COVER STORY • 3

W

hat Is Needed to
Improve the Nature of
Large Companies?

By Kentaro Sato

Main Points• Economic policies are an important aspect of national security. As
we have frequently seen in recent years, the effects of economic
sanctions differ significantly depending on the competitiveness ofcompanies in one’s own country.
• Global inflation means that the benefit to Japanese companies from
low interest rates will be increasingly limited. The competitivenessof large Japanese companies also affects exchange rates and thecurrent account balance.
• A higher level of multilingualism, going beyond the use of English
alone, will be advantageous when competing with other global
companies in consumer countries, primarily in Asia. Learning local
languages will also have the benefit of enhancing communication
with head offices in Japan.
• The fact that large companies have accumulated huge amounts ofcash over the years means that their competitiveness will diminish
significantly over the long term. They need to reinvest and pass on
the cash as wages.
• The evaluation of government policies is more effective if failures
as well as successes are verified objectively and quantitatively. The
quality of policy evaluation hinges on progress being made in
information disclosure.

National Security & Japanese Companies’
CompetitivenessThe end of the 1980s saw the end of the Cold War and major
moves toward globalization, and one of the biggest changes thisbrought about was that companies became increasingly independent
from nation-states. The 2008 Global Financial Crisis and the 2022
war in Ukraine have shown, however, that the relationship between
regional nation-states and corporate activities cannot be severed
even if it is attempted.
Since the beginning of the 21st century, various countries led by
the United States and Europe have imposed economic sanctions on
Iran, Myanmar, and Russia. These sanctions have accelerated moves
by companies based in the imposing countries to withdraw from themarkets of the sanctioned countries. With today’s global diversity ofvalues, it has become necessary to focus on the relationshipbetween companies and nation-states. The relevance of nationality incorporate activities can be seen as gradually diminishing, but when ahttps://www.jef.or.jp/journal/

Author Kentaro Satogovernment seeks to force companies to withdraw from designatedcountries, the question of whether a company owes allegiance to thecountry in which it is headquartered becomes decisive.
Even if we simply say economic sanctions use a country’s
companies, we need to understand that the effect of the sanctions
will differ decisively depending on those companies’ uniquecharacteristics and competitiveness. Let us consider the example ofJapan using Japanese companies to impose sanctions on Country A.
If Japanese companies have a large share of the supply chain in
Country A, Japan’s economic sanctions will have a huge effect. If
Japanese companies become unwilling to supply intermediate
goods, it will become difficult for many companies in Country A toproduce and sell their products. Conversely, if Japan is subjected toeconomic sanctions imposed by Country A, companies in Country A
will have difficulty maintaining a presence in the Japanese market. If
there are few companies in Country A with a significant position in
Japan’s supply chain, the effect on Japan’s economy will be
negligible. On the other hand, if Country A’s companies have many,various transactional relationships with Japanese companies, theeffect will be completely different. If non-Japanese companies
increase their share in Japan’s markets beyond current levels, amajor risk arises in that these companies may withdraw from Japanin the event of an emergency. At the same time, Japanese companies
having large shares in overseas markets strengthens Japan’s
security card. Companies’ competitiveness becomes a condition thatsignificantly restricts that country’s security strategy.
Looking at the period from the second oil crisis in the 1970s to the
1980s when major countries with advanced economies recorded
economic growth, intense trade friction emerged between Japan andthe US and other countries, but the competitiveness of Japanese
export-oriented manufacturers in particular has gradually been
declining since the 1990s. In some industries like automobiles andshipbuilding, Japanese companies have the majority of the Japanesemarket as well as large exports, while in areas like steel andsemiconductors, Japanese companies had large shares of the global
market in addition to in Japan, but today there are cases of nonJapanese companies making inroads into the Japanese market. In
addition, in new industries like software, there are many cases wherereliance on Japanese companies was low at the outset and continues
to be the case today. If this trend does not change for the next 10 or
20 years, it is certain that Japan’s degree of flexibility with regard tosecurity will decline significantly.
Japan SPOTLIGHT • November / December 2022

19

Changes in the Environment for Large Companies

flexibility in fiscal policy, which only plays a role in the public sector
areas of social security, industrial development, and education,
essentially decreases as well. Although their standards of living andcountry size are completely different from Japan, Turkey, Sri Lanka,
and Pakistan are countries that have not introduced effective
monetary and fiscal policies this year (2022) despite directly facing
inflation. What these countries have in common is that their current
account deficits have become chronic, and acquiring goods fromoverseas is becoming difficult.
Chart 1 shows Japan’s international balance of payments since1996. We can clearly see that the trade balance has trended negative
since the early 2010s, but at the same time the current accountbalance has been positive, propped up by the income transfer
balance. In the past, Japan’s positive current account balance was
supported by the trade surplus, but this has gradually fallen since the1990s. Despite this, Japan has been able to maintain a current
account surplus because of the large income transfer surplus fromgains on Japanese individuals’ and companies’ overseas investment,
and this portion remains. For government functions to be sufficient,
it would be preferable to keep the trade deficit to a minimum while
maintaining the income transfer surplus. Now, while the income
transfer balance is being maintained, is the last chance for Japanesecompanies to increase their competitiveness.

In the early 2010s, business results for major Japanesecompanies looked favorable in accounting terms, but as inflation
began to appear in major countries for the first time in some whilefrom around the spring of 2021, there have been signs of majorchanges in the environment for large companies. These companies
have been able to maintain their traditional Japanese management
and employment systems because for roughly 30 years they wereable to procure funds at low rates against a backdrop of loose
monetary policy. In addition, Japanese companies had fewer
production bases in consumer countries than they do today, andeasing monetary policy has also put downward pressure on the yen.
If Japan were to end its monetary easing, large Japanesecompanies would face investment risks that they have not had toaddress for close to 30 years. We now need to realize that the
problem of the huge amount of government bond holdings, which
has been a concern for a long time but has not had a noticeable
adverse effect on financial markets, could surface in an instant going
forward. It is better not to expect that the country can return to its
policy of ultra-low interest rates at any time.
Over roughly the past 30 years, Japanese companies have been
moving production bases to consumer countries. This is intended toreduce shipping costs and make it possible to respond flexibly to
Response to Globalization
local demand. As a result, a weak yen does not generate profit to thesame extent as in the 1990s. This does not mean, of course, that
In various studies of Japan’s economy, almost all cite the falling
there are no positive elements, including manufacturers that haveremained in Japan and industries
including tourism and services that
CHART 1
need so-called inbound demand, but
International balance of payments
it is true that this effect is less than(Vertical axis) 100 million yen
was previously the case.
400000Foreign exchange factors andcurrent account balances are also
300000important when considering
200000economic security. Continued large
current account deficits mean that
100000
foreign currency flows out of the0
country, making it difficult tointervene in the foreign exchange-100000
market. If it becomes difficult to(Horizontal axis) Year
-200000
prevent its own currency from
7
6
5
4
3
2
9
1
8
0
7
6
5
4
3
2
1
0
9
8
7
6
1
1
18 19 20 21 22
1
1
1
1
0
1
0
1
0
0
0
0
0
0
0
0
9
9
9
9
19 19 19 19 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20 20
depreciating, it becomes more
Secondary income transfer balance (net)Trade balance (net)Service balance (net)difficult for a country to implement
Primary income transfer balance (net)Current account balancemonetary policy that aims to
Source: Bank of Japan’s Time-Series Data Search website
stabilize prices. The degree of
20 Japan SPOTLIGHT • November / December 2022

CHART 2

Breakdown of Gross Domestic
Product by region (2021, US$)
Others –11%
Europe –22%

Asia –
39%

North America –28%

Source: International Monetary Fund databasebirthrate and aging population as a reason for the decline ofJapanese companies. This is because in addition to the contractionof the working-age population, the latent volume of end-use
consumption – the most important element of demand forcompanies – will decrease going forward. It is quite difficult to
expect domestic markets to show continuous growth in demand.
Looking overseas, on the other hand, developing countries in Asia
account for more than half of the world’s population, and regionswith latent consumption unlike anything seen in the past are
emerging one after the other. Many readers are likely to be surprised
that, as shown in Chart 2, Asia already has the largest economy interms of gross domestic production by region. The days when theG7 countries, primarily the US and European countries, accounted
for the majority of the global economy are increasingly in the past.i
Anyone can see that the amount of earnings that can be obtained
from these overseas markets offers a shortcut for enhancing
Japanese companies’ competitiveness.
Policy discussions in Japan on how to respond to globalization inrecent years have put English-language ability at the forefront. We
are seeing English-language support in government administration,companies adopting English as their official in-house language, andstepped-up hiring of English speakers. This alone is insufficient,ihowever, for making inroads into large consumer markets. It willtake time to enhance human capital in terms of language-related
reforms. Countries that are more advanced in terms of Englishlanguage capabilities (including regions where English was originally
the native language) are proceeding to move toward multilingualism
just as Japan is completing its English-language response
capabilities, and therefore it is quite possible that Japanesecompanies will find themselves to be in no better position in terms ofcompetitiveness.
Even though language education is expanding around the world, it
is not easy to change the fact that there are only a handful ofcountries in which the majority of the population is able tounderstand English at an advanced level. This is especially true when
we talk about understanding a foreign language with the same levelof intuition as one’s native language. In a majority of regions aroundthe world, the people who are comfortable using English tend to be
those with higher incomes (and in large cities in particular). At thesame time, the importance of consumption by the middle- andlower-income classes in countries including the Asian countries
mentioned previously is skyrocketing as their economies grow.
People other than those with high incomes need to be approached in
the local language. English-language services and capability aretaken for granted in competition among large companies withincreasingly international workforces, but going forward gaps will
emerge based on whether companies are able to approach groups
who do not use English. This strategy could be called meticulous
globalization.
The region from South Asia to Southeast Asia and China, with its
huge population and the world’s highest economic growth rates, isparticularly important for Japanese companies. When Japan accepts
immigrants and foreign workers, this region is likely to the source ofmost of those people.
Making inroads in consumer markets is not the only benefit frommultilingualism. To have quality communication between overseas
subsidiaries and affiliates and the head office in Japan, it is clearly
desirable to have some staff who are proficient in the local language.
Research in management and management history shows that for
many years Japanese companies have often tended to have more
Japanese staff in junior management positions at overseas
subsidiaries and affiliates compared with the American and European
staff at American and European companies. This is superior in terms

As of 2021, the G7 economies as a whole would not even account for 50% of the world’s economy. Moreover, in purchasing power parity (PPP) terms, which gives a more accurate
sense of economies in terms of economics, the GDPs of many emerging market countries become even larger. According to Deaton (2014), it is actually better to look at the size of
economies in terms of PPP-based GDP. At the same time, he also points out that there are significant differences in the ways the numbers used in PPP-derived GDP measurements
are obtained, resulting in large fluctuations.

Japan SPOTLIGHT • November / December 202221

of facilitating close communication with the head office in Japan.
Even though it is rather difficult to achieve, an organization withJapanese staff who understand the local language in relatively juniormanagement positions at overseas locations will have significant
strengths.
To date, discussions about internationalization and the issue of
immigration and foreign workers have only looked at the issues fromthe receiving side. Frankly speaking, it is from the perspective of“Which countries’ markets and workers will Japanese peoplechoose?” However, if we approach this from the perspective thatmany countries including China and India, which are experiencing
economic growth, are facing population declines,ii the discussion
becomes entirely different. With countries around the world looking
to attract human resources from other countries, I would like to lookat this from the perspective of “What can Japan do to be chosen byother countries?”

Ways of Using Surplus Resources
Today, the financial position of large companies is significantly
different from that at small and medium-sized companies. Certain
large companies are able to record very large internal reserves on
their books. Moreover, we should look at the fact that these internal
reserves have been maintained for more than 10 years.
Having large internal reserves is often criticized as meaning thatwages and reinvestment are low. I believe, however, that thiscriticism is based on a misunderstanding in which internal reserves
are being confused with a company’s cash assets, which is incorrect.
In accounting terms, internal reserves are called retained earnings,
and correspond to net assets minus share capital and capitalsurplus. The important point is that retained earnings (internal
reserves) are not limited to cash, and also include equipment andstructures.
During the 1970s and 1980s, Japanese companies, based onJapanese-style management, had large internal reserves and carriedout vigorous capital investment, and this created additional
economic growth.iii Apart from internal reserves, companies
distribute earnings as dividends to shareholders. If these dividends
are large, internal reserves become less. Traditionally, having large

internal reserves meant that dividends were low and earnings werepassed on to employees as wages or reinvested for the company’s
future. During this time, Japanese companies had large internal
reserves and kept dividends low to make large amounts ofreinvestment.
There are two main criticisms of internal reserves. The first is thateven if assets are buildings and other capital investment, it would bebetter to reinvest or distribute them as wages to employees. In otherwords, this is wasteful investment. Even if the amount of capital
investment itself is not the problem, it would not be unusual toquestion whether the capital investment is really contributing toenhanced competitiveness.
The second is that the cash assets portion of retained earnings is
not being used for wages or reinvestment and is in fact surplus
assets. Generally speaking, if a company holds large amounts ofcash internally, this will help to avoid default in the event of afinancial crisis or major shortfall in demand. It may be natural for
cash assets to swell immediately after a financial crisis, but having
this go on for an extended period, or increase further, presents thefollowing problems.
Compared with before the 1990s, many companies have become
able to procure funds in capital markets. It can also be said that itwas easier than had previously been the case for management totake on risk. Prior to the 1990s, only a very few companies that
already had large market shares were able to issue bonds andotherwise raise funds from capital markets, but in recent years rather
small companies and startups are using the equity market and bondmarket.
We can see why, having experienced the nonperforming loan
problem that lasted from the 1990s to the early 2000s and the 2008
Global Financial Crisis, large Japanese companies wanted to improvetheir financial position in case of an emergency. However, holding
large amounts of cash internally becomes a major negative factor interms of future growth. When capital markets were performing wellwhile being supported by financial easing by the central banks ofmajor countries, it was possible to take on risk and invest, and theyshould have used their cash for reinvestment. The argument is also
made for changing the tax code to reduce internal reserves, but theimportant thing is how to discourage companies from hoarding cashii Since 2020, there has also been a clear trend of declining birth rates in Western Europe and the United States, which have done a better job than South Korea and Japan incontrolling their declining birth rates. (World Bank website).
iii Japanese-style management and the Japanese-style employment system, as represented by lifetime (long-term) employment, seniority-based wages, and company-based labor
unions, are the management organization model typically seen at large Japanese companies. Some people agree with Mito, Ikeuchi, and Katsube (2011) that maintaining thecorporate organization is the most important principle, and that these three features were chosen as the most rational way to achieve this. In addition, even though there are various
views regarding when this system took root in Japan, there appears to be a consensus that these three features were most typically seen from the period of high growth to the
1980s.

22 Japan SPOTLIGHT • November / December 2022

internally.
In addition, in recent years large companies have been criticized
for using too much of their earnings for dividends and other returns
to shareholders and not enough for wages and reinvestment.
Increasing dividends to shareholders is useful over the short term
for securing funds by making the stock look attractive. Over the longterm, however, the most important thing is to secure a superior
workforce and increase reinvestment so that the organization canaddress growth areas. It has been pointed out that after a period ofhigh growth, large Japanese companies have low dividend payout
ratios, but since the beginning of the 21st century dividend payout
ratios have been rising.
In addition, in recent years people around the world have become
increasingly interested in businesses that emphasize sustainability
based on things like the Sustainable Development Goals.iv
Businesses that take into account issues like environmental issues
focusing on climate change and gender equality in particular tend tobe favored by investors. This trend is especially clear in Western
Europe and the US. Today, many companies are expected to act inways that run counter to conventional economic rationality, namely
economic stability and security, and sustainability. We frequently see
companies and other organizations make declarations that highlightsustainability, but there are still few cases in which actual
management in Japan has significantly changed how it allocatesinternal resources. It would actually be preferable for large Japanesecompanies to participate proactively in presenting new values incountries around the world.

Transformation of the Employment System
Large companies in Japan traditionally have had seniority-based
wages, lifetime employment, and company-based labor unions,meaning that corporate organizations operate in ways that contrast
with the employment systems in countries like the US. This model,
known as the “Japanese-style employment system,” became widelyadopted by large companies during the period of high growthfollowing World War II. The extremely strong competitiveness ofexport-oriented Japanese manufacturing companies meant that thestrengths of the Japanese system were highlighted in academia
during the 1970s and 1980s.v As Japan’s economic growth rates

have slowed significantly since the 1990s, however, increasing
concerns have been raised regarding the sustainability of the systemthat was maintained for more than 30 years. When comparing it withthe “job-based employment system” that is typical in the US today, it
is dangerous to consider the Japanese system to be unconditionallyinferior. Nevertheless, I would like to show that, compared with thehigh-growth period when the Japanese system took root, the merits
have diminished and the demerits have increased.
During the high-growth period when the Japanese-style
employment system spread, there was a strong sense ofencouraging employee retention. Until the 1960s, there were labor
shortages, in cities in particular, and the ratio of job openings to job
applicants was extremely high. This meant that companies haddifficulty attracting workers. In recruiting workers, the systempromised wages for a long period of time and meant that workers’
wages would rise the longer they stayed with the company,
incentives for workers to choose a large company that were typicalof the system. In addition, enhancing skills that are useful at one
company to create company-specific skills is cited as anotherstrength of the Japanese system.vi Japanese companies tend to hire
new graduates as a group and then train them in-house to develop
workers with skills that specifically fit the company.
On the other hand, this system has major harmful effects when acompany boldly attempts to enter a new industry. The skills required
differ markedly from past skills, and internal training requires
significant time and expense. Retraining older workers and managers
is particularly difficult. A job-based system in which workers actively
move from company to company is more advantageous for industrial
transformation.
Transforming the Japanese-style employment system will mean
reforms that at least temporarily inflict major pain. In addition, I
would note three points of caution. The first is the change fromseniority-based wages to wages based on the work a person does.
Whether or not the concept of the same wage for the same worktakes hold will significantly affect labor market mobility. The second
is the expansion of the safety net from the time a worker leaves theircompany until they are hired by another company. A weak safety net
will make it difficult for workers to move to different industries. The
third point is the emphasis on industry-based labor unions. The
Japanese system operates on the logic of the “company,” while a

iv There are two significantly divergent opinions as to why this type of investment is desirable. One is that even though profitability is the rational choice, investment should disregard
this rationality given the importance of these problems. The other is that if one takes a long-term investment perspective, the importance of climate change will be recognized to agreater extent than was previously the case, and this investment policy is therefore the most rational.
v The most famous of these is “Japan As Number One,” written by Japanologist Ezra Vogel, presumably for an American audience.
vi Koike (2005).

Japan SPOTLIGHT • November / December 202223

job-based system operates on the logic of “work.” This will affect thenegotiating strength of labor unions, which will therefore need tochange accordingly.
I believe that timing is the most important factor whentransforming employment systems and management systems. Thesetransformations need to be pursued when unemployment rates are
low and the financial environment is favorable. Forcibly
implementing transformation during a recession when earnings
strength has declined will only result in wage cutbacks, leading to an
adverse cycle in which consumption also falls. It is easier forcompanies to carry out major organizational transformation when
they have leeway in their financial position.

Necessary Perspectives in Verifying Policies
All policies entail PDCA (Plan – Do – Check – Act). Many policies
may give the impression of problems being identified at theexecution and improvement stages. Looking closely, however, we
can see that many projects have problems caused by things like anabsence, leniency, or misunderstanding in the policy evaluation that
goes unaddressed. Policymakers do not want to hear evaluations ofpolicies that do not succeed, meaning that the evaluation itself may
be done with a spirit of hesitancy. In addition, at times like elections,
voters think of policy evaluations as “things of the past,” whichmeans they do not carry much weight.
Policy evaluation is indispensable, especially for policies that do
not succeed.
It is not unusual for an evaluation made immediately after a policy
is announced to take on a life of its own. In these instances, it isoften the case that the policy’s evaluation is only somehow
remembered by the people involved. This article does not deny therole of involved parties’ recollections in policy evaluation, but looking
at policymaking and decision-making in Japan today, we can see that
objective evaluation, and especially after-the-fact quantitativeevaluation, is lacking.
It is bound to take time to have the basis for decision-making inplace and be able to make an objective evaluation. For example, ittakes time to prepare data for policy evaluation. To facilitate
objective, quantitative policy evaluation, the following three items
should be kept in mind.
The first is to expand the divisions that gather and put together thestatistics and other data related to the policy. Even if the survey
subject is the same, the meaning of the statistics can differ
completely depending on how useful the questions are. Therefore,
this should always be done by specialists.
The second is to incorporate outside perspectives and opinions.
24 Japan SPOTLIGHT • November / December 2022

Proactively disclosing information is the best and fastest way toincorporate objective information from an outside perspective in anatural way. If a large amount of information is disclosed, it isnatural that this will attract outsiders and to a certain extent will leadto an aggregate objective evaluation. It is important, however, toensure that the data is collected and released in a user-oriented
format. Japanese government statistics are not necessarily far
behind those of other countries in terms of volume, but there is amajor gap in terms of the methods and formats in which they are
released and in the ways they are used, which is very unfortunate.
In considering the use of data, several items for improvement
come to mind. The value of data deteriorates significantly if themethod for collecting statistics or the questions used frequently
change. This is because in many cases, the data only has meaning
after it is compared with historical data. There is also still the issue
of protecting personal information, but there is no question thatproactively disclosing individual data further raises the level of policy
evaluation. With society as a whole recognizing the importance ofdata analysis, we would hope that the government would take thelead in demonstrating models for information disclosure. From theperspective of economic security as well, the difference in usefulness
between policy evaluation using data and materials from one’s own
country and evaluation that relies on overseas cases cannot be
overstated.

References“The Economics of Work in Japan” (2005), Kazuo Koike; Toyo
Keizai Inc.
“Corporate Theory” (2011), Hiroshi Mito, Hideki Ikeuchi, Nobuo
Katsube; Yuhikaku Publishing Co., Ltd.
“Japan As Number One: Lessons for America” (1979), Ezra
Vogel (translated by Wakako Hironaka and Akiko Kimoto); TBSBRITANNICA Co., Ltd.
“The Great Escape: Health, Wealth, and the Origins ofInequality” (2014), Angus Deaton (translated by Yu Matsumoto);
Misuzu Shobo, Ltd.

Kentaro Sato’s research focuses on Japanese economic history and financial
history, especially investment banking. He holds a Master of Economics degreefrom the University of Tokyo and has been pursuing a doctorate there since2019.