Prepared for the IIPS Symposium on

Upcoming Changes in Japanese Society and theFuture Shape of the Nation
Tuesday, 6 December 2005TokyoSession 1

Portrait of a Depopulating Society−Diversifying Values and a More Mature Prosperity−

Akihiko Matsutani
Professor
National Graduate Institute for Policy Studies

Portrait of a Depopulating Society—Diversifying Values and a More Mature Prosperity—
Akihiko Matsutani
Professor
National Graduate Institute for Policy Studies
1 Changes in Corporate Behavior
This paper discusses—from a principally economic perspective—how conditions arelikely to change in light of the population decline and the responses that might berequired to ensure that these changes lead to prosperity.
First, one of the predicted changes associated with the decline in the population isa quantitative contraction in the economy. As shown in Figure 1, the author’s model
projects that national income will continue to rise until around 2010, when it will peak
and thereafter go into decline. The fact that the economy—which has up until now
been growing—will contract in size from now on represents a quantitative change andis likely to force changes in corporate behavior.
From “scale” to degree of added value
There will need to be a shift in corporate behavior from “scale” to degree of addedvalue. In general, Japanese companies follow a product sales strategy of “low-margin,high-turnover,” whereby products yielding a small per-unit profit are sold in volume
to generate a reasonable overall profit. At the very least, this strategy will no longer
work and it will no longer be possible to turn a profit through volume. As sales andproduction volumes decline every single year, companies cannot continue to operate
on an even keel with products that individually have little added value, and will thus
have to abandon their low-margin, high-turnover strategy. As well as being a naturaldevelopment, increasing the degree of added value in products—that is, raising theper-unit profit margin—is probably the only possible course of action.
There are two ways to increase per-unit profit (that is, to increase the degree ofadded value). One method is to reduce costs; the other is to increase retail prices.
However, it is extremely difficult to reduce costs in a contracting economy. This isbecause the most effective method of reducing costs is to make use of economies ofscale. If production volume is increasing from year to year, economy of scale operates
as a positive factor; however, if production volume is declining from year to year,
economy of scale has instead a negative effect and drives up costs. No matter how
much effort is made to reduce costs in other ways, this will do no more than maintainthe status quo, and it will be almost impossible to add more value by reducing costs.
Thus, the only remaining option is to increase the retail price. As competition is fierce,
however, it is not easy to raise prices like this. However, if a company is
manufacturing products that cannot be made in other countries or by other companies,
it will have more power to control prices and will be able to price its products in a
way that is relatively profitable. In the future there will likely be a seismic shift in theway businesses are run, as they make the transition from volume to quality and add
more value in this way; at the same time, companies will probably need to enhancetheir product development capability so as to increase the degree of value added.

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From process innovation to product innovation
Companies will surely also have to make the transition from so-called “processinnovation” (mechanizing manufacturing processes so as to drive down costs andpreserve profits) to “product innovation” (whereby they will maintain profitability bybringing out revolutionary new products). This would naturally lead to great
diversification in the way that businesses are run. With cost competition, competition
focuses on how costs can be reduced, and there is essentially little diversification inthe products manufactured. As the focus switches to product innovation, the keyissues are what to produce, what types of product within a particular product category
a company should target, and how the company should be run accordingly. Thus, it
seems there will naturally be enormous diversification in the way companies are run.
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Diversification in Patterns of Employment
In terms of corporate behavior, the changes described above are predicted. Othersignificant changes that can be imagined are changes leading to greater diversity,
brought about by diversification in patterns of employment. It is no exaggeration to
say that almost all workers in Japan still work within an employment system based on
lifetime employment and seniority-based pay—a highly characteristic feature of theJapanese economy. This system of lifetime employment and seniority-based wages
seems sure to collapse in the future.
Diversification in patterns of employment and lifestyles
The generally held view is that if the system of lifetime employment andseniority-based wages collapses, there will be a transition to a results-oriented
employment system with performance-based pay. This is naturally a possibility, but it
may not be the whole story. Even in the USA, where performance-based pay is firmly
established, a considerable proportion of workers are working within a system oflifetime employment. In the world of performance-based pay, making a personal
investment in order to get ahead may also entail the risk of pushing oneself too much,and there are reputedly many who put a premium on their own time and actively opt
for the lifetime employment system instead.
Although the phenomenon of the “freeter,” or serial part-timer, is now being
widely debated in Japan, this style of working is allegedly common in the USA andEurope. Briefly, such people work for a time to save money, then leave the companyand use the money they have saved to pursue the kind of interests in which they canengage only while young. When the money runs out, they start working again. In
present-day Japan, this way of working is highly disadvantageous, as under thecurrent system of employment “freeters” do not build up any seniority. However, if
the seniority-based wage system does collapse, this style of working will in general
no longer be disadvantageous, and the ranks of the “freeters” will likely increase
substantially. In short, when the system of lifetime employment and seniority-based
wages collapses, it is not likely to be replaced by any single dominant new paradigm;
rather, in one fell swoop a whole multiplicity of new ways of working will likely bespawned.
This diversification in patterns of employment will naturally be linked toincreasing lifestyle diversity. It is often said that Japan’s consumption structure ishomogenous—that is, that everyone wants the same type of products. Demand isfocused on the best selling item in any given product category. By comparison, the2consumption structures in Europe (in particular) and the USA are reputedly morediverse. There may be a variety of reasons for the homogeneity of the Japanese
consumption structure; however, the principal reason is probably the prevalence oflifetime employment and seniority-based wages.
The dominance of the system of lifetime employment and seniority-based wages
has encouraged a certain uniformity in people’s lifestyles, and as a result practically
all Japanese lead the same lifestyle. The fact that people are leading the same lifestylerooted in the same employment system naturally leads to uniformity in demand forproducts, and this would seem to account for the homogeneity in the Japanese
economy’s consumption structure. However, as mentioned earlier, a collapse in thesystem of lifetime employment and seniority-based wages will lead to significant
diversification in employment patterns and much wider diversity in people’s lifestyles.
From a purely economic perspective, this will naturally lead to more diversity inconsumption, and companies will have to respond to this much broader spectrum ofconsumer demand. At the same time, however, there is the possibility of a much more
sweeping change—that in the future social values will rapidly diversify.
Diversifying social values
In political science and sociology, social values are put forward as the values thatcome about through the existence of society. In post-war Japan, social values wereseemingly fairly homogenous. The social value that exemplified post-war Japanesesociety was probably in essence the drive to raise one’s income. After the war, thelabor force participation rate—the proportion of the population that isemployed—increased every year. Coupled with the march of technological progress,
this resulted in a rapid year-to-year increase in per capita national income in post-war
Japanese society. In short, for the Japanese it was virtually guaranteed that theirincome would continue to rise in practice. In this environment the principal social
value was probably the drive to earn more money. Rising incomes probably also
served to lend a sense of coherence and stability to Japanese society.
In sociological terms it is said that this is a value that grows stronger year by year,
and as such, it has come to serve as a unifying force in society. In that sense, theJapanese economy has continued to spawn this spreading social value—the drive forhigher earnings—and this has had a unifying and stabilizing effect on society.
However, it is possible that this will change drastically in the future.
It was predicted above that the economy would go into a steady decline after
peaking in around 2010. However, since the population is declining, per capita
national income will essentially remain unchanged. As per-capita national income
levels off, having hitherto risen consistently, this particular social value will at thevery least no longer continue to spread. At the same time, as employment patterns andlifestyles become more diverse, it is also debatable whether income will retain its
universal economic value. Thus, social values will become much more diverse. How
will society retain its unifying force? If society is completely stripped of its unifyingforce, social stability will suffer and other social problems will arise. How society canmaintain its unifying force is likely to become a topic of social policy debate. In anycase, it is likely that just as diversification in employment patterns brings about
lifestyle diversity, people’s social values will also diversify, causing wholesale
diversification throughout Japanese society.

33 A New Prosperity and the Conditions Necessary for Its Achievement
This diversification in both corporate behavior and people’s behavior is probablyinevitable. What of the “mature prosperity” described in the subtitle of this paper? As
yet, it is not known whether or not this prosperity will really be “mature”; however, as
it will at least be different from the type of prosperity experienced up to now, it could
well be described as a “new prosperity.” Amid this inevitable diversification it will benecessary to undertake the following three specific measures—which primarily raiseissues bound up with government public policy—in order to achieve this newprosperity.
(i) Switching to a consumer-driven economy
As the population ages in the future, the savings rate will naturally and inevitably
decline substantially. Since investment in Japan’s economy will inevitably decline,
Japan’s economy will rapidly contract unless consumption can compensate for thedeficit. It will thus be necessary to devise some means to make up for the investment
shortfall by increasing consumption. Japan must therefore switch over from an
investment-driven economy to a consumer-driven economy.
What will this require? In economic terms, companies have only the leeway
afforded them by their reduced investment, and this leeway must be used to increase
wages. Unless these funds are reallocated to wage increases, it will simply be
impossible to make up for the investment shortfall through increased consumption. In
short, it will be necessary to convert the Japanese economy to a consumer-driven
economy in order to ensure its continued stability in the future. It may well emergethat in order to achieve this the government will have to intervene in the labor market
more than in the past.
The terms “small government” and “big government” have recently been bandied
around; however, their usage has been completely misunderstood. The term “smallgovernment” is mistakenly used to denote government using a modest level of publicfinance; however, the difference between small government and big government
relates to governmental intervention in the market place—“big government” denotes
intervention in the market place whereas “small government” indicates lack ofintervention. The asymmetry of the labor market means that leaving the market alone
will not yield fair wage levels. Hence, in order to ensure fair wage levels, thegovernment will have to intervene. Using the definition above, it thus appears that in
the future the Japanese government will have to take a “big government” approach tothe economy—at least in regard to the labor market.
(ii) Greater emphasis on “soft” aspects of public policy
As the birth rate declines, society ages, and sweeping social changes occur, it isnaturally more vital than ever to maintain the foundations of society and the socialinfrastructure. As described previously, however, the savings rate has greatlydeclined; this would naturally seem to reduce Japan’s overall investment clout and inturn significantly reduce its ability to maintain the social infrastructure. According tothe author’s forecast, the permissible amount of public investment (the level of public
investment that the Japanese economy can realize) will almost halve in 30 years,declining by 47% over the period from 2000 to 2030. Thus, in the future demand forsocial infrastructure will diversify and grow; however, Japan will not have the savings
necessary to realize it.

4In this case it will be difficult for Japan to maintain the apparent “hardware” bias
in its existing public policy, whereby it promotes the welfare of the people andattempts to increase society’s efficiency by building roads and constructing various
other kinds of facility. For example, to resolve traffic congestion, the imposition oftraffic regulations would provide an alternative solution to widening the road. It
seems likely that if Japan is to change from road construction (that is, its“hardware-oriented” public policy) to traffic regulation (that is, a “software-oriented”
public policy), it will naturally have to chart a public-policy course that places greater
emphasis than before on these “software” aspects.
(iii) Reducing the scale of public finance and throwing off dependency on tax
increases
Finally, public finance (which lies at the heart of public policy) will play an evengreater and more significant role in the future, if this new prosperity is to be achieved.
Currently public finance and tax increases are duly under debate in Japan, and theauthor has consistently asserted that tax increases do not represent the way forward
for public finance in Japan.
As the ideals of public welfare and the welfare state have been pursued, publicfinance and national per-capita public expenditure in Japan have continued to growrapidly in the post-war period. Irrespective of the system’s pros and cons, this rapid
growth was made possible by the fact that the labor force participation rate (theproportion of people who were working) was increasing every year. The fact that theproportion of people working was on the increase meant that the overall capacity toshoulder the tax burden (which would also cover people who were not working) also
increased. Thus, although per-capita public expenditure was increasing, a certainbalance was maintained. However, from now on the labor force—that is, theproportion of people working—will decline year by year, which means that in themedium-to-long term the overall capacity to shoulder the tax burden (and covernon-working people) will decline year by year. Hence, the only way to keep thepublic coffers from bankruptcy will be to reduce per-capita public expenditure. Since
tax hikes will only serve to precipitate the collapse of the public finances at somestage, tax increases represent a course that should be avoided.
In terms of future fiscal policy, the decline in the population will at the very leastnecessitate a reduction in the scale of public finances—probably a reduction that isproportionate to the population decline. This should free Japan from its predilection
for relying on tax increases.
Within the realm of public policy, these measures essentially represent the basic
conditions that are required. The promotion of these basic conditions should allow a
new prosperity rooted in these basic conditions to emerge from the diversification ofcorporate and consumer behavior that will inevitably occur—a new prosperity thatwill characterize Japan’s shrinking society.

5Figure 1

Estimated national income

Figure 2

Efficiency in capital investment (increase in rate of labor productivity/rate of increase incapital equipment ratio)

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Figure 3

Wage levels classified by age group

Figure 4

Estimated national savings rate, consumption, and aggregate investment

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Figure 5

Estimated permissible expenditure on public works projects, and renewal and maintenancecosts

Figure 6Per-capita public expenditure and percentage of population that is of working age

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