with a deficit in services of ¥6.2 trillion.  Continuing the
trend observed since 1994, the ratios of exports and imports of goods and services to GDP increased
in 1998 to reach 11.4% and 9.5% respectively;  these declined somewhat in 1999, to 10.6% and 9.1%,
respectively.  Since 1997, both exports and imports of goods and services have decreased;  thedecrease in exports can be attributed to weaker demand, especially by the Asian economies, in the
aftermath of the crisis in the region, while the decrease in imports is the result of weak domestic
demand.  A larger decline in exports compared with imports has contributed to a fall in the current
account surplus in 1999.
                                                     
25 Takayama et al.  (1998).
26 The Ministry of Health and Welfare [Online]. Available at:  http://www.mhw.go.jp/
topics/nenkin/zaisei_20/00/ 0004.html.WT/TPR/S/76 Trade Policy Review
Page 12
Chart I.1
Merchandise trade by product, 1996 and 1999
1996 1999
(a)    Ex ports (f.o.b. )
Total: US$411.0 billion
(b) Imports (c.i.f.)
Total: US$349.2 billion Total: US$309.9 billion
Source:   UNSD, Comtrade database (SITC Rev. 3).Per cent
Chemicals
7.0
Agriculture
21.0
Other mining
5.5
Non-electrical 
machinery
4.2Other semi-manufactures
5.0Other consumer
 goods 
  9.7Fuels
17.4
Chemicals
6.5Total: US$417.1 billionIron & steel
   3.7Agriculture & mining  
                         2.6
Other consumer
 goods
10.5Agriculture & mining
                          2.5
Other electrical
machines
7.7Non-electrical 
machinery
13.3
Other transport 
equipment
 5.9
Automotive
 products
19.8
Agriculture 
19.3
Other consumer goods  
      10.3Fuels
16.1
Mining
21.6 Other 
mining
5.5
Other semi-manuf.
4.4Chemicals
7.3Iron & steel
   3.2
Mining
22.9Other semi-manufactures
4.7
Non-electrical
machinery
15.8Other 
transport 
equipment
  5.6Other  2.5
Automotive 
products
18.3
Other electrical 
machines
7.0Office machines & 
telecommunication equipment
22.9Other consumer
 goods         
9.9Chemicals
7.4Other semi-manuf. 
4.4
Office machines &
telecom. equipment
21.9Other  3.3
Transport equip.
 4.8
Non-electrical machinery
4.4Electrical machines
15.4Textiles & 
clothing
7.3Other
1.8
Electrical machines
17.9Transport equipment
 5.2Textiles &
 clothing 
6.8Other  
1.9Manufactures
94.1Manufactures
94.8
Manufactures
54.3Manufactures
57.3
Iron & steel
  1.3Iron & steel  
1.0Japan WT/TPR/S/76
Page 13
(i) Composition of merchandise trade
29. Manufactures accounted for about 94% of Japan's exports in 1999;  the share slightly declined
from 1996 (Chart I.1).  During the period 1997-99, machinery and transport equipment continued to
be Japan's most important merchandise export, accounting for 69% of total exports of goods in 1999
(Table AI.1).  Within machinery and transport equipment, the value of exports of automotive products
has increased every year since 1997,  growing at 6.8% in 1999.  Other major exports such as office
machines and telecommunications equipment and other non-electrical machinery declined in 1998,partly reflecting the negative effect of the Asian financial crisis on the domestic demand of Asian
economies, but grew substantially in 1999.
30. The share of manufactures in Japan's merchandise imports has increased steadily since 1997
(Table AI.2).  There has been a corresponding decline in the share of primary imports, from 44.4% to
40.8%.  Machinery and transport equipment continue to be the most important merchandise import in
Japan, with a share of 27.5% in 1999, up from 24.7% in 1997.  Chemicals, clothing and other
consumer goods have also contributed to the growth in imports of manufactures.
31. Intra-industry trade (the import and export of goods classified in the same product category)
accounted for some 37% of Japan's total merchandise trade in 1999, up 0.4 of a percentage point from
1996 (Chart I.2).  The level of Japan's intra-industry trade with the world has been lower than in most
OECD countries.  Japan's intra-industry trade with  Canada and the United States comprised about
35% of the trade between these countries in 1999, a decline of about five percentage points since1996;  bilateral intra-industry trade with the Europ ean Union and East Asia was higher, accounting for
about 40% and 38%, respectively.
0.05.010.015.020.025.030.035.040.045.050.0
1985 1990 1996 1997 1998 1999Chart  I.2
Intra-industry trade of Japan by region, 1985-99
Source :  UNSD, Comtrade database (SITC Rev. 1 ).Per cent
EU(15)East Asia World
United States and CanadaWT/TPR/S/76 Trade Policy Review
Page 14
(ii) Direction of merchandise trade
32. The main destination of Japanese exports is the United States, whose importance has been
increasing, attracting 31% of total Japanese exports in 1999 (Chart I.3 and Table AI.3).  The share of
Asia declined during the period 1997-99, though it remained higher than Europe's and America's in
1998 and 1999, amounting to about 36% in 1999.  The relative share of Europe increased in 1998 by
three percentage points;  it declined in 1999 by one percentage point despite a 2.3% growth ofexports, reflecting higher growth of exports to  Asia (12.3%) and to the United States (8.2%).
33. The main suppliers of imports is the United States, with a share of 21.8% of Japan's total
imports in 1999 (Table AI.4).  The share of East Asia as a source of imports declined in 1998, but
increased in 1999 by 2.6 percentage points to 38.7%, up from its 1997 level (36%).
34. APEC's share of Japan's exports declined by four percentage points in 1998, but increased in
1999, to about 73% of the total.
(iii) Composition of trade in services
35. During the period 1997-99, Japanese cross-border sales (exports) and purchases (imports) of
services both declined;  in 1999, services exports and imports dropped by 15.1% and 10.5%,
respectively (Chart I.4 and Table AI.5).  Large defici ts occurred in travel, other business services,
transportation, and insurance;  trade in construction services was in surplus.
(iv) Foreign direct investment (FDI)
36. Since the previous Trade Policy Review of Japan, FDI inflows have increased significantly;
growth rates of some 97% and 79% were observe d in FY1998 and FY1999, respectively.  Investments
from the United States mainly contributed to the growth of inward FDI in 1998, while in 1999, a large
inflow of investment from France and the Netherlands was the main source of growth.  The outflows
of FDI from Japan declined in 1998, reflecting a decline in Japan's FDI into Asia, but increased in1999, with a strong growth of outward FDI into the United States (Table I.4).
37. Sectorally, a large increase of inward FDI was observed in financial services in 1998, and in
machinery and communications in 1999 (Table I.5) .  Outward FDI growth was prominent notably in
financial services and insurance in 1998, and food manufacturing and electrical machinery in 1999.
38. Foreign direct investment into Japan has traditionally been lower than its outward foreign
direct investment;  as noted by the Japan Investme nt Council in 1995, the low level of FDI into Japan
may be attributed to macroeconomic factors such as the appreciating trend of the yen, high costs of
business, and regulatory barriers.  Despite recent regulatory reforms and rising FDI, inflows are still
low by OECD countries' standards.  Although Japan is the OECD's second largest economy, it is
ranked as only 19
th with respect to FDI inflows.27
                                                     
27 OECD (1999d).Japan WT/TPR/S/76
Page 15
Chart I.3
Merchandise trade by country, 1996 and 1999
1996 1999
(a)    Ex ports (f.o.b. )
(b) Imports (c.i.f.)
Total: US$349.2 billion Total: US$309.9 billion
Source:   UNSD, Comtrade database (SITC Rev. 3).Per cent
Other East Asia
12.9
Other Europe
2.9
Korea, Rep. of
4.6 South Asia 1.1
Other East Asia
11.4Middle East
10.1
China
11.6Total: US$411.0 billion Total: US$417.1 billionMiddle East  2.4Other Europe  1.6
Africa 1.4Other America
5.9
Singapore
3.9Africa  1.3
Other East Asia
9.1China
5.6Oceania  2.5
South Asia 0.9
Other Europe
3.1Other America
5.6
Middle East
9.8
Oceania
5.0Korea, Rep. of
5.2
Other East Asia
11.5China
13.8Other Europe 
1.6
East Asia
35.5Chinese Taipei
6.3
China
5.3United States
27.5
Oceania 2.4
South Asia 1.1Hong Kong, China
6.2EU15
15.4Other America
5.3
East Asia
42.9East Asia
36.3Middle East
2.4
Chinese 
Taipei 6.9
Hong Kong, China  
5.3United States
31.1EU15
17.9
United States
22.8Other America
6.1
South Asia   0.9United States
21.8
Oceania
5.1EU15
14.1
Africa 1.4
Africa 1.3EU15
13.8
East Asia
38.7Singapore
5.1Korea, Rep. of
7.1
Korea, Rep. of
5.5
Chinese 
Taipei
4.3Indonesia
4.4Indonesia
4.1Chinese 
Taipei
4.1WT/TPR/S/76 Trade Policy Review
Page 16
0% 20% 40% 60% 80% 100%19951996199719981999
0% 50% 100%19931994199519961997Chart I.4
Composition of trade in services, 1995-99
Business, 
inc. computer & informationRoyalties and licence fees
Insurance FinancialConstruction
Other servicesImports Ex ports
Source : Bank of Japan.Transportation Travel
Table I.4
Inward and outward FDI flows by source and destination, FY1995-99
(¥ billion and per cent)
FY1995 FY1996 FY1997 FY1998 FY1999
Inward FDI
Total (¥ billion) 369.7 770.7 678.2 1,340.4 2,399.3
By source (percentage)
North America 48.3 31.7 22.4 60.4 17.4
United States 47.9 31.0 22.4 60.3 10.4
Canada 0.4 0.7 0.0 0.1 7.0
Europe 34.5 28.6 45.4 22.6 58.9
France 3.1 1.4 1.4 1.3 31.1
Germany 4.5 6.2 8.1 2.5 1.9
Netherlands 14.5 10.4 21.6 9.6 19.6
Switzerland 2.7 3.2 2.8 2.1 1.6
United Kingdom 3.1 5.3 6.6 2.8 3.7
A s i a 6 . 71 7 . 81 0 . 9 1 . 6 4 . 6
Hong Kong, China 0.7 2.3 6.0 0.4 0.5
Korea, Rep. of 2.5 1.0 1.2 0.1 0.4
Singapore 0.2 13.9 2.8 0.5 3.1
Chinese Taipei 2.7 0.3 0.7 0.4 0.6
Table I.4 (cont'd)Japan WT/TPR/S/76
Page 17
FY1995 FY1996 FY1997 FY1998 FY1999
Latin America 3.8 8.5 8.7 2.6 12.1
Cayman Islands 0.1 0.0 7.8 1.6 10.5
Virgin Islands (British) 0.5 4.4 0.7 0.1 1.0
Outward FDI
Total (¥ billion) 4,956.8 5,409.4 6,622.9 5,216.9 7,439.0
By destination (percentage)
North America 45.2 47.9 39.6 26.9 37.1
United States 44.1 45.8 38.5 25.3 33.4
Canada 1.1 2.1 1.1 1.5 3.7
L a t i n  A m e r i c a 7 . 5 9 . 31 1 . 71 5 . 91 1 . 2
Panama 3.3 2.1 2.1 2.6 2.1
Cayman Islands 1.3 2.2 4.7 11.0 3.4
Brazil 0.6 1.8 2.2 1.1 1.0
Virgin Islands (British) 0.3 1.6 1.3 0.4 1.6
Asia 24.0 24.2 22.6 16.0 10.7
Hong Kong, China 2.2 3.1 1.3 1.5 1.5
Indonesia 3.1 5.0 4.7 2.6 1.4
Korea, Republic of 0.9 0.9 0.8 0.7 1.5
Malaysia 1.1 1.2 1.5 1.3 0.8
Philippines 1.4 1.2 1.0 0.9 0.9
Singapore 2.3 2.3 3.4 1.6 1.4
Chinese Taipei 0.9 1.1 0.8 0.6 0.4
Thailand 2.4 2.9 3.5 3.4 1.2
China 8.7 5.2 3.7 2.6 1.1
Middle East 0.3 0.5 0.9 0.4 0.2
Europe 16.7 15.4 20.8 34.4 38.7
France 3.1 1.0 3.2 1.3 1.7
Germany 1.1 1.2 1.4 1.4 1.0
Netherlands 2.9 2.3 6.1 5.2 15.5
United Kingdom 6.7 7.2 7.6 24.0 17.6
Africa 0.7 0.9 0.6 1.1 0.8
Oceania 5.5 1.9 3.8 5.4 1.3
Australia 5.2 1.6 3.1 3.4 1.3
New Zealand 0.2 0.1 0.2 1.9 0.0
Source: Ministry of Finance.
Table I.5
Inward and outward FDI flows by activity, FY1995-99
(¥ billion and per cent)
FY1995 FY1996 FY1997 FY1998 FY1999
Inward FDI
Total (¥ billion) 369.7 770.7 678.2 1,340.1 2,399.3
By activity (percentage)
Manufacturing 38.2 40.4 39.4 23.3 40.8
Chemicals 29.6 9.0 10.9 3.0 2.5
Machinery 4.9 20.2 21.4 15.9 36.1
Non-manufacturing 61.8 59.6 60.6 76.7 59.2
Communications 1.4 0.3 0.5 1.3 13.8
Commerce and trading 18.4 21.6 14.7 13.1 14.5
Financial services and insurance 27.1 3.5 23.8 34.1 21.3
Outward FDI
Total (¥ billion) 4,956.8 5,409.4 6,622.9 5,216.9 7,439.0
Table I.5 (cont'd)WT/TPR/S/76 Trade Policy Review
Page 18
FY1995 FY1996 FY1997 FY1998 FY1999
By activity (percentage)
Manufacturing 36.8 42.2 35.8 30.1 63.4
Food 1.6 1.5 1.1 3.1 22.4
Chemicals 4.2 4.3 5.6 5.5 2.5
Ferrous and non-ferrous metals 3.0 5.1 2.6 3.0 2.2
Machinery 3.7 3.0 2.4 2.0 1.5
Electrical machinery 10.5 13.6 12.4 8.4 24.5
Transport equipment 3.9 8.1 5.4 3.9 7.2
Non-manufacturing 61.3 55.7 63.1 69.1 36.3
Mining 2.1 3.3 5.0 2.1 1.4
Commerce and trading 10.4 10.0 8.1 9.3 5.8
Financial services and insurance 10.6 16.2 22.2 40.2 14.8
Transportation 4.5 3.7 4.3 4.7 4.2
Real estate 11.7 12.9 10.3 6.9 3.2
Establishment of branches 1.9 2.1 1.1 0.9 0.3
Source: Ministry of Finance.
(5) PROSPECTS
39. There are tentative signs of moderate private-demand-based recovery in the Japanese
economy, although the strength of the recovery is not altogether clear owing to some technical
anomalies concerning the calculation of the official figures.28  According to these figures, real GDP
increased by 0.7% in the first quarter of 2000 (over the first quarter of 1999), driven mainly by
corporate investment, which was 3.7% higher than a year earlier.  This increase in corporate
investment is thought to be partly the result of a rise in corporate profitability.  But the strength of the
recovery remains to be seen, given the present high level of unemployment, which has contributed to
Japanese consumers' reluctance to spend and thus the fragility of consumption demand, persistent
downward pressure on prices, and declining net exports.  The recent strengthening of the yen, which
has appreciated considerably against the U.S. dollar (and Euro) since the middle of 1998, could causeexports to fall further (and imports to rise), possibl y weakening the recovery.  As the strength of the
economic recovery remains in some doubt, the Government is reportedly considering yet another
fiscal stimulus package.  The recent decision by the Bank of Japan to end its zero-interest-rate policy
has probably taken into account the likely impact of that decision not just on the exchange rate, but
also on the financial system as well as  on consumer spending and investment.
40. With the prospects for the economy apparently brightening, there is perhaps the danger that
the Government may waver in its resolve to cont inue to pursue structural reforms, thereby
jeopardizing a sustained recovery.  Indeed, there have been some recent signs of "reform fatigue"
(e.g. postponement of the introduction of consolidated taxation;  delays in pension reform;  two-year
delay in planned abolition of bank deposit safety net scheme/entry of non-financial groups intobanking sector).  Nonetheless, the Government doe s appear to believe in the need to intensify
regulatory and other structural reforms aimed at removing distortions to competition.
                                                     
28 These anomalies include: insufficient seasonal adjustment - no adjustment was made in the first
quarter of 2000 for the additional day (29 February), for example; and capital investment figures do not fullyinclude fast growing computer software.  GDP figures have sometimes been revised to reflect differences in theestimation method between quarterly and annual figures.