```

[Senate Hearing 109-894]
[From the U.S. Government Publishing Office]

                                                        S. Hrg. 109-894

                              A REVIEW OF
                          U.S.-JAPAN RELATIONS

=======================================================================

                                HEARING

                               BEFORE THE

                       SUBCOMMITTEE ON EAST ASIAN
                          AND PACIFIC AFFAIRS

                                 OF THE

                     COMMITTEE ON FOREIGN RELATIONS
                          UNITED STATES SENATE

                       ONE HUNDRED NINTH CONGRESS

                             FIRST SESSION

                               __________

                           SEPTEMBER 29, 2005

                               __________

       Printed for the use of the Committee on Foreign Relations

      Available via the World Wide Web: http://www.access.gpo.gov/
                            Congress.senate

                               __________

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                     COMMITTEE ON FOREIGN RELATIONS

                  RICHARD G. LUGAR, Indiana, Chairman

CHUCK HAGEL, Nebraska                JOSEPH R. BIDEN, Jr., Delaware
LINCOLN CHAFEE, Rhode Island         PAUL S. SARBANES, Maryland
GEORGE ALLEN, Virginia               CHRISTOPHER J. DODD, Connecticut
NORM COLEMAN, Minnesota              JOHN F. KERRY, Massachusetts
GEORGE V. VOINOVICH, Ohio            RUSSELL D. FEINGOLD, Wisconsin
LAMAR ALEXANDER, Tennessee           BARBARA BOXER, California
JOHN E. SUNUNU, New Hampshire        BILL NELSON, Florida
LISA MURKOWSKI, Alaska               BARACK OBAMA, Illinois
MEL MARTINEZ, Florida
                 Kenneth A. Myers, Jr., Staff Director
              Antony J. Blinken, Democratic Staff Director

                                 ------                                

                       SUBCOMMITTEE ON EAST ASIAN
                          AND PACIFIC AFFAIRS

                    LISA MURKOWSKI, Alaska, Chairman

LAMAR ALEXANDER, Tennessee           JOHN F. KERRY, Massachusetts
CHUCK HAGEL, Nebraska                JOSEPH R. BIDEN, Jr., Delaware
LINCOLN CHAFEE, Rhode Island         RUSSELL D. FEINGOLD, Wisconsin
GEORGE ALLEN, Virginia               BARACK OBAMA, Illinois

                                  (ii)

                            C O N T E N T S

                              ----------                              
                                                                   Page

Curtis, Dr. Gerald, Burgess Professor of Political Science, 
  Columbia 
  University.....................................................    23
    Prepared statement...........................................    26

Hill, Hon. Christopher R., Assistant Secretary for East Asian and 
  Pacific Affairs, Department of State, Washington, DC...........     4
    Prepared statement...........................................     6

Lawless, Hon. Richard P., Deputy Under Secretary for Asian-
  Pacific Affairs, Washington, DC................................     9
    Prepared statement...........................................    11

Macmillan, Stephen P., president and chief executive officer, 
  Stryker 
  Corporation on behalf of the Advanced Medical Technology 
  Association (AdvaMed)..........................................    31
    Prepared statement...........................................    32

Murkowski, Hon. Lisa , U.S. Senator from Alaska, opening 
  statement......................................................     1
    Prepared statement...........................................     3

Porges, Amelia, counsel, Sidley Austin Brown and Wood, LLP, 
  Washington, DC.................................................    37
    Prepared statement...........................................    39

              Additional Material Submitted for the Record

Coleman, Hon. Norm, U.S. Senator from Minnesota, prepared 
  statement......................................................    45

Responses of Secretary Hill to questions submitted by Senator 
  Coleman........................................................    46

Responses of Stephen P. Macmillan to questions submitted by 
  Senator 
  Coleman........................................................    47

Report--The Privitization of Japan Post: Ensuring Both a Viable 
  Post and a Level Playing Field (by Amelia Porges and Joy M. 
  Long)..........................................................    49

                                 (iii)

 
                    A REVIEW OF U.S.-JAPAN RELATIONS

                              ----------                              

                      THURSDAY, SEPTEMBER 29, 2005

                               U.S. Senate,
    Subcommittee on East Asian and Pacific Affairs,
                            Committee on Foreign Relations,
                                                     Washington DC.
    The committee met, pursuant to notice, at 2:30 p.m. in room 
SD-419 Dirksen Senate Office Building, Hon. Lisa Murkowski 
(chairman of the subcommittee) presiding.
    Present: Senators Murkowski and Kerry.

           OPENING STATEMENT OF HON. LISA MURKOWSKI,
                    U.S. SENATOR FROM ALASKA

    Senator Murkowski. Good afternoon and welcome to the 
Foreign Relations Subcommittee on East Asian and Pacific 
Affairs. Today we will be taking an overall look at U.S.-Japan 
relations and what policies we may need to pursue in the 
future.
    We are honored to have Assistant Secretary of State Chris 
Hill, and also Deputy Under Secretary of Defense Richard 
Lawless. I want to thank both of you gentlemen for your time in 
appearing before the subcommittee this afternoon.
    With all of the talk and attention on China these days, it 
is easy to perhaps overlook the fact that Japan remains the 
world's second largest economy--an economy three times larger 
than China's. Combined, the Unites States and Japan account for 
40 percent of the world's GDP. So it is a fair assessment to 
say that what impacts U.S.-Japan relations and our trade can 
also have a significant impact on the world's economy.
    I come from a State that is actually closer to Tokyo than 
it is to Washington, DC and I can verify it by looking at my 
flight miles. In fact, Japan has been Alaska's No. 1 trading 
partner for decades. It was back in 1965, Alaska became the 
first State to open a tradeoffice in Japan.
    It may surprise some of my colleagues to know that Alaska 
is the site of the United States' only LNG export terminal--we 
have been shipping liquefied natural gas to Japan since 1969, 
which accounts for 2 percent of Japan's natural gas 
consumption. In addition, Japan participated in the building of 
the Trans-Alaska Pipeline, supplying 500,000 tons of steel pipe 
when material was not available here at home. And of course, 
our seafood trade with Japan remains strong.
    We are proud to have a strong and vibrant Japanese-American 
population in our State playing an active role in State 
activities. Alaska-Japan ties are strong. On a personal note, 
and I've mentioned this before, it was with great sadness that 
I learned earlier this year that Japan is downgrading its 
consulate general in Alaska and reassigning Consul General 
Akihiro Aoki.
    But of course, no matter how much I might try to persuade 
you otherwise, U.S.-Japan relations are not all about Alaska. 
In my opinion, Japan is the United States' most important ally 
in the Asia region. They have been a steadfast partner in the 
war on terrorism, including the first-ever deployments of 
Japanese Self Defense Forces after the Japanese Diet gave 
unprecedented authority to provide ``rear area'' support to 
U.S. forces.
    Their support of our efforts in Afghanistan and Iraq is not 
just about personnel, but extends to financial assistance as 
well. They play a key role in the Six-Party Talks. I would also 
like to thank the Japanese people and Government for their 
generous offers of assistance to those impacted by Hurricanes 
Katrina and Rita.
    I want to also comment on the various proposals that have 
been submitted to expand permanent membership of the United 
Nations Security Council. With the second largest economy in 
the world, and contributing nearly 20 percent of the U.N.'s 
regular budget, in my opinion, if there is any nation that 
deserves a permanent seat on the Security Council, should it 
expand, it is Japan.
    Of course, as in any relationship between two nations with 
strong economies, there are differences that need to be 
resolved--I know we have interested parties here today who 
would like to see an end to the ban on beef imports and those 
who are concerned about regulations on medical technology.
    From Japan's perspective, the WTO's ruling on the Byrd Law 
resulted in Japan imposing a 15 percent tariff on U.S. steel 
products. But like any mature relationship, we also know that 
these are issues we can work out as friends and allies.
    Now I would be remiss in my role if I failed to mention 
energy issues. Japan has minimal domestic oil and natural gas 
reserves. As energy efficient as Japan is, they are still 80 
percent dependent on fossil fuel imports for their primary 
energy needs.
    And China and India's global search to secure energy 
supplies is making waves throughout Asia. In an August 
interview, Japan's Economic and Trade Minister Shoichi Nakagawa 
stated that while high oil prices are a concern, the real issue 
for 2010 is the matter of oil supply; ``Given the situation we 
are now in, we must now formulate a new energy strategy.''
    While Japan has a 170-day stockpile of oil reserves, 87 
percent of Japan's oil imports come from the Middle East. 
Recent action by China to access natural gas reserves in the 
disputed area of the East China Sea has added to tensions 
between Japan and China.
    When you think about China's engagement with states that 
are not necessarily considered to be responsible actors in the 
international scene, at what point does Japan follow suit? 
Japan is already looking to invest in Iran, but faces heavy 
pressure from the United States not to. If we insist Japan not 
go after this potential source of energy, at what point does 
Japan's energy needs override our security alliance?
    These are all issues that confront the U.S.-Japan 
relationship as we move forward. I look forward to hearing from 
our witnesses on what policies we as a Nation should pursue and 
what actions Congress can take--or perhaps shouldn't take, to 
foster a continued strong relationship and greater 
understanding between our peoples.

    [The prepared statement of Senator Murkowski follows:]
   Prepared Statement of Hon. Lisa Murkowski U.S. Senator from Alaska
    Good afternoon and welcome to the Foreign Relations Subcommittee on 
East Asian and Pacific Affairs. Today we will be taking an overall look 
at U.S.-Japan relations and what policies we need to pursue in the 
future.
    We are honored to have Assistant Secretary of State Chris Hill, and 
Deputy Under Secretary of Defense Richard Lawless with us today. Thank 
you gentlemen for appearing before the Subcommittee.
    With all of the talk and attention on China these days, it is easy 
to overlook the fact that Japan remains the world's second largest 
economy--an economy three times larger than China's. Combined, the U.S. 
and Japan account for 40 percent of the world's GDP. So it is a fair 
assessment to say that what impacts U.S.-Japan relations and our trade 
can also have a significant impact on the world's economy.
    I come from a state that is actually closer to Tokyo than it is to 
Washington, D.C. In fact, Japan has been Alaska's No. 1 trading partner 
for decades. In 1965, Alaska became the first state to open a trade 
office in Japan.
    It may surprise some of my colleagues to know that Alaska is the 
site of the United States' only LNG export terminal--we have been 
shipping liquefied natural gas to Japan since 1969, accounting for 2 
percent of Japan's natural gas consumption. In addition, Japan 
participated in the building of the Trans-Alaska Pipeline, supplying 
500,000 tons of steel pipe when material was not available here at 
home. And of course our seafood exports to Japan remain strong.
    We are proud to have a strong and vibrant Japanese-American 
population in our state playing an active role in state activities. So 
Alaska-Japan ties are strong. On a personal note, it was with great 
sadness that I learned earlier this year Japan is downgrading its 
consulate general in Alaska and reassigning Consul General Akihiro 
Aoki.
    But of course, no matter how much I might try to persuade you 
otherwise, U.S.-Japan relations are not all about Alaska.
    Japan is the United States' most important ally in the Asia region. 
They have been a steadfast partner in the war on terrorism, including 
the first-ever deployments of Japanese Self Defense Forces after the 
Japanese Diet gave unprecedented authority to provide ``rear area'' 
support to U.S. forces.
    Their support of our efforts in Afghanistan and Iraq is not just 
about personnel, but extends to financial assistance as well. They play 
a key role in the Six-Party Talks. And I would also like to thank the 
Japanese people and Government for their generous offers of assistance 
to those impacted by Hurricanes Katrina and Rita.
    I want to also comment on the various proposals that have been 
submitted to expand permanent membership of the United Nations Security 
Council. With the second largest economy in the world, and contributing 
nearly 20 percent of the U.N.'s regular budget, in my opinion, if there 
is any nation that deserves a permanent seat on the Security Council 
should it expand, it is Japan.
    The timing of this hearing is somewhat fortuitous with the recent 
election giving Prime Minister Koizumi a strong mandate to move forward 
with his reform measures. I look forward to hearing from our witnesses 
on how this development impacts Japan's policies, and its potential 
impact on our relations.
    Of course, as in any relationship between two nations with strong 
economies, there are differences that need to be resolved--I know we 
have interested parties here today would like to see an end to the ban 
on beef imports and are concerned about regulations on medical 
technology.
    From Japan's perspective, the WTO's ruling on the Byrd Law resulted 
in Japan imposing a 15 percent tariff on U.S. steel products. But like 
any mature relationship, we also know that these are issues we can work 
out as friends and allies.
    Of course, in this day and time, I would be remiss if I didn't also 
mention energy issues. Japan has minimal domestic oil and natural gas 
reserves. As energy efficient as Japan is, they are still 80 percent 
dependent on fossil fuel imports for their primary energy needs.
    And China and India's global search to secure energy supplies is 
making waves throughout Asia. In an August interview, Japan's Economic 
and Trade Minister Shoichi Nakagawa stated that while high oil prices 
are a concern, the real issue for 2010 is the matter of oil supply. 
``Given the situation we are now in, we must now formulate a new energy 
strategy.''
    He argued that Japan is too dependent on oil relative to natural 
gas and too dependent on the Middle East, making it vulnerable to 
problems in the Hormuz Strait, the Straits of Malacca, and the Taiwan 
Straits. He noted that the ratio of energy conveyed by pipeline is very 
low in Japan's case.
    While Japan has a 170-day stockpile of oil reserves, 87 percent of 
Japan's oil imports come from the Middle East. Recent action by China 
to access natural gas reserves in the disputed area of the East China 
Sea has added to tensions between Japan and China.
    When you think about China's engagement with states that are not 
necessarily considered to be responsible actors in the international 
scene, at what point does Japan follow suit? Japan is already looking 
to invest in Iran, but faces heavy pressure from the United States not 
to. If we insist Japan not go after this potential source of energy, at 
what point does Japan's energy needs override our security alliance?
    These are all issues that confront the U.S.-Japan relationship as 
we move forward. I look forward to hearing from our witnesses on what 
policies we as a nation should pursue and what actions Congress can 
take--or shouldn't take--to foster a continued strong relationship and 
greater understanding between our peoples.

    Senator Murkowski. So with that I would ask that we begin 
the panel by hearing from the Honorable Christopher Hill, 
Assistant Secretary for East Asian and Pacific Affairs. Again 
welcome to the subcommittee, we appreciate the generosity of 
your time in being with us today.

STATEMENT OF THE HON. CHRISTOPHER R. HILL, ASSISTANT SECRETARY 
              FOR EAST ASIAN AND PACIFIC AFFAIRS, 
              DEPARTMENT OF STATE, WASHINGTON, DC

    Secretary. Hill. Thank you very much, Madam Chairman I have 
a statement to be entered into the record, with your permission 
I'll read excerpts of that statement.
    Senator Murkowski. Your statement will be entered into the 
record.
    Secretary Hill. Madam Chairman, members of the Subcommittee 
on East Asia and Pacific Affairs, I am pleased to be with you 
today to discuss United States relations with Japan, our close 
friend and key ally which shares with us a commitment to 
democracy, universal principle of human rights, and promotion 
of free markets.
    I welcome the opportunity to outline our efforts to ensure 
that this most vital Asian economic and security partnership 
remains robust and durable.
    Our alliance with Japan has been a force for progress, and 
the key to promoting security and stability in East Asia. 
Naturally we must adapt the alliance to meet the challenges of 
the 21st century. Working in close concert with the Defense 
Department we are looking toward a fundamental transformation 
of our alliance, as Mr. Lawless will explain in greater detail.
    We want to forge a long-term commitment from both 
countries, and both peoples to allow our alliance to adapt, 
grow, and meet the challenges facing us now, and in the years 
ahead.
    We recognize that Japan faces certain constraints in its 
military cooperation, such as its policy on collective self-
defense and Article 9 of the Constitution which are matters for 
the Japanese people. But as Secretary Rice noted this year in 
Tokyo, we welcome Japan's clear decision to step up to wider 
global responsibilities.
    Japanese leadership in advancing freedom is good for the 
Pacific community and it is good for the world. Japan stands 
with us from East Asia to Afghanistan. A vital partner in the 
Six-Party Talks, Japan played a key role in the negotiations in 
Beijing earlier this month of a joint statement, in which North 
Korea committed to abandoning all nuclear weapons and existing 
nuclear programs. I will give the committee on October 4, a 
full read out of the discussions in Beijing.
    Elsewhere, Japan is helping us to do the hard work that 
will enable the expansion of markets, for the development of 
democracy, and the promotion of human rights.
    Japan worked side-by-side with us and others to respond to 
last December's horrific earthquake and tsunami. In Iraq, in 
addition to the nearly $ 5 billion dollars in aid pledged by 
Japan, the Japanese self defense force engineering battalion 
deployed in Samawah is helping rebuild that city.
    In Afghanistan, Japan has contributed $ 1 billion in aid 
and is working with us to complete the Kandahar-Herat Ring Road 
and to rebuild infrastructure.
    Japan has also been a significant contributor to the War on 
Terror, providing refueling to coalition vessels performing 
maritime interdiction operations in the Indian Ocean. In 
addition, the new U.S.-Japan Strategic Development Alliance 
initiated by Secretary Rice earlier this year, will allow us to 
discuss and better coordinate our assistance priorities and 
programs, in the geo-political context.
    Yesterday, Under Secretary Shiner and Deputy Foreign 
Minister Yabunaka held the first formal meeting under the SDA. 
Japan's growing global role, its significant contributions to 
U.N. operations, warrant a permanent seat for it on the 
Security Council.
    However, that must happen in the context of other 
fundamental reforms that will make the United Nations more 
accountable to its members, more suited to new challenges, and 
more faithful to its founding purposes.
    Healthy relations among Japan and its neighbors, 
particularly China, are essential to stability and prosperity 
in East Asia, and thus in the interests of all countries in the 
region and of the United States. Japan and China are more 
economically dependent on each other than ever. China is now 
Japan's largest trading partner; trade between the two 
countries was over $ 170 billion in 2004.
    Frictions remain however, including great sensitivities 
arising from World War II and other historical issues.
    Given the growing common interests of the nations of 
Northeast Asia, these differences constitute unfortunate 
obstacles in taking full advantage of the tremendous 
opportunities that exist in the region. As Deputy Secretary 
Zoellick suggested last week, part of the solution is greater 
dialog, and for our part, we will continue to stress to our 
allies and partners in the region the importance of finding 
mutually satisfactory and amicable solutions to these issues.
    On September 11, 2005, Prime Minister Koizumi won a 
landslide victory. He has stressed his determination to pursue 
further reforms. We will continue to support reforms in key 
sectors, we strongly urge Japan to resume beef imports from the 
United States without further delay. Despite repeated 
interventions at the highest-levels, it has not happened yet. 
And this should change.
    It was the defeat of Prime Minister Koizumi's top priority, 
the privatization of Japan Post, that prompted him to call the 
election. We will watch privatization closely, we want to 
ensure a fair and level playing field for private competitors 
of Japan Post massive insurance, banking, and express mail 
operations.
    Japan is a strong partner for the United States in APEC and 
other regional flora. We share much the same view on many 
issues in the World Trade Organization, but remain apart on 
some key topics, such as market access for agriculture goods. 
The United States and Japan are also the world's two most 
technologically advanced societies, and we are cooperating in 
this area as well.
    For example in climate change, in the effort to address the 
threat posed by Avian Influenza, we can say with satisfaction 
and pride that the U.S.-Japan relation has truly never been 
better. We look forward to continued to even closer cooperation 
with Japan, because together we can accomplish so much more for 
the people of both countries. From the hundreds of thousands of 
visitors from Japan each year, to the success of exchanges that 
bring Americans to live and work in Japan, we have a 
relationship that goes well beyond the meetings of our leaders 
and government officials. And we will build on this human 
dimension as we work together to promote peace, civility, 
democracy, and prosperity in Asia and around the world.
    Thank you very much.

    [The prepared statement of Secretary Hill follows:]
Prepared Statement of Hon. Christopher R. Hill, Assistant Secretary for 
  East Asian and Pacific Affairs, Department of State, Washington, DC
    Madam Chairman, members of the Subcommittee on East Asia and 
Pacific Affairs, I am pleased to be with you today to discuss U.S. 
relations with Japan, our close friend and key ally in Asia and the 
world.
    Japan is remarkable for its transformation and development in the 
60 years since the end of World War II. We share with Japan a 
commitment to democracy at home, to the universal principle of human 
rights and to the promotion of free markets abroad. Through the 
tremendous efforts of its people, Japan is now the world's second-
largest economy, the world's second-largest provider of international 
assistance and the second-largest contributor to the United Nations. 
Japan is, in many ways, a model for what we hope many countries around 
the world can and will achieve.
    Japan is a key ally of the United States in Asia and around the 
world. Like us, Japan is dedicated to maintaining regional security and 
to promoting peace and stability around the globe. But our alliance 
represents more than a defensive balance of power. It is also a 
positive force for progress. We now have a historic opportunity to 
transform our alliance to meet the challenges of the 21st century--
including both traditional and new security, economic, and 
transnational challenges. We are working very closely with the 
Department of Defense, led by my colleague Richard Lawless, to use this 
opportunity to transform our alliance to meet those challenges.
    Our alliance was founded in response to the threat from the Soviet 
Union. Today, we view our alliance as an opportunity to pool our 
capabilities in the face of new challenges and opportunities, from 
terrorism to the tsunami relief efforts to HIV/AIDS to our new Asia 
Asia-Pacific Partnership on Clean Development and Climate. We are 
working hard to restructure our forces and forge a long-term commitment 
from both countries and both peoples to allow our alliance to adapt, 
grow, and meet these and other challenges for the years ahead.
    Japan faces certain constraints, such as its policy on collective 
self-defense and Article 9 of the Constitution. These are issues for 
the Japanese people to work out for themselves, through ongoing public 
and Diet debate. With continued close consultations and further 
refinement of shared goals, we intend to do everything we can to keep 
this alliance as vital and effective over the course of the next 50 
years as it has been over the previous 50.
    Today, Japan stands with us from East Asia to Afghanistan. For 
example, Japan is a vital partner in the Six-Party Talks and played a 
key role in the negotiation in Beijing earlier this month of a Joint 
Statement, in which the Democratic People's Republic of Korea (DPRK) 
committed to abandoning all nuclear weapons and existing nuclear 
programs, and returning, at an early date, to the Nuclear 
Nonproliferation Treaty (NPT) and International Atomic Energy Agency 
(IAEA) safeguards. Japan joined the United States and other parties in 
making clear that discussion with the DPRK about peaceful nuclear 
energy could take place only after the DPRK came into full compliance 
with relevant international agreements, including returning to the NPT 
and full implementation of IAEA safeguards. The Japanese had direct 
discussions with their DPRK counterparts on issues of concern such as 
abductions and human rights. I will give the Committee a full read-out 
of the discussions in Beijing on October 4.
    Elsewhere in the world, Japan is helping us to do the hard work 
that will create the necessary environment for the expansion of 
markets, the development of democracy, and the protection of human 
rights. As it works with us, Japan is changing its own role in the 
international system. It has made essential contributions to Iraq, 
Afghanistan and the War on Terror. Japan worked side-by-side with us 
and others to respond to last December's horrific earthquake and 
tsunami; Japan is working with us today to implement an early warning 
system for the Indian Ocean. Secretary Rice and Foreign Minister 
Machimura just launched our new Strategic Development Alliance (SDA), 
which will further strengthen our coordination in the crucial area of 
international aid and development.
    In Iraq, in addition to the nearly $ 5 billion pledged by Japan and 
the $ 1.5 billion it has spent so far on reconstruction, the Japanese 
Self Defense Force engineering battalion deployed in Samawah has built 
or rebuilt several water treatments facilities and power stations, 
repaired hospitals, and provided ambulances, medical equipment and 
emergency medical supplies. The Iraqi government has made clear its 
appreciation; we, too, greatly appreciate Japan's steadfast commitment. 
Japan has also taken a higher profile role in the Middle East Peace 
Process, aiding the Palestinian people with humanitarian assistance, 
and helping to reform the Palestinian Authority and implement 
confidence-building measures.
    In Afghanistan, Japan has contributed nearly $ 1 billion in aid and 
its Overseas Development Assistance (ODA) personnel are working with us 
and Afghans to rebuild the Kandahar-Herat Ring Road and revitalize 
infrastructure that has been virtually non-existent for years. Japan 
has been a significant contributor to the War on Terror, providing at-
sea refueling to Coalition vessels from twelve countries performing 
maritime interdiction operations in the Indian Ocean. Without the 103 
million gallons Japan has provided to date--worth about $ 150 million--
some Coalition members would not have been able to participate at all. 
We applaud the Government of Japan's recently announced intention to 
seek legislative branch approval to extend that operation for another 
year. This is the most significant military mission that Japan now 
undertakes in the war on terror.
    The new U.S.-Japan Strategic Development Alliance (SDA) will allow 
us to discuss and better coordinate our assistance priorities and 
programs in the context of the geopolitical situation, and in 
accordance with our common views on development. Secretary Rice and 
Foreign Minister Machimura released a set of shared principles for 
results-oriented development assistance during the U.N. General 
Assembly meetings in New York earlier this month. Yesterday, Under 
Secretary Shiner and Deputy Foreign Minister Yabunaka held the first 
meeting under the SDA, discussing job creation and business climate 
reform in Indonesia and education and work force development in 
Pakistan, activities which have the common goal of creating sustainable 
jobs for the people of these key Asian countries to give their people 
greater opportunity.
    Japan's growing global role is evident in many ways. Japan was a 
core member of the tsunami relief effort and has been at the forefront 
of nations working to establish an early warning tsunami system in 
Asia. Japan's global role is also evident at the U.N. We believe 
Japan's role in the world, not to mention its significant contributions 
to U.N. operations, warrant a permanent seat on the Council, and we 
have long supported a permanent seat for Japan. However, as the 
Secretary said at the General Assembly on September 17, our challenge 
now is to enact the vital reforms that will make the United Nations 
more accountable to its members, more suited to new challenges and more 
faithful to its founding purposes. Real progress on fundamental reforms 
will prove that the United Nations can tackle even bigger and more 
complex changes--in particular, the reform of the Security Council, 
including a seat for Japan and greater representation for developing 
countries.
    Closer to home, healthy relations among Japan and its neighbors, 
particularly China, are essential to stability and prosperity in East 
Asia, and thus in the interests of all countries in the region and of 
the U.S. as well. Japan and China are more economically dependent on 
each other than ever--particularly on the trade front--with China now 
Japan's largest trading partner; two-way trade between the two 
countries was over $ 170 billion in 2004.
    However, frictions remain, fed by territorial disagreements, 
including East China Sea energy exploration; historical disputes; and 
other issues of concern. For its part, Beijing shares with some of its 
neighbors, including the Republic of Korea, a lingering distrust of 
Japan's view of its past. Tokyo, in return, is concerned about 
inaccuracies in and the anti-Japanese tone of textbooks in China and 
Korea. Given the growing common interests of the nations of Northeast 
Asia, these differences constitute unfortunate obstacles to taking full 
advantage of the tremendous opportunities that exist in the region. As 
Deputy Secretary Zoellick suggested last week, part of the solution is 
greater dialog. For our part, we will continue to stress to our allies 
and partners in the region the importance of finding mutually 
satisfactory and amicable solutions to these issues.
    On September 11, 2005, Prime Minister Koizumi won a landslide 
victory. He has stressed his determination to pursue further reforms, 
which we hope will include redoubled efforts for economic reform. Much 
progress has been made, but there are still areas within the Japanese 
economy that remain heavily regulated. We will continue to support the 
Japanese effort to make further reforms in sectors such as 
pharmaceuticals and medical devices, telecommunications and health 
care, and, of course, we strongly urge Japan to resume beef imports 
from the United States without further delay. It has been a year since 
we reached agreement on a framework intended to accomplish that.
    Despite repeated interventions at the highest-level by the U.S. 
Government, it has not happened yet. This should change.
    As you know, it was the defeat of Prime Minister Koizumi's top 
reform priority, the privatization of Japan Post, that prompted him to 
call an election; with the large majority now enjoyed by the ruling 
coalition in the Lower House of the Diet and political momentum behind 
the Prime Minister, most Japanese observers believe it likely this 
legislation will pass quickly. Beyond mail services, Japan Post also 
includes huge banking and insurance operations. We will monitor 
developments closely; we want to ensure that Japan Post's insurance 
arm, which is subject to a set of laws and regulations that differ from 
those governing the private sector, will not be allowed to issue its 
own new products until a fair and level playing field has been 
established between it and its private sector competitors, which 
include a number of large American insurers. We have similar concerns 
in the express mail and banking sectors.
    The United States and Japan are also perhaps the world's two most 
technologically advanced societies--and we are cooperating in this area 
as well. One example is climate change. The United States and Japan are 
founding members of the Asia-Pacific Partnership on Clean Development 
and Climate, announced by Deputy Secretary Zoellick in July. In this 
Partnership, the United States and Japan, with fellow members China, 
India, Korea and Australia, will use our scientific and technological 
expertise to encourage accelerated deployment of cleaner, more 
efficient energy technologies to meet national pollution reduction, 
energy security and climate change concerns.
    In another scientific area, Japan and the United States are at the 
forefront of the effort to monitor avian influenza. We are working 
together in both APEC and the International Partnership on Avian and 
Pandemic Influenza, announced by the President earlier this month, to 
try to prevent an epidemic among humans from occurring--and to be ready 
to combat the disease should an epidemic nevertheless occur.
    We look forward to continued close cooperation with Japan, as both 
nations realize that we can accomplish so much more when working 
together and complementing each other's efforts. This relationship is 
strong, broad and deep, and we seek to make it even more so while 
adapting it to the new challenges of a new era. From the hundreds of 
thousands of visitors from Japan each year, to the success of exchanges 
that bring Americans to live and work in Japan, we have a relationship 
that goes well beyond the meetings of our leaders and government 
officials. We will build on this human dimension as we work together to 
secure peace, stability and prosperity in Asia and around the world.

    Senator Murkowski. Thank you, I appreciate the testimony, 
and next we will go to the Honorable Richard Lawless, Deputy 
Under Secretary for Asia-Pacific Affairs. Welcome.
    Secretary Lawless. Thank you very much. I also have a 
statement to read for the record. And I'd like to do so.
    Senator Murkowski. It will be included in the record.
    Secretary Lawless. Thank you.

    STATEMENT OF THE HON. RICHARD P. LAWLESS, DEPUTY UNDER 
   SECRETARY FOR ASIAN-PACIFIC AFFAIRS, DEPARTMENT OF STATE 
                         WASHINGTON, DC

    Secretary Lawless. Thank you Chairman Murkowski and members 
of the subcommittee for this opportunity to appear before you 
to discuss the United States' alliance relationship with Japan. 
It's truly an honor to be here today.
    It goes without saying that the security relationship 
between the United States and Japan remains a vital interest 
for both of our countries and for the Asia-Pacific region. That 
relationship has provided the foundation for the peace and 
stability that have enabled the prosperity we see today 
throughout the Asia-Pacific region. It will continue to serve 
that role for the foreseeable future.
    Yet amidst all the crises that grab the headlines on a 
daily basis and that place many demands on the time of members 
of your committee and the time of those of us in government 
appearing before you today, it is so easy to lose sight of our 
nation's critical need to nurture such a key relationship on a 
continuing basis.
    That nurturing process requires us to ensure that 
relationships like the one between the United States and Japan 
stay ahead of the ever-increasing pace of change in the world 
around us. So with that in mind, I am appreciative that your 
committee has set aside time here today to take a look at the 
security relationship between the United States and Japan and 
to consider the course we are on with Japan.
    The United States and Japan set that course nearly 3 years 
ago, at the December 2002 ``2 + 2'' Ministerial meeting between 
the U.S. Secretary of State and Secretary of Defense and their 
Japanese counterparts. At that 2 + 2 meeting, the United States 
and Japan launched a bilateral review of our respective defense 
and national security policies in light of the change, and 
changing security environment. This review would include, we 
agreed, an examination of bilateral roles and missions, forces 
and force structures, cooperation in regional and global 
challenges, participation in international peacekeeping and 
other multinational efforts, cooperation in missile defense, 
and resolution of issues related to U.S. basing in Japan.
    More specifically, we set out to do five distinct things on 
the basis of that meeting: First, we wanted to conduct a 
bilateral assessment of strategy and threats. In that process, 
we would consider the international environment, the interests 
the United States and Japan each have, the challenges we each 
face, and our strategies for dealing with those challenges.
    This work was reflected in the Common Strategic Objectives 
that the two countries issued as part of their joint statement 
at the 
2 + 2 Ministerial meeting in February 2005.
    In that document, the United State and Japan clearly 
articulated key bilateral, regional and global interests that 
we share, as well as the common objectives we hope to achieve 
relative to those interests.
    The second task that we set for ourselves 3 years ago was 
to conduct an assessment of the different roles and missions 
the United States and Japan should each undertake to achieve 
our common strategic objectives.
    Third, we launched an assessment of our respective force 
structures to help us determine what changes in force structure 
might be required to support our respective roles and missions.
    Fourth, we began an examination of the basing structure of 
both U.S. and Japanese forces in and around Japan. This 
includes the changes that the U.S. is considering in its basing 
in Japan in connection with DOD's Global Posture Review.
    It also includes consideration of related realignments in 
the posture of Japan's Self-Defense Forces and an assessment of 
U.S. and Japanese abilities to conduct the training and 
exercises both U.S. and Japanese forces need in order to 
maintain their preparedness for their respective roles and 
missions.
    Fifth and finally, we began an examination of force 
presence issues and the things that could be done to ensure 
continuing support for stationing of U.S. forces in Japan.
    This would necessarily focus on measures to ensure that 
both U.S. and Japanese citizens see the continuing benefit in 
the U.S. forward presence in Japan.
    From our perspective in the Department of Defense, this 
five-part process is larger than mere posture realignment. In 
short, we are working with Japan to transform our alliance, 
taking into account both the changes in the international 
security environment and the changes taking place in Japanese 
attitudes toward security issues.
    I think this committee is quite aware of the evolution 
taking place in Japanese security policy, but let me cite a few 
examples. Since 1999, Japan has: Initiated research cooperation 
with the U.S. in missile defense; Sent forces to the U.N. 
reconstruction mission in East Timor; Enacted legislation 
enabling the dispatch of forces in support of Operation 
Enduring Freedom and provided at-sea refueling support, at no 
cost, to ten nations' fleets under that law; Passed legislation 
enabling the dispatch of forces in support of Operation Iraqi 
Freedom and maintained forces in Iraq and Kuwait on 
reconstruction missions under that law; Passed legislation 
strengthening its central government's authorities in emergency 
situations, including the authorities related to support of 
U.S. forces in contingencies; Launched a program to acquire 
ballistic missile defenses; Announced a relaxation of arms 
export policies to enable collaboration with the U.S. in 
development and production of missile defenses; and Issued a 
new National Defense Program Guidelines document that 
recognizes the link between international stability and Japan's 
national security, and from that perspective the important role 
of the Self-Defense Forces' participation in international 
missions.
    Now, I would agree that, measured against the yardstick of 
Japanese security policy for the past sixty years, these 
developments are very significant. The United States welcomes 
these changes as do most countries around the world.
    But measured against Japan's capabilities to contribute to 
international security, and measured against Japan's global 
interests and the benefits Japan derives from peace and 
stability around the world, these changes remain quite modest.
    So it is in this context that the U.S. and Japan must 
consider how to realign U.S. forces and Japanese forces. We can 
both see the trend in Japanese security policy toward a more 
active role in international security affairs. This is a 
welcomed trend.
    But we can also see that this trend will take considerable 
time to reach fruition. As a result, the United States posture 
realignments must address immediate needs as we see them today, 
that is immediate alliance needs, and simultaneously anticipate 
changes taking place within Japan that will make it possible 
for the Self-Defense Forces to do more tomorrow.
    If we under-anticipate those changes, we may end up with 
more U.S. capability left in Japan than we need, causing 
unnecessary irritants in local relations. If we over-anticipate 
those changes, we may eliminate critical alliance capabilities.
    That is why realignment of U.S. forces in Japan, more than 
in any other country, is fundamentally dependent on decisions 
the host country is making about its own security future. For 
realignment is not simply about reducing the size of our U.S. 
force presence there, or figuring out a workable solution for a 
replacement facility for the Marine Corps Air Station at 
Futenma, or realigning command and control functions, or 
expanding operational cooperation in mission areas like missile 
defense or intelligence, surveillance and reconnaissance.
    It's about all these things and more. It is fundamentally 
about transforming the alliance to ensure that it remains 
capable of achieving the Common Strategic Objectives the United 
States and Japan have together established and agreed upon. And 
it is about ensuring that the alliance remains capable in the 
21st century of continuing to fulfill its historic role as the 
foundation of peace and security in the Asia-Pacific region.
    I believe that both the United States and Japan recognize 
this opportunity and want to seize it. But we nonetheless face 
all the usual obstacles that keep governments and bureaucracies 
from transforming, even when everyone knows it is absolutely 
the right thing to do.
    So the question both our countries face is whether we can 
overcome those obstacles and do the right thing. I am 
optimistic that we can, and I am hopeful that we can do it this 
year.
    Thank you again for this opportunity to discuss the U.S. 
alliance relationship with Japan before this committee. I would 
be happy to answer your questions. Thank you.

    [The prepared statement of Secretary Lawless follows:]
 Prepared Statement of Hon. Richard P. Lawless, Deputy Under Secretary 
     for Asian-Pacific Affairs, Department of State, Washington, DC
    Thank you Chairman Murkowski and members of the committee for the 
opportunity to appear before you to discuss the United States' alliance 
relationship with Japan. It is an honor to be here today.
    It goes without saying that the security relationship between the 
U.S. and Japan remains a vital interest for both of our countries and 
for the Asia-Pacific region. That relationship has provided the 
foundation for the peace and stability that have enabled the prosperity 
we see throughout the Asia-Pacific region today. It will continue to 
serve that role for the foreseeable future.
    Yet amidst all the crises that grab the headlines on a daily basis 
and that place many demands on the time of members of your committee 
and the time of those of us in government appearing before you today, 
it is so easy to lose sight of our nation's critical need to nurture 
such a key relationship continuously.
    That nurturing process requires us to ensure that relationships 
like the one between the U.S. and Japan stay ahead of the ever-
increasing pace of change in the world around us. So I am especially 
appreciative that your committee has set aside time here today to take 
a look at the security relationship between the U.S. and Japan and to 
consider the course we are on.
    The U.S. and Japan set that course nearly 3 years ago, at the 
December 2002 ``2 + 2'' meeting between the U.S. Secretary of State and 
Secretary of Defense and their Japanese counterparts.
    At that 2 + 2 meeting, the U.S. and Japan launched a bilateral 
review of our respective defense and national security policies in 
light of the changing security environment. This review would include 
examination of bilateral roles and missions, forces and force 
structures, cooperation in regional and global challenges, 
participation in international peacekeeping and other multinational 
efforts, cooperation in missile defense, and resolution of issues 
related to U.S. basing in Japan.
    More specifically, we set out to do five distinct things on the 
basis of that meeting:

    First, we wanted to conduct a bilateral assessment of strategy and 
threats. In that process, we would consider the international 
environment, the interests the U.S. and Japan each have, the challenges 
we each face, and our strategies for dealing with those challenges.

   This work was reflected in the Common Strategic Objectives 
        that the two countries issued at the 2 + 2 meeting in February 
        2005.

   In that document, the U.S. and Japan clearly articulated key 
        bilateral, regional and global interests that we share, as well 
        as the common objectives we hope to achieve relative to those 
        interests.

    The second task we set for ourselves 3 years ago was to conduct an 
assessment of the different roles and missions the U.S. and Japan 
should each undertake to achieve our common strategic objectives.

    Third, we launched an assessment of our respective force structures 
to help us determine what changes in force structure might be required 
to support our respective roles and missions.

    Fourth, we began an examination of the basing structure of both 
U.S. and Japanese forces in and around Japan.

   This includes the changes that the U.S. is considering in 
        its basing in Japan in connection with DOD's Global Posture 
        Review.

   It also includes consideration of related realignments in 
        the posture of Japan's Self-Defense Forces and an assessment of 
        U.S. and Japanese abilities to conduct the training and 
        exercises both U.S. and Japanese forces need in order to 
        maintain their preparedness for their respective roles and 
        missions.

    Fifth and finally, we began an examination of force presence issues 
and the things that could be done to ensure continuing support for 
stationing of U.S. forces in Japan.

   This would necessarily focus on measures to ensure that both 
        U.S. and Japanese citizens see the continuing benefit in the 
        U.S. forward presence in Japan.

    From our perspective in the Department of Defense, this five-part 
process is larger than mere posture realignment. In short, we are 
working with Japan to transform our alliance, taking into account both 
the changes in the international security environment and the changes 
taking place in Japanese attitudes toward security issues.
    I think this committee is quite aware of the evolution taking place 
in Japanese security policy, but let me cite a few examples. Since 
1999, Japan has:

   Initiated research cooperation with the U.S. in missile 
        defense;

   Sent forces to the U.N. reconstruction mission in East 
        Timor;

   Enacted legislation enabling the dispatch of forces in 
        support of Operation Enduring Freedom and provided at-sea 
        refueling support, at no cost, to ten nations' fleets under 
        that law;

   Passed legislation enabling the dispatch of forces in 
        support of Operation Iraqi Freedom and maintained forces in 
        Iraq and Kuwait on reconstruction missions under that law;

   Passed legislation strengthening its central government's 
        authorities in emergency situations, including the authorities 
        related to support of U.S. forces in contingencies;

   Launched a program to acquire ballistic missile defenses;

   Announced a relaxation of arms export policies to enable 
        collaboration with the U.S. in development and production of 
        missile defenses; and

   Issued a new National Defense Program Guidelines document 
        that recognizes the link between international stability and 
        Japan's national security, and from that perspective the 
        important role of the Self-Defense Forces' participation in 
        international missions.

    Now, I would agree that, measured against the yardstick of Japanese 
security policy for the past sixty years, these developments are very 
significant. The U.S. welcomes these changes as do most countries 
around the world.
    But measured against Japan's capabilities to contribute to 
international security, and measured against Japan's global interests 
and the benefits Japan derives from peace and stability around the 
world, these changes remain quite modest.
    So it is in this context that the U.S. and Japan must consider how 
to realign U.S. forces and Japanese forces.
    We can both see the trend in Japanese security policy toward a more 
active role in international security affairs. It is a welcomed trend.
    But we can also see that this trend will take considerable time to 
reach fruition.
    As a result, the U.S. posture realignments must address immediate 
needs as we see them today and simultaneously anticipate changes taking 
place within Japan that will make it possible for the Self-Defense 
Forces to do more tomorrow.
    If we under-anticipate those changes, we may end up with more U.S. 
capability left in Japan than we need, causing unnecessary irritants in 
local relations. If we over-anticipate those changes, we may eliminate 
critical alliance capabilities.
    That is why realignment of U.S. forces in Japan, more than in any 
other country, is fundamentally dependent on decisions the host country 
is making about its own security future.
    For realignment is not simply about reducing the size of our 
presence, or figuring out a workable solution for a replacement 
facility for the Marine Corps Air Station at Futenma, or realigning 
command and control functions, or expanding operational cooperation in 
mission areas like missile defense or intelligence, surveillance and 
reconnaissance.
    It's about all these things and more.
    In short, it is fundamentally about transforming the alliance to 
ensure that it remains capable of achieving the Common Strategic 
Objectives the U.S. and Japan have established. And it is about 
ensuring that the alliance remains capable in the 21st century of 
continuing to fulfill its historic role as the foundation of peace and 
security in the Asia-Pacific region.
    I believe that both the U.S. and Japan recognize this opportunity 
and want to seize it. But we nonetheless face all the usual obstacles 
that keep governments and bureaucracies from transforming, even when 
everyone knows it's the right thing to do.
    So the question both our countries face is whether we can overcome 
those obstacles and do the right thing. I am optimistic that we can, 
and I am hopeful that we can do it this year.
    Thank you again for this opportunity to discuss the U.S. alliance 
relationship with Japan before this committee. I would be happy to 
answer your questions.

    Senator Murkowski. Thank you Secretary Lawless. I 
appreciate the direction of your remarks and the discussion 
about the realignment. But I even more appreciate your initial 
comments, where you reminded us how important it is to nurture 
and sustain those relationships that we have had, for a long 
time those alliances that quite often we tend to take for 
granted. And so often when we have trouble spots, or hot spots, 
or an emerging area that we just don't know what's going on, 
all the focus, and all the attention seems to be there and 
those that have been cooperative and that we have managed to 
work with for years, decades, seem to get put off to the side, 
and in fact as you note there is some very serious work that we 
need to do jointly, with our friend and our ally Japan. So we 
shouldn't be taking anything for granted; we should be, as to 
use your terms, ``nurturing this relationship and sustaining 
these key relationships.''
    So I appreciate your highlighting that in your remarks. I 
want to start off my questioning with you Secretary Hill.
    First of all I want to thank you for all the work that you 
are doing in the Six-Party Talks and the accomplishments that 
you have been able to achieve; we look forward to hearing your 
further expanded remarks, next week I guess it is.
    But in relation to the Six-Party Talks, we recognize that 
Japan has been insistent that the issue of the Japanese 
abductions that took place in the 1970's, and the 1980's be 
part of this deal. I guess my question to you is, how this 
instance has impacted the talks, whether it has at all, whether 
it is an impediment, is it something that could be detrimental 
to the goal of dismantling North Korea's nuclear weapons 
program if, in fact, Japan and North Korea are unable to 
resolve these issues?
    Secretary Hill. Well first of all, we are very pleased that 
the Japanese delegation and the North Korean delegations were 
able to have several bilateral meetings in the course of the 
Six-Party Talks, and to discuss their outstanding issues, 
including this issue of abduction. It is an issue that is of 
great concern to the Japanese public, a great concern to the 
Japanese government. And as such it is an issue that needs to 
be addressed now, we are not saying where it needs to be 
addressed, but it has to be addressed. And if you look at the 
Six-Party process, in its totality, we are dealing with 
denuclearization of the Korean Peninsula, but we're also 
dealing with the eventual reintegration of North Korea into the 
world, starting with its neighbors. The Six-Party process is 
really about North Korea and its neighbors. I think it's very 
important that North Korea have a good relationship with Japan. 
Japan as we've described in our testimony, this is a very 
important player in the world, number 2 economy in the world.
    Frankly, it's vitally important that North Korea have a 
good relationship with Japan, so it is entirely appropriate 
that North Korea and Japan try to resolve this, or identify a 
track for resolving this as we go forward.
    From the point of view of negotiating the denuclearization 
provisions, I'm not concerned about this, I believe we can deal 
with this issue. There are other issues as well, but we have 
to, I think, understand that we are dealing with a very broad 
subject that is denuclearization followed by North Korea's 
reintegration into the world.
    Senator Murkowski. But it sounds as though this is one of 
those issues that in order to have that relationship with their 
neighbors is going to have to be resolved, whether it's 
resolved at these Six-Party Talks, or as you suggest, perhaps 
some other venue.
    Secretary Hill. Yeah, it does not have to be solved within 
the Six-Party process, it can be solved bilaterally and be--
it's appropriate to solve this bilaterally. But it has to be 
solved. I mean this is an important issue for the Japanese 
public. The Japanese public is very aware of this. And the 
Japanese Government is obviously very aware of this as would be 
any government on who's watch its citizens were abducted to 
another country. So this is simply a fact, and it has to be 
dealt with. And I was encouraged by the fact that they had 
these meetings, and I hope they'll have more, and I hope 
they'll deal with this, and deal with this and other issues 
because North Korea needs a good relationship with Japan.
    Senator Murkowski. In speaking about their neighbors that 
they all need good relationships with, you're talking about the 
issue that we have--the small islands in the China Sea, the 
growing tensions between Japan and both China and South Korea, 
over these conflicting claims to the islands. What are the 
stakes, if any, to the United States, and should from a policy 
perspective the United States be involved in this--the conflict 
there?
    Secretary Hill. Fortunately we don't have a conflict there, 
we have a disagreement there, and it is fundamentally in the 
interest of the United States that these countries have good 
relations with one another. It is fundamentally in our interest 
that China and Japan have a good relationship. Fundamentally in 
our interests that our two great allies in the region, the 
Republic of Korea and Japan have a good relationship. So we 
encourage their meeting on these issues; we encourage dialog 
and we have made it very clear to all parties concerned that we 
want to see them reach a solution on this. So it is very much 
in our interest to do this and we obviously watch these issues 
very closely. I don't think that there is a cause for U.S. 
intervention in these questions. These are countries that 
should be able to sit down and work these issues out.
    Senator Murkowski. You mentioned the relationship with 
China and the importance as a trading partner. We recognize 
that China has replaced the United States as Japan's most 
important trading partner. I think you--I think you said $ 170 
billion, what does this very growing importance of China 
suggest about the future of U.S.-Japan relationships? How do we 
fit into this very profitable and prosperous relationship 
between Japan and China?
    Secretary Hill. Well, China is indeed a player in the 
region that is going to be with us for a long time; going to be 
a major player, not only in the region, but in the world. But I 
think one has to be careful to keep in mind that China is by no 
means to surpass the GDP of Japan or the United States. China 
has a long, long way to go to reach those kinds of levels. So I 
would say that the U.S.-Japan economic relationship is really 
second to none and unlikely to be encroached on anytime soon by 
a relationship with China. To be sure, China is now the--
Japan's leading economic trading partner. As it is with the 
Republic of Korea, but that's a little deceiving, those 
statistics are deceiving, because when you look carefully, 
you'll see a lot of those statistics, that is a lot of the 
trade that is, now going to China is actually coming to the 
United States, so to some extent we've seen a shift in U.S. 
deficits with Japan, through U.S. deficits with China. So it is 
very much tied up with the economic relationship with the 
United States.
    Senator Murkowski. You mentioned the ban on beef imports. 
And your statement that we must resume our trade with Japan on 
this issue without further delay. I think were your words. How 
much impact has the beef issue, the beef import issue had on 
our economic ties with Japan?
    Secretary Hill. Madam Chairman, I think this issue not only 
should be resolved without further delay, it should have been 
resolved a long, long time ago. The delay in resolving this 
issue frankly is inexplicable. U.S. beef herds have had a total 
of some 2 cases of BSE, and we're talking about enormous herds, 
the largest in the world. Japan's very small beef industry, has 
had some 20 cases of BSE, in short there is nothing unsafe 
about U.S. beef, it is truly the safest in the world. I 
understand that Japan has its procedures, procedures that are 
even outside the regular governmental structures, that is 
having to do with various commissions. They have to solve this, 
and I, as a diplomat, find it a little difficult to be 
diplomatic over this issue. When you look at the U.S. farmers 
who are working hard, U.S. cattlemen trying to sell their 
products abroad, we had a market in Japan of $ 1.7 billion 
dollars. That's a lot of--that's a big market, and they've lost 
it over a case that frankly should have been solved a long time 
ago.
    So if you're asking whether this has had an impact on the 
way people think about the Japanese market, you bet it has. 
It's had an impact over the feelings of U.S. exporters toward 
the Japanese market; it's had an impact in a lot of different 
ways. I truly believe the Japanese, for their own benefit, 
ought to get this issue solved.
    Senator Murkowski. I think we would all agree with you on 
that one. I have to ask you, as my final question to you, you 
probably know it's coming. It's sea urchins. You probably don't 
get too many questions about sea urchins, so I have to go there 
for you. I raised this issue with you at your confirmation 
hearing regarding the illegal sea urchin harvest in the Russian 
waters and how these were suppressing the market. This is one 
area again where Alaska is providing to the Japanese, through 
our exports, a very positive benefit. Do you have any new 
information, any updates you can give me on what's going on 
with the sea urchins?
    Secretary Hill. Madam Chairman, you've raised that issue 
before during my confirmation and I confess, I don't have new 
information.
    Senator Murkowski. I didn't mean to put you on the spot.
    Secretary Hill. I'm going to do something--I'm going to 
promise you I will get some new information on this. I have----
    Senator Murkowski. I'm not going to relax until I know 
about the sea urchins.
    Secretary Hill. Well fair enough. You know you have a lot 
of fishermen in Alaska who depend on the Japanese market for 
this, and to see these Russian ships, where as I understand it 
they harvest, and it goes right into Japan, it doesn't go back 
for any registration through Russia, and it's comprising some 
unfair competition to your fishermen. So I'm very sympathetic 
to them. If you'll allow me to work a little on this issue, one 
of the arguments is one has to deal with it not in Japan, but 
in Russia, and let me run that down as well. In fact, I'll be 
seeing my Russian counterpart in the Six-Party Talks, I can 
surprise him and ask him about that. But I can also check some 
other channels.
    Senator Murkowski. I appreciate that, and I know that 
Alaska's fishermen will appreciate the efforts. We do 
appreciate the smaller details that you tend to, but as you 
point out, these are big; this is an important market for a 
small group, so we appreciate that.

    [The requested information concerning sea urchins submitted 
by Secretary Hill follows:]
    By Japanese law, foreign fishing boats must first enter their home 
country's ports (i.e., Russia) and receive export certificates before 
exporting to Japan. However, Russian fishermen often sell sea urchins 
to Japanese fishing boats at sea, and they are subsequently sold in 
Japan as Japanese-caught urchins. This also violates Japanese 
quarantine rules on fresh marine products, and illegal imports are also 
hurting Japan's domestic sea urchin fishing industry.
    The Government of Japan recognizes there is a problem, but has been 
reluctant to tackle it. The Fisheries Agency of Japan has said that 
each country should regulate its own caught marine products, so Japan 
has no authority over Russia's fisheries enforcement. Over-fishing in 
Russia is rampant, but it is not clear whether the Russians are 
violating any laws on sea urchin quotas.
    The National Marine Fisheries Service believes we cannot act 
unilaterally against Russia without violating our WTO commitments. We 
also suspect that the price of sea urchins is depressed more due to 
oversupply than to Russian sea urchins flooding the market.

    Senator Murkowski. Secretary Lawless, let's turn to you, 
and I appreciate the detail that you went into in terms of some 
of the history on the background on the ``2 + 2.'' Japan's 2005 
to 2009 defense plan, for the first time, mentions China as a 
security problem. What steps is Japan taking to address this 
concern?
    Secretary Lawless. I think, first of all, if you refer back 
to our February 19, 2005 joint statement of common strategic 
objectives, where we actually mention China, the two countries. 
We both say a lot of very positive things about how we would 
anticipate the integration of China into the greater 
international community and things such as this. At the same 
time, in a way this was recognition that Japan, as you say, had 
addressed in its defense white paper, Japan--excuse me, China--
and it had also addressed China in its review, defense review, 
its guideline review that it issued in December of that year, 
as well as in an earlier publication called the Araki Report, 
which I believe was issued by the Prime Minister's office in an 
October 2004 timeframe.
    In each case I think it is simply an awareness on the part 
of Japan.
    A year later, in their budget was a $ 1.3 billion dollar 
line item for ballistic missile defense. That impressed us. So 
we think that the leadership that's in place now, and I'm 
speaking from Department of Defense, but I believe my 
colleagues in the State Department share this with me, share 
this thought, it's a very impressive leadership and we're very 
proud to have them working with us on this realignment process.
    Senator Murkowski. We've been joined by the ranking member, 
Senator Kerry. Senator would you have any comments that you 
would care to make, or would want to jump right into questions.
    Senator Kerry. Thank you. Thank you Madam Chairman.
    Thank you very much, Mr. Secretary welcome. And I apologize 
for being a little bit late. But I am going to try not to go 
over all the territory obviously that you just covered, and if 
I do just remind me.
    Let me begin by picking up on this Iraq stream. I've seen 
the newspaper reports about a contemplated withdrawal sometime 
next year. There's some uncertainty about what the longevity is 
going to be here. There's already been one extension under 
their law. Are we anticipating a second extension? What is the 
situation on that?
    Secretary Lawless. Yes we are, excuse me sir. We are 
anticipating another extension. But again, we stress that 
that's a decision that their government has to make but, yes, 
we're anticipating another extension.
    Senator Kerry. And is there more, in your judgment, that 
Japan could do. I gather that there's about $ 5 billion of 
assistance that has been promised, is that correct?
    Secretary Lawless. That is correct. Yes I believe that's a 
combination of direct aid and----
    Senator Kerry. How much of that has actually been drawn 
down, do you know?
    Secretary Lawless. I do not have that information.
    Senator Kerry. Do you know when this promise was made?
    Secretary Lawless. I believe it was made, sir, at the first 
donors conference which took place in Tokyo, approximately 6 
months after the end of the conflict in Iraq. I believe it was 
made very very early on, and that it initially involved a $ 2 
billion grant donation up front, if my memory serves me 
correctly. And to be followed by an additional $ 3 billion 
dollars.
    Senator Kerry. The original commitment was for 1,000 
troops. Is that right?
    Secretary Lawless. It was approximately 1,000, yes. 
Actually the commitment was for a capability and that 
capability, I believe, was for an engineering battalion that 
was specialized in specific activity, and that was water 
purification.
    Senator Kerry. But the folks who are there are essentially 
involved in humanitarian aid and reconstruction are they not?
    Secretary Lawless. Absolutely yes.
    Senator Kerry. Exclusively?
    Secretary Lawless. Yes.
    Senator Kerry. It's my understanding we're running about 
600 at the moment?
    Secretary Lawless. That's correct.
    Senator Kerry. Could we not use 1,000?
    Secretary Lawless. I suppose we could use 1,000. The issue 
has always been what capability was needed in that location, 
and what capability would they bring with the equipment that 
they would bring with them. And I believe that that capability, 
plus the airlift capability, I think, which is also in the 
region probably gets that number maybe closer to 1,000 if you 
include the airlift capability they brought in with them to 
help sustain the presence.
    Senator Kerry. And when you say in that location, you're 
talking about Samawah?
    Secretary Lawless. Yes, the engineering battalion is there, 
but I believe the airlift is out of Iraq sitting in--on the 
periphery in another location.
    Senator Kerry. Australian and British troops are there in 
addition?
    Secretary Lawless. Yes, the Australians, approximately 6 
months ago or so, committed to take over the immediate security 
duties when another force was withdrawn and the Australians 
have been there based on a commitment to work with--
specifically to work with the Japanese and to provide security 
for their presence.
    Senator Kerry. It's my understanding that if the 
constitution passes in October, both of those countries are 
planning a withdrawal of those troops by May of next year.
    Secretary Lawless. That is not my understanding. We have 
not heard that. By both those countries you mean U.K. and 
Australia?
    Senator Kerry. Yes. Yes sir.
    Secretary Lawless. I believe, and I don't want to get ahead 
of my colleagues in CENTCOM on this, but I believe that's a 
subject still open for discussion and there are two levels of 
discussion, there is a political level of decisionmaking and 
then there is a peer military level of discussion. And I don't 
know if that suggestion has been made on either one of those 
two levels yet.
    Senator Kerry. Now part of the global repositioning of our 
troops et cetera has seen the initiation of a shifting of 
commands. I think there are two commands that are now being 
shifted to Japan: One, the 1st Army Corps (I Corps) 
headquarters, is going from Washington State to Camp Zama, and 
then you have the 13th Air Force in Guam, into the 5th Air 
Force in Yokota. What's the status of those proposals. 
Obviously, well why don't you answer that first.
    Secretary Lawless. Let me give a little bit different 
characterization on the former one in particular. The U.S. Army 
is really transforming itself, and constructing itself, as you 
know, in a different way. And that process is probably going to 
take about 2 to 4 more years.
    One of the constructs they're going to is eliminating, or 
evolving, the existing headquarters type structures. So the 
structure that will exist, it's a much more modular concept 
than the way they're organized--will not be I Corps as it 
exists now, it will be a transformed I Corps. So it will be 
very headquarters heavy, and very light, if you will, in terms 
of the actual forces assigned to it. So it's essentially a 
headquarters unit. A mobile headquarters unit.
    We have had some discussions with the Japanese about the 
relocation of that headquarters unit to Camp Zama. Those 
discussions have not concluded yet. I've mentioned in my 
presentation that we hope to conclude this entire defense 
transformation and realignment process by the end of the year, 
that's our goal. That will be included in that transformation, 
but as of today, that has not yet been decided.
    The other adjustment, is actually an adjustment that's 
taken place essentially outside Japan, and that is, as you say, 
the elimination of the 13th Air Force and the transfer of some 
of those functions actually to Guam. And so what we see as part 
of our global posture realignment in the Pacific there is a 
significant upgrading of our presence in Guam, and part of the 
restructuring of the headquarters relationships is the merger, 
if you will, of the 5th Air Force and the former 13th Air 
Force.
    Senator Kerry. What's the attitude of the Japanese 
Government with respect to those?
    Secretary Lawless. I think in the case of the transformed I 
Corps unit that would be brought to Zama, it's something that 
they've asked us to explain to them in great detail. We're in 
the process of doing that. And remember that again, the Army is 
just figuring out how it wants to reorganize itself and order 
itself. So as we determine from the Army how it wants to be 
organized, we're then going to the Japanese and explaining that 
to them. In fact, an additional explanation just took place 
this week. We're not quite there yet, but we're getting there.
    I think the more that they understand about what we're 
doing and how we're doing it, and what the net result will be, 
the more comfortable they are. But they're not there yet.
    On the headquarters--excuse me--the transformation of 13th 
Air Force, elimination of 13th Air Force, and the melding of 
5th Air Force and the former 13th, I think they're completely 
comfortable with that. The 5th Air Force Commanding Officer 
will remain in Japan as the Commander of U.S. Forces Japan, 
that was a very important issue for us to discuss, and for us 
to confirm to them. They wanted to make absolutely sure that 
that relationship remained. It's a relationship that they're 
very comfortable with, these past 50 years, and we did assure 
them that that relationship would be sustained and that command 
relationship would remain in Japan.
    Senator Kerry. Have there been any signs at all of popular 
discontent with respect to the Japanese people and the Japanese 
involvement in Iraq?
    Secretary Lawless. I'm really not--are you suggesting the 
opinion polls and things of that nature?
    Senator Kerry. I'm not; I'm just asking.
    Secretary Lawless. You know I don't believe, I may be 
wrong, but as Secretary Hill just observed, Prime Minister 
Koizumi and his party just enjoyed a smashing victory on the 11 
September election. And I don't really believe that this issue 
was in anyway an election issue for them in spite of the fact 
that they have a presence in Iraq. It may have been an issue in 
some of the individual races, but it certainly didn't rise to 
be a major issue across the board in the election. And I sort 
of take that to mean that it has not elevated itself to a 
national issue at this point.
    Senator Kerry. Secretary Hill, first of all, a lot of us 
were gratified by the final movement obviously with respect to 
the talks with North Korea, and I certainly offer you my 
respect for having been central to that I think, and helpful in 
that process. There also, as you know, has been a long cry up 
here on the Hill about getting to the place you got a lot 
sooner. And a strong belief that the agreement we finally wound 
up with was in fact one that could have been achieved a lot 
sooner. But we really are there and that's positive. I know 
you're going to come back, and there's going to be another 
hearing on it. But I do want to touch on a couple of things 
with respect to it. But before I do let me ask you, a lot of 
medical device companies in Massachusetts are having troubles 
with the market place in Japan, and this again is the kind of 
thing that has gone on for a long time. These market access 
issues don't seem to change. What is the State Department 
currently doing with respect to those issues, which I know 
you're familiar with, and to promote access?
    Secretary Hill. Well the issue of market issue has 
continued to be a major issue in our relationship with Japan 
for some time. And especially some of these hi-tech medical 
devices which we are extremely competitive at. And we have 
continued to raise this with the Japanese Government and it's 
been a very much focus of what our trade section does in Tokyo. 
We--earlier I discussed the beef issue, but indeed this is not 
the only one. We have a number of questions and medical devices 
that are really high up on the agenda.
    Senator Kerry. What does that mean?
    Secretary Hill. Well, we have to deal with Japanese 
authorities on this. We have to try to----
    Senator Kerry. But hasn't that always been true?
    Secretary Hill. It has always been true, and----
    Senator Kerry. What's the methodology, what's the lever? 
What's the recourse if we don't get somewhere?
    Secretary Hill. Well, ultimately, of course it effects our 
ability to keep our markets open when we have--when we cannot 
get the Japanese to open up there. So we have to remind them 
that this has to be a two way street.
    Now the recourse is, there is no magic formula to this. You 
have to work on these specific issues, you have--we have trade 
talks with them. We have our special trade representative 
working on these questions, and we go at it very much on a 
retail basis. You have to go at specific items.
    Senator Kerry. Is the administration prepared to take 
recourse if necessary.
    Secretary Hill. I mean the administration is prepared to 
pursue a very, very tough policy of market access. This is the 
policy and this is very much where our focus is.
    Senator Kerry. Is there a timeframe that you can offer 
people who are losing business and getting frustrated?
    Secretary Hill. I do not have a timeframe to offer on this, 
but what I can assure is we're very much engaged on it.
    Senator Kerry. Turning for a moment to the Six-Party Talks, 
if I can a little bit. On August 15, Assistant Secretary of 
State Matt Reynolds wrote the ranking member of the committee 
informing him, ``As you may have seen in some press reports, 
the North Korean insistence on the right to a civil nuclear 
program remains the major impediment to progress in the Six-
Party Talks.'' So what exactly is the administration's position 
on North Korea's right to peaceful uses of nuclear energy?
    Secretary Hill. Well our position is, we have--we have put 
together an agreement with four other partners, a Six-Party 
agreement which puts on the table a number of incentives for 
North Korea to get out of its nuclear business. That is give up 
it's weapons, and give up all it's existing programs. What we 
have agreed to do at this point is that once North Korea gives 
up all its existing programs, gets back into the 
nonproliferation treaty, gets back into with IAEA safeguards, 
we are prepared to have a discussion, a discussion with our 
other partners, and with the North Koreans, on the subject of 
the provision of the light water reactor. At this point that is 
as far as we are prepared to go, we are not prepared to say at 
this time that they have a right to restart a nuclear program. 
They have abused their nuclear programs in the past, and they 
have had great difficulty keeping peaceful programs peaceful, 
and we're not prepared to support this. The purpose of the 
agreement is to layout a path by which--on which they do not 
need nuclear power. The light water reactor generating capacity 
that was envisioned in the agreed framework in the 1990's is 
taken up by conventional power supplied by South Korea to the 
tune of 2,000 megawatts.
    Senator Kerry. But doesn't the agreement actually say that 
you have agreed to respect their right to peaceful use of 
nuclear power?
    Secretary Hill. No. Specifically they have asserted that 
they have a right to peaceful use of nuclear power. And the 
other parties have respected that assertion. But we have not 
said that we support it. Or want them to return, or it would be 
our policy that they should have this right. We want them to 
get rid of their nuclear weapons, get out of all these 
programs. Get back into the NPT, get back with IES safeguards 
and we'll have a discussion at that point.
    Senator Kerry. What's the road map then to that? I mean, 
most of the agreements we've reached with different countries 
have a sort of step by step process. Is it crystal clear what 
steps have to be taken by whom and in what order?
    Secretary Hill. First of all I want to emphasize that this 
is an agreement on a set of principles, principles that will 
guide us as we continue in the next phase. The next phase will 
deal with the important question of sequencing, that is, of 
timing. It will deal with the very important question of 
verification, of the question of listing their programs, 
including the purchases they've made which are entirely 
consistent with an HEU, with a highly enriched uranium program. 
So we are not there yet in terms of laying out what you very 
importantly describe as having a road map and a way forward. 
Our view is they need to start by a clear strategic choice, 
that is to get out of the business of weapons production and 
nuclear programs. And after that, we are prepared to move on a 
number of fronts including a process toward eventual 
normalization.
    Senator Kerry. Can we anticipate additional one on one 
discussion?
    Secretary Hill. Throughout the Six-Party Talks, or 
throughout the Six-Party Talks that I've been involved in, I 
have engaged in one-on-one discussions with the North Koreans. 
It's in the framework of the Six-Party Talks, but I found that 
as a practical matter, it's very important to sit across the 
table and make sure they understand our position, and make sure 
we understand where they're coming from. There are many times 
when we have the other four parties in the room, but there are 
many other times when we have to just do it one on one across 
the table, and we will continue to do so.
    Senator Kerry. To what degree is there a risk here of 
separate tracks, because China, Russia, and South Korea all 
agree that they do have a right to a light water reactor? We 
seem to be out there alone in asserting the non-right, or 
reservations about it.
    Secretary Hill. To be sure, there are different view points 
on the question of their having a right to pursue peaceful 
nuclear energy. Our point is they haven't done so in the past, 
and we're not prepared to say that they can do so in the 
future. I would say however there is no disagreement between us 
and our other Six-Party partners, on the need for them first, 
to get out of nuclear weapons production, out of nuclear 
programs, back into the NPT, and back into the IAE safeguards. 
No country--no country in the Six-Party process is prepared to 
sit down with North Korea and discuss nuclear cooperation in 
the absence of their taking these steps. And indeed the Russian 
Federation was quite clear about that. That they have their own 
internal regulations that prohibit such cooperation, such 
discussions of such cooperation while they're outside--while 
they have pulled themselves out of the NPT. So there's really 
unanimity on that issue. Down the road when they're out of all 
these activities, and when they're back in good standing I'm 
sure differences will emerge, but at this point, we do not have 
differences.
    Senator Murkowski. Senator Kerry I appreciate the line of 
questioning, because I'm really very interested in it. We do 
still have another panel to bring up, I know that you were 
interested in the medical equipment issue. So if you have any 
more questions on the Japanese relations, otherwise we will let 
these two gentlemen retire.
    Senator Kerry. With respect to the medical device issue, 
just very quickly. The Government does a reimbursement program, 
is that correct? The hospitals get reimbursed by the 
Government, but the Government won't pay as much as the 
companies need for the device. Is that part of the----
    Secretary Lawless. That's my understanding. The Government 
has a reimbursable system. And through their regulation we have 
found that U.S. manufactured----
    Senator Kerry. Are discriminated against----
    Secretary Lawless. Are essentially not reimbursed. So it's 
a use of regulation, of internal regulation in order to 
discriminate against the foreign supplier.
    Senator Kerry. Thank you. Thank you Madam Chairman.
    Senator Murkowski. Thank you. I appreciate the testimony 
from both of you gentlemen, and your time here this afternoon. 
We'll move on to the second panel please.
    OK. We have the second panel assembled before us. We're 
pleased to have join the subcommittee this afternoon Ms. Amelia 
Porges, Mr. Stephen P. MacMillan, the president and CEO of 
Stryker Corporation and Dr. Gerald Curtis, of the Department of 
Political Science of Columbia University. Ladies and gentlemen, 
welcome this afternoon. Why don't we start down here with you 
Dr. Curtis, and we'll just work our way down the line. Thank 
you, and welcome.

STATEMENT OF DR. GERALD CURTIS, BURGESS PROFESSOR OF POLITICAL 
                  SCIENCE, COLUMBIA UNIVERSITY

    Dr. Curtis. Thank you, Madam Chairman, I'm honored to be 
here today to perhaps give a somewhat different take on what 
we've been discussing so far, which is to give you a sense of 
how recent developments in Japanese political affairs impact on 
the United States and our bilateral relationships, and to say a 
few words especially about the election, the important election 
that was held a couple of weeks ago and what it signifies in 
terms of Japanese policy and U.S. relations.
    This election was a huge personal victory for Prime 
Minister Koizumi. As you know, he decided to call it after his 
bill to privatize the postal system was rejected because of 
defections by members of his own party. He quickly dissolved 
the house, called elections, purged the incumbents from his 
party who had voted against him, and framed the election as a 
referendum on one issue, and one issue only.
    The issue was reform of the postal system, which in Japan 
doesn't only deliver the mail, it's the biggest bank in Japan 
and in the world. If you oppose change vote against him, if you 
are in favor of change vote for him. That's the way he framed 
the election and he succeeded brilliantly. Prime Minister 
Koizumi is in a league all of his own when it comes to 
political savvy, media smarts, and he managed to portray his 
party, the LDP, which has resisted almost everything he's tried 
to do for the past 4 years as the party of reform, and the 
Opposition Democratic Party which was formed to pursue reform, 
as a party opposed to change. He pulled it off, the LDP won 296 
seats out of 480.
    I want to say just a couple of words about this very 
extraordinary political leader in Japan. He's very popular and 
he's very popular because the man exudes an innate optimism. He 
basically tells people, let's do this and things will get 
better. That is kind of obvious to American politicians, but in 
Japan, politicians so often talk negatively about having to do 
this or things are going to get much worse. Here's a man who 
actually inspires hope, and confidence in the public.
    He has another quality which is very important, and I think 
unusual for any politician, he's not afraid to lose. He wasn't 
afraid to lose because he didn't think there was any point in 
staying in office if he couldn't get what he was after, which 
was further liberalizing the Japanese economy. And I don't 
believe the Japanese public supported him and his party because 
they were all that enthusiastic about postal reform. They were 
enthusiastic about a leader who was willing to sacrifice 
everything to get through a reform that he thought was 
necessary for Japan. So they bought his conviction and his 
belief.
    Two other points that I think are very important to keep in 
mind. He won because the economy is a lot better in Japan, and 
people are feeling more optimistic. If deflation were 
deepening, if unemployment were increasing, if corporate 
profits were down, if growth was at zero, or close to it, we 
wouldn't have had this result.
    But deflation is moderating and may be coming to an end. 
Corporate profits are at records high, the economic growth rate 
is up, probably 2\1/2\ percent or so. Consumer confidence is 
up. Business confidence is up. People feel the worse is behind 
Japan and the mood is more up beat than it has been for 15 
years. Finally, the reason Koizumi is the Prime Minister of 
Japan in the first decade of the 21st century is that Japan 
changed enormously, especially in the last decade of the 20th 
century.
    That wasn't a lost decade, it was a watershed. Values, 
attitudes, behavior, assumptions changed and that has had a 
direct impact on Japanese security policy and economic policy. 
We've ignored Japan for the past decade. Now it's important to 
take a new look. This is a very different country than it was 
in the 1980's or the early 1990's. And it presents new issues 
and new opportunities for the United States.
    So, what are the consequences of these changes? First, 
postal reform will pass. Second, Koizumi will pursue other 
related reforms mainly in dismantling several government 
agencies, particularly financial institutions that aren't 
responsive to market forces.
    He will not increase the consumption tax. This is very good 
news, I believe. One thing I'm hoping he will do, but he has 
not spoken to it, is agricultural reform. He has now elected a 
lot of people from urban Japan in his party and it's an 
opportunity for him to push hard on agriculture reform. 
Agriculture reform is needed for domestic reasons in Japan. You 
have a very old population farming very small, inefficient lots 
of land.
    Japan, not only for it's international relations, but for 
domestic purposes has to come to grips with agricultural 
reform. And I'm hoping he will do so. Now what does this mean 
for the United States? Since my time is limited here, let me 
just briefly tick off a few points that strike me as important.
    The implications of what's going on in Japan domestically 
are only good as far as the United States is concerned. First 
of all there's continuity, we know who's in power. We've gotten 
used to them, we know them well. And there is a Prime Minister 
who enjoys an exceptional relationship of trust and friendship 
with the President of the United States. That is all very good.
    The opposition party which was defeated so badly is 
restructuring, and has a dynamic young leader, 43 years old, 
whose fundamental position and the party's fundamental position 
on Japan's foreign policy orientation and alliance with the 
United States, is really quite the same as the LDP's. 
Bipartisanship is emerging very much like our country. 
Republicans and Democrats differ about policies in Iraq or 
wherever it may be. But we basically, I think, are on the same 
page in terms of fundamental assumptions. That is now happening 
in Japan, so even a change in the party in power in Japan, 
there's not going to be a problem for the United States.
    Third, the results of what happened in this election means 
there is no backtracking of economic reform. That is really 
good news for American business community. There is going to be 
new expanded opportunities for American business. Not as much, 
not as fast, not as big as we would like, but surely it's 
moving in the right direction, and it's very important to keep 
an eye on these opportunities, make sure there's a level 
playing field, and encourage American business to pursue them.
    Now finally, I think it's very important in thinking about 
Japan's role in the world--the kind of issues that Mr. Lawless 
and Secretary Hill raised--to understand that there are 
continuing important constraints on Japanese security policy. 
There are domestic constraints in terms of public opinion, 
which you're well aware of, but they're particular important in 
terms of regional relations. Japan's relations with China and 
South Korea are very difficult ones. It's most difficult 
relations are with its closest neighbors. We have important 
relations, we have an alliance with South Korea, we have an 
important relationship with China. We need to see Japan, China, 
and Korea have a good relationship with each other. We have 
nothing, nothing to gain and a great deal to lose if those 
relationships deteriorate, become more strained. They are 
strained now, and I think it's very important for our 
Government to encourage Japan and China to work out their 
problems and to find a way to improve their political 
relations. The economic relationship is growing more and more 
dense, and it's linked to a growing economic relationship among 
all three of us, with the United States as well. But bad 
political relations between China and Japan will draw the 
United States into very difficult problems. There are 
territorial issues that we do not want to see become more a 
cause of strain and that will force the United States to become 
involved.
    So, I want to stress, in conclusion, that we talk about 
U.S. Japan relations, it's important not to focus only on the 
bilateral relationship. This takes place in a context, regional 
and global. I think there's a strong impetus in Japan now to 
seek out a larger global role, a political and security role, 
and that's very good for the United States. But we need to keep 
our eye on exactly how to work with the Japanese so that we 
don't exacerbate political problems in East Asia, and use the 
capabilities that Japan has to utmost benefit for all of us.
    The U.S.-Japan relationship today is better than it's ever 
been before. It's stronger than it's been before and there's 
much that the United States and Japan can do together in 
dealing with regional and global, political, economic, 
environmental, social problems and so on. So I'm delighted that 
these hearings are being held and I hope it's part of a new 
effort to engage Japan in a very close dialog.
    Thank you very much.
    [The prepared statement of Dr. Curtis follows:]
Prepared Statement of Dr. Gerald Curtis, Burgess Professor of Political 
                      Science, Columbia University
    It is an honor and a pleasure to appear before this committee to 
discuss the consequences of recent developments in Japanese politics 
for economic and foreign policy and for Japan's bilateral relationship 
with the United States. The focus for my remarks will be the September 
11th Japanese parliamentary election, one of the most important 
elections in recent Japanese history.
    The trigger for the election was the rejection by the Diet (Japan's 
parliament) of a government bill to privatize Japan's postal system. 
The bill only barely passed the lower house when nearly forty LDP 
members voted against it. It was defeated in the upper house when a 
large number of LDP members decided to vote against it. Prime Minister 
Koizumi immediately dissolved the lower house, saying that he wanted 
the public to indicate whether it supported his policy on the reform of 
the postal system or agreed with those who were opposed to it.
    Prime Minister Koizumi's strategy was to frame the election as a 
referendum on postal system reform. He drove all of the LDP members who 
had voted against his bill in the lower house out of the party and ran 
new candidates against them, including several high profile women. The 
media quickly labeled these new candidates the ``assassins,'' thus 
bringing a sense of high drama to the election and getting the public 
excited about it. The result was a nearly 8 percentage spike upwards in 
the voting rate. Koizumi managed to portray the LDP, which for the 
previous 4 years had resisted much of his program, as the party of 
reform, and the Democratic Party (DPJ), which had been founded several 
years earlier to pursue a reform agenda, as a party opposed to change.
    There is little evidence that the public knew what to make of the 
details of the postal reform bill. What attracted them was the courage 
of a prime minister who was willing to risk losing power rather than 
give up a policy that he believed was essential for Japan's economic 
revitalization. Koizumi convinced the voters that he had the conviction 
of his beliefs and would rather leave office than betray those beliefs.
    His strategy succeeded brilliantly. A prime minister who until just 
a few weeks earlier looked as though his popularity was ebbing and 
whose ability to survive in office until the end of his term as LDP 
president in September 2006 was being publicly questioned now suddenly 
enjoyed a huge upswing in popularity. His party swept the election, 
increasing its representation in the 480 member lower house by 84 seats 
for a total of 296 seats. Together with its coalition partner, the 
Komeito which won 31 seats, it controls two-thirds of the lower house 
seats. That means that it has the numbers to pass legislation defeated 
in the upper house.
    The opposition DPJ suffered a humiliating defeat. It won only 113 
seats, a loss of 64 seats. Of the 31 purged LDP incumbents, most of 
whom ran as independents, only 15 won. And they remain outside the 
party and isolated. With the adoption a decade ago of a predominantly 
single-member district system, small parties such as the once powerful 
Socialist Party (renamed the Social Democratic Party) and the Communist 
Party have fared poorly. Neither was able to break out of the single 
digits in terms of seats won.
                         explaining the results
    The first point to stress is that this election was not won by the 
LDP. It was won by Prime Minister Koizumi; nearly 300 LDP candidates 
rode into office on his broad coattails. Koizumi is in a league of his 
own when it comes to political skill and media savvy. He has often said 
that he would destroy the LDP if it did not support reform but in fact 
he is not destroying it but saving it from itself.
    Koizumi is often compared to Ronald Reagan and Margaret Thatcher 
because of his emphasis on shrinking the government's role in the 
economy, but the more apt comparison is to Tony Blair. Reagan and 
Thatcher succeeded in convincing the public to support positions long 
identified with their parties. Koizumi, like Blair, forced his own 
party to embrace policies they had long resisted and then got the 
public to support the party because of its new stance. Koizumi has not 
yet succeeded in creating a ``New LDP'' in the way Blair created New 
Labour. But he has created the possibility that it will do so.
    The phenomenon of a ``Koizumi boom'' driving up public support for 
his party is not without precedent. A little more than a decade ago, 
there was a Hosokawa boom that propelled Morihiro Hosokawa into the 
prime minister's office. In the 1970's, the current Speaker of the 
Lower House Yohei Kono, who had split from the LDP to form the New 
Liberal Club, enjoyed a similar outpouring of public support. Every 
decade or so a politician appears who seems to capture the imagination 
of the Japanese public.
    The difference this time is that the object of the boom was the 
prime minister rather than an opposition party leader and, most 
importantly, that it was the first such boom to occur in the context of 
Japan's predominantly single member district system. Such a system 
magnifies the effects of a leader boom, sweeping members of the 
leader's party to victory across the country.
    The size of the LDP victory was unexpected, even to the party's 
leaders. In Tokyo, for example, it won every single member district 
seat save one, and won so many seats in the proportional representation 
contest that it did not have enough candidates to fill all the seats it 
won, causing it to forfeit one seat to the Socialists.
    Koizumi's appeal since he first was elected prime minister in 2001 
is rooted in his innate optimism. Japanese politicians tend to warn 
about how bad things will get if people don't try hard to avoid 
calamity. When times are good, people may be responsive to a politician 
who warns that good times do not last forever. But when a country has 
been in the economic doldrums for more than a decade, the last thing 
the public wants to hear is a politician tell them how much worse 
things are likely to get unless they take power.
    Koizumi's message was simple and straight-forward. Privatizing the 
postal system and reducing government interference with the operation 
of the marketplace will energize the Japanese economy. Make these 
changes, he told the voters, and things will get better.
    The opposition DPJ took a more traditional Japanese approach. Its 
slogan was ``we are not giving up on Japan,'' hardly a message to 
inspire hope, and it warned how terrible things would become unless 
something were done about fiscal deficits and pension reform. What it 
neglected to do was tell the public why the DPJ's coming to power would 
make life better.
    Koizumi's great strength going into this election was that he was 
not afraid to lose. Koizumi was not confident that he would win the 
election when he decided to dissolve the house. What he knew was that 
if he did not call elections, he would spend his remaining months in 
office unable to accomplish anything the LDP party bosses opposed. He 
concluded that if he won the election he would gain new momentum, and 
if he lost, he would take the LDP down with him. LDP politicians who 
opposed him on postal reform and thought that he would accept some kind 
of compromise simply failed to take the full measure of the man.
    They also failed to understand that Koizumi has total confidence in 
his instincts. He has limited patience for chewing over issues, which 
oftentimes turns out to be more of a weakness than a strength, and once 
he has made up his mind on a course of action he does not look back or 
waver. He also simply refuses to abide by the informal rules that have 
long constrained LDP leadership behavior. Consequently, he constantly 
caught other politicians by surprise and threw them on the defensive 
while delighting the public with his willingness to challenge the LDP 
from within.
    Three other factors deserve mention as having contributed to 
Koizumi's victory in this election. One is the improvement in Japan's 
economic performance. Fears about a crash of the country's financial 
system are now history. The banks have written off an enormous amount 
of bad loans and are now beginning to lend again. Corporate profits are 
setting new records, the stock market is up, exports have been driving 
growth and consumer and business confidence has improved. The sense 
that the worst is behind Japan and that the economy is on a path to 
sustained growth clearly provided a backdrop to this election that was 
favorable to Koizumi.
    Another important factor was the ineptitude of the DPJ campaign. 
The DPJ made a strategic mistake by not putting forward an alternative 
to Koizumi's postal privatization bill. Party leaders assumed that 
there would not be an election before he left office and thus put more 
emphasis on maintaining harmony among the diverse interests represented 
in the party than broadcasting an appealing message to the public. The 
result was that Koizumi was able to portray the DPJ as being against 
change as much as were the LDP members who had opposed the legislation. 
The DPJ never got off the defensive and was unable to convince the 
voters that they should consider the election as anything other than a 
referendum on postal reform. They did everything possible to deserve 
the fate the election results bestowed on them.
    Finally, and crucially, Koizumi's victory is not only changing 
Japan. Japan's changing made Koizumi's victory possible. The 1990's was 
not a so-called lost decade for Japan; it was a watershed decade in 
terms of changing values, expectations, attitudes and behavior. The 
political machine is collapsing, even in rural areas. Faith in the 
bureaucracy's ability to guide the economy disappeared with the 
bursting of the bubble economy. The idea that things will somehow be OK 
as long as people do not rock the boat is no longer accepted. Someone 
like Koizumi could become prime minister in the first decade of the 
21st century only because of what had happened to Japanese society in 
the last decade of the 20th century.
                       assessing the consequences
    The election results insure that postal system reform legislation 
will be passed by the Diet very quickly. Those LDP members who opposed 
it in the Upper House have lost no time to declare their readiness to 
support it when it is submitted again. Koizumi probably could get 
passed a stronger bill than the watered down one he submitted in August 
but he is going to submit exactly the same legislation as was defeated 
earlier.
    Koizumi framed the election as a referendum on postal reform. He 
did not say what he would do after reform legislation was passed except 
to indicate in vague terms that he would pursue further economic 
reform. Therefore there is still a lot of guesswork involved in 
forecasting what he will do after passing postal system reform 
legislation.
    Some things seem clear. He will focus his attention on continuing 
to try to shrink government by dismantling government special agencies, 
especially the large number of government financial institutions. His 
goal is as much to reduce the power of the bureaucracy and to eliminate 
sinecures for retiring bureaucrats as to make the economy more 
responsive to market forces.
    He will pursue further cutbacks on public works spending and look 
for other ways to cut costs.
    He will not raise the consumption tax before his term in office 
expires next September.
    He will push for a bipartisan consensus on pension and medical 
system reform but it is unlikely that agreement will be reached before 
his term expires.
    He will try to push through legislation to turn more tax making 
authority over to local governments and reduce the power of the central 
government over localities, though here too the devil is in the 
details.
    He has the opportunity, now that his party has scored such big 
successes in urban Japan, to champion the cause of agricultural reform. 
Japanese agriculture is characterized by elderly people farming 
inefficiently small plots protected by high tariff walls. There is a 
growing public discussion in Japan about the need for fundamental 
reform, but Prime Minister Koizumi has not yet given any indication 
that he plans to take on this very big issue.
    Koizumi faces the political problem of moving the reform process 
forward so as to respond to the high expectations the public expressed 
in the election. Having won so big, he now has to figure out how not to 
disappoint the voters.
    As far as the economy is concerned, what Koizumi does is probably 
not as important as the mood his victory has created. First of all, 
there is confidence in the investor community, and especially among 
foreign investors, that there will be no backtracking on the course of 
reform. Second, the Japanese public is generally upbeat about the 
Koizumi administration and the future of the economy. There is an 
expectation that things will get better and that in itself creates a 
virtuous cycle of positive expectations, conducive to consumers 
spending more and business investing more. The sharp rise in the stock, 
market since the election is an indicator of this positive mood.
    The longer term political consequences of the election are less 
certain but it is my considered view that this election, contrary to 
appearances, has moved Japan further along the road to evolving a 
competitive two party dominated political party system.
    It is very questionable how strong the LDP will be without Koizumi. 
What this election showed is that the great majority of Japanese voters 
do not identify strongly with any political party; they are floating 
voters who were attracted this time to Koizumi's party. It is hard to 
imagine that they will support the LDP in as large numbers as they did 
this time after Koizumi is gone. The LDP will lose seats in the next 
election. The question is how many.
    The DPJ's massive defeat was good medicine for the party. If it had 
lost by a smaller margin, the pressure to rejuvenate the leadership, to 
reject the influence of public sector unions (which were responsible 
for the DPJ's opposition to privatization of the postal system), and to 
change its strategy would have been insufficient., But this election 
taught the DPJ important lessons. One is that it cannot expect to come 
to power simply by waiting for the LDP to lose it. It has to 
aggressively, pro-actively fight for the voters' support. The second is 
that elections are one-time events. The DPJ has talked about building 
its support over a number of elections so that it would ``hop, skip, 
and then jump'' into power, but it hopped, skipped, and fell flat on 
its face. The result is that it now has a new and young leadership core 
that is trying to change the party so as to make it a real alternative 
to the LDP. One should not underestimate the ability of the political 
opposition in Japan to betray expectations that it will challenge the 
LDP for power, but I believe the coming years will be a period of 
intense and healthy political competition. What is particularly 
noteworthy is that the DPJ opposes the LDP on a number of important 
policy issues, both in domestic and foreign affairs, but that these two 
parties share essentially the same ideological space. There is a 
fundamental bipartisan consensus on basic foreign policy strategy, 
which is anchored in a close alliance with the United States, and on 
the need to reduce the role of the state in the economy and to make it 
more open.
    There is a need to be cautious in interpreting the significance of 
this election. It was after all a one off event, unlikely ever to be 
repeated. It was turned into a referendum on a single issue, postal 
reform. That is not likely to happen again. Thirty-seven incumbent Diet 
members were purged from the LDP. LDP Diet members will think harder 
about going against party discipline the next time a controversial 
piece of legislation comes to the Diet. The LDP swept urban Japan 
because of the popularity of its leader. But the LDP has not been 
transformed, at least not yet, into an urban party.
    What can be safely concluded about this election is, first, that 
politics cannot go back to what they were like before Koizumi. He has 
irreversibly broken the old system. Factions will never again recover 
the role they formerly enjoyed in deciding who becomes prime minister 
and who joins his cabinet. Koizumi has made the cabinet the prime 
minister's cabinet, not the LDP's cabinet, and that is likely to 
continue. And the center of gravity for policymaking has shifted from 
being centered in an LDP-bureaucracy alliance into the prime minister's 
office. These are fundamental and important changes that are likely to 
outlast Koizumi and that probably will be his biggest legacy.
    Koizumi, however, has done more to destroy the old system than 
define the contours of the new one. That will be up to his successors. 
One political issue Japan now confronts is how to institutionalize a 
new system of checks and balances, something that is necessary to every 
democracy. In the past the LDP's factional system itself provided 
checks and balances and an ideological opposition also acted as a brake 
on the governing party. Koizumi has made the LDP a more unified party 
than ever before so the old factional system no longer works. The 
opposition has been humbled and weakened by the election results so its 
ability to act as a strong check on the ruling party is at least for 
now quite limited.
    There are two sources of checks and balances operating at the 
current time. One is the Komeito, the LDP's coalition partner. The 
Komeito's support is crucial for the LDP both because it needs the 
Komeito's votes to get legislation through the Upper House and because 
the Komeito supporting religious organization, Soka Gakkai, is one of 
the few organizations capable of mobilizing large numbers of voters in 
support of LDP candidates, something that will become much more 
important in the post-Koizumi era.
    The second source of constraint on the government is the stance 
adopted by Prime Minister Koizumi himself. Koizumi has been very 
careful to emphasize that the election gave him a mandate for one thing 
and one thing only: to pass postal system reform legislation and other 
related reform measures. Much to his credit, he has not claimed public 
support for anything else, whether in domestic or foreign policy. And 
he has insisted that he will resign when his term as LDP president ends 
in September 2006. This results in concentrating the energies of his 
administration on accomplishing the reform goals he has set out and 
making support for reform the key issue in choosing his successor. 
Koizumi is no doubt sincere about his intention to resign next 
September. Given his character, he would not remain longer simply to 
help the LDP win the next election for the Upper House in the summer of 
2007. But if he comes convinced as his term approaches its end that 
there is important unfinished business to attend to that only he can 
successfully resolve he may in the end change his mind. In any event, 
between now and September 2006 we should expect to see Koizumi focus 
his attention on pushing forward his reform agenda.
                   implications for the united states
    Recent developments in domestic Japanese politics should be 
welcomed by the United States. They contribute directly to 
strengthening our bilateral relationship.
    Koizumi's reelection means that there will be continuity in 
Japanese policy and the continued presence of a prime minister who is 
committed to sustaining a strong affiance with the United States and 
who enjoys a strong relationship of trust with President Bush.
    The major opposition party, the DPJ, is on the same page as the LDP 
in terms of its belief in the central importance of a strong US 
alliance, creating a bipartisan consensus on the fundamental 
underpinnings of Japanese foreign policy.
    The privatization of the postal system and the general thrust for 
reforms to further liberalize the economy will contribute to creating a 
stronger Japanese economy that will offer new and expanded 
opportunities for American business.
    It is also important not to entertain excessive expectations (or 
apprehensions) about Japan's security policy. There is a cautious 
searching out for a somewhat expanded role for Japan in international 
political and security affairs, and that will continue. But radical 
changes, are neither likely nor desirable. However, the constraints on 
Japanese foreign policy that derive from the public opinion in Japan 
and the difficulties of Japan's relations with its closest neighbors, 
China and Korea, remain strong.
    In considering our security relations with Japan, it is important 
to understand that they do not occur in isolation. What happens in our 
relations with Japan impacts directly on our relations with China and 
with South Korea and other countries. The U.S. needs to have a regional 
security strategy and to avoid thinking in purely bilateral terms.
    In that context it is in American national interests to see Japan 
and China improve their political relationship. It is not in our 
interests for relations between these major powers to deteriorate 
further. Prime Minister Koizumi has stressed that he believes that it 
is important for Japan and China to have good relations and that he is 
looking for ways to improve them.
    In that regard, however, a looming issue is whether Prime Minister 
Koizumi decides to visit the Yasukuni shrine again. Yasukuni is not 
simply a shrine to honor the young men who fought and died for their 
country. As a visit to the war museum at the shrine makes all too 
obvious, Yasukuni is a shrine that honors the ideology and the policies 
of the government that sent these young men to the battlefields of Asia 
and the Pacific. It endorses the view that the attack on Pearl Harbor 
was a preemptive attack taken in self-defense and Japanese aggression 
in Asia was in fact a noble endeavor to liberate Asia from western 
imperialism and colonialism. Those convicted of Class A war crimes are 
enshrined at Yasukuni, but that is only a symbol, not the essence of 
the problem that has made Yasukuni an international controversy. A 
decision by Prime Minister Koizumi not to go to Yasukuni will not 
necessarily result in an improvement of Sino-Japanese relations. But it 
is a necessary condition for making improvement of those relations 
possible. It is in our national interest to encourage both Japan and to 
China to seek ways to improve their political relations.
    In summary, Japan is a dynamic political democracy with an 
immensely popular leader who has contributed in a major way to make the 
United States-Japan relationship today stronger than it has ever been 
before. There is a great deal that the United States and Japan together 
can do to deal with pressing regional and global political, economic, 
environmental and social problems. It is important that U.S. 
policymakers engage Japan in a close dialog to pursue those 
opportunities.

    Senator Murkowski. Thank you Dr. Curtis, let's go to Mr. 
MacMillan, welcome.

  STATEMENT OF MR. STEPHEN P. MACMILLAN, PRESIDENT AND CHIEF 
    EXECUTIVE OFFICER, STRYKER CORPORATION ON BEHALF OF THE 
                  ADVANCED MEDICAL TECHNOLOGY 
                     ASSOCIATION (ADVAMED)

    Mr. MacMillan. Thank you Madam Chairman. I'm Steve 
MacMillan and I ask that my full written statement be entered 
for the record.
    Senator Murkowski. It will be included.
    Mr. MacMillan. Thank you. AdvaMed represents over 1300 
medical technology innovators and manufacturers of medical 
devices, diagnostic products and medical information systems. 
Our products save and improve lives, and enhance economic 
productivity.
    To deliver this value to patients, our industry invests 
heavily in R&D, about 11 percent of sales, which is about three 
times the U.S. industry average. Our members manufacture nearly 
90 percent of the $ 84 billion U.S. health care technology 
market, and nearly half of the $ 175 billion global market. In 
2004, U.S. exports in medical devices and diagnostics totaled 
over $ 24 billion dollars, which I note from comments about the 
beef industry earlier, that's more than double that industry.
    Our company Stryker Corporation is a leader in the 
worldwide orthopaedic market. Our company has significant 
operations in Michigan, New Jersey, California, Florida, 
Tennessee, Massachusetts, New Hampshire and Texas. I would also 
like to point out that the other leading U.S. orthopaedic 
companies DePuy, Zimmer and Biomet are based in Senator Lugar's 
home State of Indiana. AdvaMed and its member companies would 
like to thank the committee for holding this important hearing 
today. Japan is our industry's largest overseas market, but the 
obstacles we face there get worse every year.
    Japan's system for approving use of new medical 
technologies is the slowest and most costly in the world. The 
medical technologies patients receive in Japan are often 
several generations behind those available in the United States 
and Europe. Japan is compounding the problem with even more 
burdensome and costlier regulations. In fact, in just April of 
this year, Japan instituted the PAL measures which are 
estimated to cost our industry an extra $ 1.5 billion just to 
comply by 2010.
    But immediately following these measures, which have just 
dramatically increased our costs, they now wish to slash our 
prices by unprecedented levels. So while raising our costs, 
Japan is cutting the reimbursements for medical technologies. 
Between April 2002 and March 2006, the total revenue loss from 
the already enacted reimbursement reductions will be about $ 3 
billion.
    Japan issues price cuts every 2 years. In two ways, one, 
they survey its hospitals and reduce reimbursements to reflect 
the prices hospitals are paying for all medical technologies. 
This approach is at least based on conditions in Japan. Since 
2002, Japan has also begun to use a foreign average pricing, or 
FAP, scheme to cut prices for selected devices. FAP aims to 
base reimbursements on prices paid for medical technologies in 
the Unites States, France, Germany, and the United Kingdom They 
want technology prices to be based not on the expensive 
Japanese market, but on unrelated conditions in foreign 
markets.
    We have strong objections to FAP. Japan's market is vastly 
different from, and much more expensive than, the four 
countries used to compute the FAP. The three European countries 
impose relatively low price ceilings, or price controls on the 
medical technologies and distort prices.
    Comparing prices even within markets, let alone across 
national boundaries, is difficult. Our companies sell a wide 
range of products under a variety terms and conditions. Japan 
appears to be seeking even lower prices for medical 
technologies in part, to avoid correcting massive 
inefficiencies in its own health care system. For example, in 
Japan, patients stay in hospitals five times longer than in 
other developed countries. Japan's threatened cuts would have 
no perceptible effect on moderating Japan's overall health 
expenditures. Medical devices account for only 8 percent of 
their total health care spending. And the specific products 
targeted for these cuts represent less than 0.7 percent of 
those costs.
    Virtually all technologies targeted for cuts are made by 
non-Japanese companies. The cuts are counterproductive to 
Japan's goals, as studies show that investing in health care, 
including technologies reduces long-term health care costs.
    We have recommendations to help ameliorate the situation 
and facilitate patient access to advanced medical technologies. 
For the regulatory environment we ask the Japanese Government 
to simplify and speed the approval process, while ensuring the 
products are safe and effective.
    Regarding reimbursement, we seek a fair, transparent, and 
predictable system based on operating conditions and the cost 
of doing business in Japan. We look to work with the Japanese 
Government on a system that would limit the size of reductions 
in any given year, and would allow us to build such cuts into 
our long term planning.
    Thank you again for inviting us to raise these issues 
today. We hope you will continue to recognize the importance of 
the medical device industry, as well as access to foreign 
markets for the sustained growth of our industry and U.S. jobs.
    In our relationship with Japan, congressional and 
administration involvement is critical to maintaining our 
exports to this important market.
    Thank you very much.
    [The prepared statement of Mr. MacMillan follows:]
    Prepared Statement of Stephen P. MacMillan, President and Chief 
   Executive Officer, Stryker Corporation on Behalf of the Advanced 
                Medical Technology Association (AdvaMed)
    AdvaMed and its member companies would like to thank the Chairman, 
Ranking Member, and Members of the Committee for holding this timely 
and important hearing today. Japan is our industry's largest overseas 
market, second only to the United States. We applaud the Committee for 
recognizing Japan's continued importance in the global economy, world 
trade, and U.S. foreign trade. We also greatly appreciate the work 
executive branch agencies have done on our industry's behalf.
                    the medical technology industry
    AdvaMed represents over 1300 of the world's leading medical 
technology innovators and manufacturers of medical devices, diagnostic 
products and medical information systems. AdvaMed is proud to represent 
an industry that brings new hope to patients around the world, and U.S. 
companies are still benchmark manufacturing leaders in terms of total 
production, innovation and highest quality products. Our member 
companies manufacture nearly 90 percent of the $ 94 billion U.S. health 
care technology market, and nearly 50 percent of the $ 220 billion of 
medical technology products that are purchased globally each year. In 
2004, U.S. exports in medical devices and diagnostics totaled over $ 24 
billion. The medical technology industry directly employs about 350,000 
workers in the U.S.
    Our industry is fueled by intensive competition and the innovative 
energy, driving very rapid innovation cycles that in many cases can 
lead to new product iterations every 18 months. About 70 percent of 
AdvaMed's membership is comprised of small and medium sized 
enterprises. Accordingly, our industry is most successful in fair, 
transparent, global markets where products can be adopted in a timely 
fashion and on their merits.
    Innovative medical technology saves and enhances peoples' lives. 
Our products enrich patients' productivity and quality of life, thereby 
improving living standards and benefiting society overall.
    Medical technology also contributes substantially to economic 
growth. Our products increase productivity by allowing workers to 
recover from illness faster, remain longer in the work force, and 
thrive without expensive long-term care. Studies show that funds 
invested in health care yield far greater benefits than costs to a 
nation's economy over the long term.
    The use of medical technology will become even more important as a 
nation's population ages. According to the 2002 Commission on Global 
Aging, medical advances will bring ``longer, healthier, more productive 
lives with declining rates of disability for the elderly.'' Innovative 
medical technologies offer an important solution for nations that face 
the challenges of balancing serious budget constraints and the demands 
of serving aging populations.
    To deliver this value to patients, our industry invests heavily in 
research and development (R&D). Today, our industry leads global 
medical technology R&D, both in terms of innovation as well as 
investment. The level of R&D spending in the medical devices and 
diagnostic industry, as a percent of sales, more than doubled during 
the 1990's--increasing from 5.4 percent in 1990 to 8.4 percent in 1995 
and over 11 percent last year. In absolute terms, R&D spending has 
increased 20 percent on a cumulative annual basis since 1990. Our 
industry's level of spending on R&D is more than three times the 
overall U.S. average.
                           global challenges
    Despite the great advances the medical technology industry has made 
in improving patient quality of life and delivering considerable value 
for its innovations, patient access to critical medical technology 
advances can be hindered by onerous government policies. Patients and 
health care systems experience much less benefit from our industry's 
R&D investment when regulatory procedures are complex, non-transparent, 
or overly burdensome--all of which can significantly delay patient 
access and drive up costs. In the future, patients will be further 
disadvantaged if reimbursement systems fail to provide appropriate 
payments for innovative products--which will subsequently affect the 
availability of R&D funds and the stream of new technologies.
    The medical technology industry is facing these challenges around 
the world as governments enact more regulations. While we support those 
regulations that ensure product safety and efficacy, many others are 
being imposed without scientific justification, and in non-transparent 
processes, which only adds to costs and delays without improving 
patient outcomes.
    As governments prioritize difficult budget decisions, they 
sometimes look to short-term decreases in health care expenditures 
without accurately assessing the long-term implications. In most cases, 
governments do not effectively measure the contributions medical 
technology makes in enhancing patient outcomes and productivity as well 
as expanding economic growth, which would more than offset the costs of 
providing these products. Instead, governments often inappropriately 
include reduced reimbursement rates as part of overall budget cuts.
                         the challenge in japan
    This is the situation we are facing in Japan, and it is getting 
more difficult every year. Japan's system for approving use of new 
medical technologies is the slowest and most costly in the developed 
world. Although Japan is one of the wealthiest countries in the world--
the second largest economy in the world--its spending on health care is 
among the lowest of major developed countries. On a per capita basis, 
Japan's spending of 7.8 percent of GDP is lower than 17 other 
Organization of Economic Cooperation and Development (OECD) member 
countries.
    Japan is compounding the problem by imposing more burdensome and 
costlier regulations, thereby penalizing the U.S. medical technology 
industry. Japan's latest regulations are expected to cost our industry 
over $ 1.5 billion just to achieve compliance to 2010.\1\
---------------------------------------------------------------------------
    \1\ LEK Acumen Consultant. 2005
---------------------------------------------------------------------------
    At the same time, Japan has made significant reimbursement 
reductions for medical technologies that impact the medical device 
industry in many ways, including limiting the availability of funds 
that could be devoted to R&D of new and innovative products. Inventing 
products that save and enhance lives requires large investments. Deep 
cuts for medical technologies in Japan have put downward pressure on 
companies' ability to invest in R&D. For the period April 2002 to March 
2006, the total revenue loss from these reimbursement reductions is 
expected to be about $ 3 billion--a significant share of which would 
have gone toward R&D.\2\
---------------------------------------------------------------------------
    \2\ LEK Acumen Consultant 2005
---------------------------------------------------------------------------
    Japan appears to be making these changes, in part, as a way to 
avoid correcting the existing inefficiencies in its health care 
delivery system. Yet, because of its country's practices, Japanese 
patients often must wait 2, 3, or even 5 years longer for access to 
technologies that are already available in most other countries. 
Japanese patients are being denied access to our most advanced medical 
technologies.
               an inefficient health care system in japan
    Japan's hospitalization practices are the major contributor to high 
healthcare expenditures in Japan, with patients staying five to six 
times longer in hospitals than in other developed countries. For 
example, the average hospital length of stay in the U.S. is 6 days 
compared to 37 days in Japan, and these additional days clearly 
escalate the cost of care without significantly contributing to the 
quality of patient care. Japanese doctors own the hospitals in Japan, 
so there appears to be little incentive to diminish costs by better 
managing hospital stays.
    The monetary cost of the inefficiencies of this system is huge. 
Japan's MHLW has estimated that excessively long hospital stays alone 
inflate annual costs by at least $ 20 billion. This figure was found by 
comparing the average length of stay for Japan in total to a ``best 
practice'' length of stay in its most efficient district--leading to a 
reduction of stay length to 28 days. Using this same methodology, we 
estimate that Japan could save over $ 68 billion by bringing its 
hospitalization lengths of stay down to the average in other developed 
countries (7.3 days) and $ 71 billion if Japan reduced its 
hospitalization durations to the U.S. average of 6 days.
    In addition, Japan has the highest ratio of beds to population of 
any of the 30 OECD nations and four times the number of hospital beds 
per person than in the U.S., which increases costs and reduces 
efficiency in several ways. First, Japan maintains many hospitals that 
would otherwise be closed. While we are sensitive to cultural 
differences between Japan and the U.S. or Europe, even the country's 
own Ministry of Health, Labor and Welfare (MHLW) has recognized that 
the current number of beds is excessive.
    Second, Japan's diffuse hospital settings prevent the cost savings 
offered by specialized centers. A source of savings in specialize 
centers is the enhanced expertise doctors achieve when performing 
specific operations many times. The Japanese system limits the 
opportunities for Japan's health care professionals to develop optimal 
skills for performing complex medical procedures. Doctors who implant 
only a few devices each year would not receive as much training to 
perfect their skills as doctors practicing in specialized surgical 
hospitals, where a doctor might perform several implants (such as 
pacemakers) on a daily basis.
    Unquestionably, this system substantially drives up costs for our 
industry. Since clinicians in Japan are often less familiar with the 
technical specifications and use of our products, service costs--
including physician training and assistance during procedures--are much 
higher for industry. Medical technology products are often handled by 
two or more layers of distributors in Japan, each adding their own 
mark-up or margin. In comparison, the vast majority of medical 
technologies in the U.S. are sold directly without distributors.
         a slow regulatory process for medical devices in japan
    In addition to the overall inefficiencies of its health care 
system, Japan's new technology approval process remains the slowest and 
most costly in the developed world. Even after creating a new agency 
last year to process applications for medical technology products, 
Japan had a backlog in February of over 491 applications filed before 
April 2004. When new applications are included, the backlog is 
reportedly much longer. A problem for this new agency is the number of 
staff reviewing applications for approval of medical technology 
products--about 40 officials, compared to over 700 in the U.S. Due to 
the long approval process, the medical technologies patients receive in 
Japan are often several generations behind the products in the U.S., 
Europe, and even developing countries like China, India and Thailand. 
Lengthy approvals also translate to higher costs for the U.S. medical 
technology industry, which must maintain out-of-date product lines just 
for Japan.
    Japan should be examining ways to streamline its regulatory system, 
achieving greater efficiencies and facilitating patient access to the 
most advanced technologies available. We have made such suggestions to 
the Regulatory Reform Council, established by Prime Minister Koizumi, 
on some changes. We also have been working with MHLW officials and are 
willing to continue doing so.
    So far, however, instead of facilitating patient access to medical 
technology, Japan has been compounding the problem by imposing more 
burdensome and costlier regulations that discourage innovation. Its 
revised Pharmaceuticals Affair Law (PAL), which covers medical 
technology products, went into effect on April 1, 2005. Even our 
largest companies are experiencing difficulties meeting PAL's 
complicated provisions. Some of our smaller companies have indicated 
they may have to exit the Japanese market because of PAL requirements. 
The initial and on-going costs of $ 1.5 billion through 2010 are monies 
that otherwise could have been invested in furthering innovation for 
patients who need it most.
  continued reductions in reimbursements for medical devices in japan
    At the same time our industry is facing these onerous and costly 
regulations, MHLW is threatening severe reimbursement rate cuts. In 
Japan, the government sets the maximum reimbursement rates, which 
usually act as ceiling prices for all medical technology products. 
These prices are reviewed and usually reduced every 2 years.
    Before 2002, Japan adjusted prices according to a process it called 
``reasonable-zone'' or ``R-zone.'' In brief, MHLW surveys its hospitals 
for prices paid to distributors, and allows for a reasonable margin (or 
``zone'') for discounts off of the government's reimbursement rate. 
While there are some difficulties with this system--as identified in 
bilateral Market-Oriented, Sector Specific (MOSS) negotiations between 
the U.S. and Japanese governments--our industry recognizes that it is 
at least based on factors in the Japanese market.
    In 2002, however, Japan also adopted a system called Foreign 
Average Pricing (FAP). This system calls for the establishment and 
revision of reimbursement rates on the basis of prices paid for medical 
technology products in the U.S., France, Germany, and the United 
Kingdom (U.K). The prices of medical technology products in Japan are 
designed to be based not on that market's requirements, but on 
completely unrelated conditions in foreign markets.
    The U.S. medical technology industry has several strong objections 
to this method of calculating reimbursement rates.
    As a methodology for setting reimbursement rates, it is not 
economically sound to compare prices in foreign markets that operate 
under vastly different conditions. Japan's regulatory system is far 
costlier to comply with than European or U.S. regulations. In addition, 
the overall cost of doing business in Japan is far higher than in the 
U.S. or Europe. Just in terms of basic cost of living, Tokyo is ranked 
the most expensive city in the world, with Osaka number 2. Tokyo is 
about twice as costly in general as New York City and about 2.5 times 
as expensive as a mid-western city, like Minneapolis. No U.S. city is 
in the top 20 cities on this list.\3\
---------------------------------------------------------------------------
    \3\ Mercer Report, 2005
---------------------------------------------------------------------------
    Operating in Japan compounds costs by our industry compared to 
selling in other countries. For example, the added expenditures for 
product redesign, development, distribution, research and marketing all 
increase the cost of supplying Japanese patients by hundreds of 
millions of dollars each year.
    Conditions in the three European countries included in the FAP 
analysis are different from both the U.S. and Japan. The European Union 
member states use a product approval system that, in many cases, is 
more streamlined than the U.S. process. However, France, Germany and 
the U.K. also maintain pricing interventions that place a ceiling on 
medical technology pricing.
    Comparing prices even within markets let alone across national 
boundaries--is difficult. Our member companies sell products under a 
variety of terms and conditions. In the U.S., our companies can often 
offer lower prices to buyers willing to commit to much larger volumes 
for longer periods of time, but Japan does not have such buyers and 
offers minimal channels for efficient selling and distribution of 
medical technologies. Additionally, Japan's FAP system is an attempt to 
compare prices for products that are not the same in Japan as they are 
in other countries. Due to Japan's regulatory delays, U.S. 
manufacturers must incur the cost of maintaining older or outmoded 
production lines for sale in Japan.
    Japan established its FAP system and continues its plans to cut 
reimbursement rates because of the ``perception'' that prices for 
certain medical technology products are much higher in Japan than in 
other countries. As previously noted, there are many reasons prices are 
higher in Japan than in other countries. In addition, Japanese doctors 
and others in Japan, often obtain this perception by comparing U.S. 
hospital purchase prices to the official Japanese reimbursement rates, 
which are usually higher that the prices medical technology products 
are sold in Japan.
    As previously mentioned, the net effect of Japan's reimbursement 
rate cuts could have a detrimental effect on the funds available for 
research and development (R&D) of innovative products that are intended 
to lessen the time, pain and expense of treatments for a wide range of 
illnesses.
    Ironically, Japan's planned reimbursement decreases are likely to 
have no perceptible effect on moderating Japan's health care budgetary 
expenditures. While some of the other practices mentioned in this 
testimony are very inefficient and obvious drivers of inflation of 
Japan's health care costs, medical technology products account for only 
about 8 percent of Japan's total health care spending, and products 
targeted for price cuts represent less than 0.7 percent of all health 
care expenses. Virtually all technologies targeted for these cuts are 
made by non-Japanese companies.
    Instead of trying to balance its budget on the backs of the medical 
technology industry, Japan should look to major reforms of its 
inefficient hospital system. Such reforms would provide huge savings 
and would be good for Japanese patients and for Japan's economy.
                        u.s. government support
    The U.S. Government has provided our industry with tremendous 
support in trying to convey this message to the Japanese government. We 
have enjoyed bipartisan congressional support, with these hearings 
serving as just the most recent manifestation of that support.
    Our industry has also benefited from continuous support from the 
executive branch. We want to thank the Departments of Commerce, State 
and Treasury, the Office of the U.S. Trade Representative (USTR), and 
the U.S. Embassy in Tokyo for their hard work on our behalf. Since the 
mid-1980's, executive branch agencies have included regulatory and 
reimbursement issues in the MOSS negotiations. More recently, these 
issues have also been a topic for high-level USTR-Commerce negotiations 
with Japan under the Regulatory Reform Initiative.
    We believe that U.S. Government support has been a major reason 
that total U.S. medical technology exports have flourished worldwide 
for many years, exceeding imports. In fact, this past year was the 
first time that total U.S. imports of $ 25.2 billion ever exceeded 
exports in the medical technology sector.
    While U.S. exports of medical technology have enjoyed a surplus 
with Japan, we see disturbing signs that this too could change. During 
the 1980's and 1990's, our industry's exports rose steadily. Since 
Japan introduced its FAP system in 2002, U.S. exports have basically 
stagnated at essentially the same level of exports in 2004 as in 2001. 
At the same time, Japan's exports of medical technology products in 
2004 rose by 10 percent, contributing modestly to Japan's burgeoning 
total trade surplus with the U.S. of $ 75 billion--an increase of 14 
percent last year. With added regulatory hurdles and reimbursement 
reductions, U.S. exports to Japan could deteriorate further.
    The World Trade Organization (WTO) recognizes that standards and 
regulations can be non-tariff barriers (NTBs). While we are not 
alleging a WTO violation, we do believe that Japanese policies are 
essentially creating new NTBs for our industry to try to overcome.
                            recommendations
    We have several recommendations to help ameliorate the situation in 
Japan and, at the same time, facilitate patient access to advanced 
medical technology products. AdvaMed members want to cooperate with the 
Government of Japan to find solutions that are mutually beneficial to 
patients, Japan, and our industry. We have met frequently with 
officials from MHLW and other government agencies, including at senior 
levels, to seek such solutions. We respectfully request that such 
solutions be based on actual operating conditions in Japan and not on 
circumstances in other countries.
    In terms of the regulatory environment, AdvaMed members will 
continue our efforts to understand and comply with existing 
regulations. At the same time, we ask that MHLW seriously examine our 
suggestions to facilitate patient access to advanced technologies.
    Regulatory Improvements. Japan should urgently address the growing 
backlog of product applications and to reduce the review times of new 
product applications--particularly in light of Japan's User Fee system 
and its commitment to meet performance measures. One concrete step 
would be to quickly expand the number of experts employed in Japan to 
review product approval applications for product safety and efficacy, 
which would help reduce the considerable backlog. As part of this 
effort, the expertise and training of reviewers could be broadened to 
include necessary skill sets, such as a background in engineering and 
biostatistics. Another step would be for Japan to accept results of 
scientific studies conducted in the U.S. We have made recommendations 
of this nature to the Government of Japan, and we would hope they 
receive serious consideration.
    Reimbursement Improvements. We seek a fair, transparent and 
predictable system based on actual operating conditions in Japan. We 
believe such a system should reward innovation by providing higher 
payments for truly innovative products. If there is a clear 
demonstrable reason to reduce some product prices, we would welcome the 
opportunity to work with MHLW on a transparent system that would limit 
the size of reductions in any given year and would allow us to build 
such cuts into our long-term planning, instead of being unpredictable 
and dictated every 2 years.
                               conclusion
    Thank you, Mr. Chairman, and the other members of this Committee 
for providing us the opportunity to submit the views of our industry in 
the context of a hearing on overall U.S.-Japan trade relations. We hope 
you and other Members of Congress will continue to recognize the 
importance of the medical device industry, as well as access to foreign 
markets for the sustained growth of our industry and U.S. jobs. In our 
relationship with Japan, congressional and administration involvement 
is critical to maintaining our exports to this important market.

    Senator Murkowski. Thank you Mr. MacMillan. We will next go 
to Ms. Porges. Am I saying that right, or even close?

 STATEMENT OF MS. AMELIA PORGES, COUNSEL, SIDLEY AUSTIN BROWN 
                  AND WOOD, LLP, WASHINGTON DC

    Ms. Porges. Senator Murkowski, my name is AMELIA Porges. I 
am an attorney in the Washington DC office of the law firm 
Sidley Austin Brown & Wood LLP, where I specialize in 
international trade matters. I speak today in a private 
capacity, not on behalf of my law firm and not on behalf of any 
client. I have been asked to provide my perspective on trade 
issues and the overall trade environment between the United 
States and Japan.
    I would note, for the record, that our firm has provided 
and continues to provide legal advice on certain matters in 
which the Japanese Government is involved pro, and con. The 
trade relationship between the United States and Japan is of 
major importance to the world economy and to the United States. 
Japan is the second largest economy in the world, the third 
largest U.S. market, and our fourth largest supplier. Americans 
have a huge stake in Japan's continued economic revival and in 
better economic ties between the United States and Japan.
    This is a bilateral trade relationship that has greatly 
changed over the last 20 years, as the Japanese economy has 
changed as Professor Curtis has pointed out, and the overall 
world environment for trade has changed. In that time, we and 
Japan changed the way they deal with each other.
    We negotiated better trade rules, and expanded multilateral 
enforceable commitments under WTO agreement. Both parties can 
and do settle their disputes under WTO rules, and they 
negotiate with each other in the WTO. The business communities 
of both countries are now working with their counterparts in 
Europe and elsewhere to urge governments to reinvigorate the 
Doha Round negotiations and set a high level of ambition for 
new market opening and improve trade rules, the two governments 
should work together and do what it take to ensure the 
successful completion of the Doha Round.
    Now the border barriers that monopolized the trade agenda 
20 years ago have been largely displaced by the structural 
issues today like postal reform, broadband access, energy 
sector reform, financial reform, and corporal governance 
reform. The U.S.-Japan Regulatory Reform and Competition Policy 
Initiative established by President Bush and Prime Minister 
Koizumi in 2001 has discussed these issues in depth. These 
issues require negotiators and stakeholders to master the 
details of domestic regulation, to engage in a meaningful 
dialog, but they offer a bigger payoff both for U.S. business 
to compete in the Japanese marketplace, and for Japan itself.
    This change in the bilateral trade agenda reflects Japan's 
difficult decade of economic stagnation that Japan has gone 
through, and the stagnation from which Japan finally appears to 
have emerged. It also reflects change in the economic 
fundamentals.
    Production and distribution networks are now globalized 
both for Japan's companies and for our own. To respond to this 
globalization and for a way to exert leadership in East Asia, 
Japan has even launched its own program negotiating ``economic 
partnership agreements,'' with its Asian-Pacific trading 
partners.
    U.S. firms compete directly in the Japanese market as 
investors as well. Foreign direct investment is now welcomed as 
a source of jobs and growth, and it increases every year, 
including from the United States.
    The trade issues that matter to these U.S. companies in 
Japan are mainly structural. For example, a fair regulatory 
regime; health care reform; measures to strengthen corporate 
governance; and transparency in policymaking.
    Prime Minister Koizumi's huge election victory on September 
11 has provided him with an unquestionable mandate for postal 
privatization and more reform. His proposal for postal reform 
is about putting to efficient use the immense assets of the 
postal system.
    Japan Post now includes not just delivery, but also the 
world's largest savings bank, and a life insurance company that 
is bigger than its four largest private competitors combined. 
Postal privatization involves $ 3 trillion in assets, one third 
of all household assets in Japan. It's important to ensure that 
it goes forward on terms that are fair for all concerned.
    Now the outcome of these structural reform initiative 
remain to be seen. But the United States potential economic 
interest in their success is even greater than at stake in the 
sector specific issues that characterize the U.S.-Japan 
relationship in the past.
    For this reason the progress of reform in Japan will be 
worth following on a continuing basis for this subcommittee and 
for others interested in U.S.-Japan relations.
    Thank you, Senator Murkowski. I would be pleased to answer 
any questions.

    [The prepared statement of Ms. Amelia Porges follows:]
 Prepared Statement of Amelia Porges, Counsel, Sidney, Austin, Brown & 
                       Wood, LLP, Washington, DC
    Senator Murkowski and members of the subcommittee, my name is 
Amelia Porges. I am an attorney in the Washington D.C. office of the 
law firm Sidley Austin Brown & Wood, where I specialize in 
international trade matters. I speak today in a private capacity, not 
on behalf of my law firm and not on behalf of any client. I have been 
asked to provide my perspective on trade issues and the overall trade 
environment between the United States and Japan.
    The trade relationship between the United States and Japan is of 
major importance to the world economy and to the United States. Japan 
is the second largest economy in the world, the third largest U.S. 
market and our fourth largest supplier. Americans have a huge stake in 
Japan's continued economic revival and in better economic ties between 
the United States and Japan.
    This is a bilateral trade relationship that has greatly changed 
over the last twenty years, as the Japanese economy has changed and the 
overall world environment for trade has changed. In that time, we and 
Japan have changed the way we deal with each other. We negotiated 
better trade rules, and expanded, multilateral, enforceable 
commitments, under the WTO Agreement. Both parties can and do settle 
their disputes under WTO rules and negotiate with each other in the 
WTO. The business communities of both countries are working with their 
counterparts in Europe and elsewhere to urge governments to 
reinvigorate the Doha Round negotiations and set a high level of 
ambition for new market opening and improved trade rules. The two 
governments should work together and do what it takes to ensure the 
successful completion of the Doha Round.
    The border barriers that monopolized the trade agenda twenty years 
ago have been largely displaced by the structural issues of today--
postal privatization, broadband, energy sector reform, financial 
reform, corporate governance reform. The U.S.-Japan Regulatory Reform 
and Competition Policy Initiative established by President Bush and 
Prime Minister Koizumi in 2001 has discussed these issues in depth. 
These issues require negotiators and stakeholders to master the details 
of domestic regulation to engage in a meaningful dialog. But they offer 
a bigger payoff both for U.S. businesses that compete in the Japanese 
marketplace, and for Japan itself.
    The change in the bilateral trade agenda reflects Japan's difficult 
decade of economic stagnation, from which Japan finally appears to have 
emerged. It also reflects change in the economic fundamentals. 
Production and distribution networks are now globalized both for 
Japan's companies and for our own. To respond to this globalization, 
and as a way to exert leadership in East Asia, Japan has now launched 
its own program negotiating ``economic partnership agreements'' with 
its Asian and Pacific trading partners.
    U.S. firms now compete directly in the Japanese market. Foreign 
direct investment is now welcomed as a source of jobs and growth, and 
is increasing every year. The trade issues that matter to these 
companies are mainly structural--for example, a fair regulatory regime, 
healthcare reform, measures to strengthen corporate governance, and 
transparency in policymaking.
    Prime Minister Koizumi's huge election victory on September 11 has 
provided him with an unquestionable mandate for postal privatization 
and more reform. His proposal for postal reform is centered on putting 
to more efficient use the immense assets of the postal system. Japan 
Post now includes not just delivery, but also the world's largest 
savings bank and a life insurance company that is bigger than its four 
largest private competitors combined. Postal privatization involves 
over $ 3 trillion in assets--one quarter of all household assets in 
Japan. It is important to ensure that it goes forward on terms that are 
fair for all concerned.
    The outcome of these structural reform initiatives remains to be 
seen. The United States's potential economic interest in their success, 
however, is even greater than its stake in the sector-specific issues 
that characterized the US-Japan relationship in the past. For this 
reason, the progress of reform in Japan will be well worth following on 
a continuing basis for this Subcommittee and for others interested in 
U.S.-Japan relations.

    Senator Murkowski. Thank you, appreciate that. Let me start 
off by picking up where you have left off, Ms. Porges. And the 
issue of postal reform, this is as you have noted Dr. Curtis, 
this is key to the election. This is key to what is happening 
in Japan right now. What is it going to mean to our U.S. 
companies?
    Ms. Porges. Postal reform is immensely important for those 
companies that could compete with Japan Post, and also for 
those who could partner with it. This will bring great 
opportunities and great challenges for those firms. For that 
reason we hope that privatization will move forward on 
conditions that are transparent and that are fair for all. They 
could--for instance there are new opportunities to partner with 
the Post in selling for instance financial products through 
post offices, equally there may be new opportunities in postal 
delivery.
    Senator Murkowski. Will it be restricted to just those 
areas, or do you believe that it can go further to other 
financial interests and aspects?
    Ms. Porges. Pardon me?
    Senator Murkowski. Will it be limited to just those areas 
where you're speaking about Post, or can it expand to other 
financial interests where U.S. businesses can come in and offer 
their expertise, come in and operate in Japan?
    Ms. Porges. Certainly there maybe opportunities opening up, 
we can't really know until we see the details of how it's 
implemented. You're talking about a $ 3-trillion privatization 
in which all those assets will be divided up, the assets will 
be divided up into four subsidiaries held by a holding company, 
two of the subsidiaries, the bank and the insurance company 
will be set up as private companies, and should be regulated 
just like a regular bank, and a regular insurance company. And 
their stock is supposed to be sold off entirely, 100 percent to 
the public and privatized over a 10-year period, so you're 
talking about very fundamental changes involving large private 
organizations. And this is certain to create change and 
opportunities in the market place.
    Dr. Curtis. I might add just a word of caution, to restrain 
our enthusiasm. This is a 12-year program and the final stage 
of privatization doesn't occur until 2017. It sort of gets 
kicked off in 2007, so you don't know what might happen after 
Mr. Koizumi is gone in terms of backtracking. There's all kinds 
of opportunities for the government to change its mind. I think 
the reform is a good one. It could have been a stronger bill, 
but given the political realities before this election that was 
the best that Koizumi could get through. He just wants to get 
it over with now, and pass it. So he's not going to try to 
reopen the debate on it. And I think it's important that the 
United States keeps a very close eye on the implementation 
process, and makes sure that the opportunities that are given 
to the private sector in Japan are also made available to the 
private sector in the United States. But my sense is that this 
is a direction of change in Japan that's irreversible, that is 
opening the economy, making it more liberal, making it more 
open to the outside world, particularly American financial 
institutions have expertise about these complicated new 
financial products that are going to make them a very big 
player.
    So I think the message is positive for the world economy, 
for the U.S. business in Japan, and for Japan itself. But we 
shouldn't jump to conclusion that tomorrow morning the world is 
going to look very different when seen from Japanese Post 
Office, it won't.
    Senator Murkowski. Uh-huh (Affirmative). Let me ask you 
about the reform agenda, it is ambitious. This is a major step 
for Koizumi and his party. Reform is always difficult and I 
appreciate your couching his success, not necessarily because 
people believe that this Postal reform was a good thing, but 
because they believe so strongly in a man who was so passionate 
about achieving something, and that he had given them a level 
of optimism and hope and that's good for a period of time, 
unless, and until it starts to personally effect you and you 
don't like it. With the reforms that he is suggesting, not only 
through the Postal reform, but you mentioned agriculture 
reform, is this level of public confidence in him going to make 
it through some very politically difficult and challenging 
reform issues.
    Dr. Curtis. Well thank you, that's a wonderful question. 
There are two answers to it. One is that his biggest problem 
right now is to not disappoint the public by not coming up with 
an ambitious reform agenda. They just elected the LDP to a huge 
victory, not because of support for the LDP, but support for 
the idea that Koizumi is going to do things that are good for 
the economy. He doesn't have a concrete agenda in place after 
Postal reform. So he is going to have to scramble to do a lot 
of things, not to disappoint the electorate. Some of the things 
I've mentioned about dismantling government agencies and so 
forth and so on. But the second point is that if you really 
push hard on reform, some people are going to feel pain, even 
if the overall economy benefits as a result.
    But I think that what I said earlier about the 1990's being 
a watershed decade is important, because what it means is that 
I don't believe that Japanese believe anymore that simply not 
rocking the boat, doing the things the way they've always been 
done that somehow they will muddle through and things will 
slowly get better.
    Now I think people believe that you have to have change, 
even take some risk, maybe have some pain; because if you don't 
change, things won't get better. The sense is that there is a 
positive attitude toward reform and change. Japanese are still, 
on the whole, pretty risk averse, say compared to Americans. 
Koizumi's great strength is to have public confidence in him as 
a leader. And so he'll be fine. But what of September of 2006, 
when his term is up, what happens after that. That's another 
story. But for the next year, I think you'll see a lot of 
momentum coming out of this victory that he had, and he'll push 
on some issues, and public will be basically with him.
    Senator Murkowski. And it's not just Koizumi himself, it's 
those incumbents that sort of came along with him, will that 
optimism, and the public confidence continue and if so for how 
long?
    Dr. Curtis. Well I think so, and you know I think for 
example that Japan faces two really big, huge issues. One how 
to deal with the fiscal deficit. And in the end there's only 
one way to do it, and it involves the raising of some taxes. 
And the second is what to do about their social security 
system, pension system, and medical care system. Very similar 
problem to what we have. And in the end, there's only one 
answer. You increase the amount the money people pay into the 
system, and you lessen the amount they're going to take out of 
it. It's not a pleasant experience to go through and it's very 
difficult for politicians to take this head on, as you're well 
aware. But there is a growing consensus in Japan that this is 
unavoidable, and in fact the Japanese Government has moved in 
many ways in trying to improve the finances of their social 
security system. They'll continue to do so, and the public 
won't be happy about it, but they'll support it because they 
know there's no alternative. Japan is a rapidly aging society, 
they have a demographic problem because they don't have 
immigration, they have a very low birth rate, it's becoming a 
very old country, there's going to be fewer people working and 
supporting a lot of healthy but retired older people. I think 
one can be cautiously optimistic about the reform agenda in 
Japan. It's not going to go as fast as far as it should. But as 
you know, that's politics.
    Senator Murkowski. Let's talk a little bit--we've heard 
some discussion perhaps about agricultural reform, but Ms. 
Porges given Japan's reticence to put the agriculture issues on 
the negotiating table, how likely do you see a U.S.-Japan free 
trade agreement today?
    Ms. Porges. I'm glad you asked that. There have been a 
number of proposals for such a free trade agreement on the 
industrial side, in some ways we have a rather similar tariff 
profile. But it's true that agriculture would be a great 
stumbling block. It would be the major stumbling block. We're--
I think we're hoping that perhaps Prime Minister Koizumi can 
bring some of that reformist zeal to come up with a new vision 
for Japanese agricultural, which is in fact aging even faster 
than the Japanese population at large. I think at this point 
about 20 percent, 20 percent of Japanese farmers are over 65. 
There are very many farms where there are no farm successors. 
And by 20 years from now, I think the majority of farmers, 
perhaps the overwhelming majority of Japanese farmers will be 
over 65. So clearly the demographic part is pushing, has to 
push for some sort of fundamental agricultural reform and it's 
time to start thinking about that.
    Senator Murkowski. The value of U.S. exports to Japan has 
been apparently stagnate over the last few years, what do you 
see in the future years, is there any way that we can increase 
these numbers, any advice, or optimism that you can offer our 
U.S. exporters?
    Mr. MacMillan. I could certainly take it from specific 
medical devicing, I think what we're--I'm sorry, I can answer 
that on behalf of the medical device industry. What we've 
clearly seen is a remarkable slow down in approvals of new 
technologies. One of the other ways their managing costs is 
under staffing the NHLW, not allowing new technologies to get 
approved into the marketplace, and that has prohibited us from 
bringing some of our latest technologies to the marketplace. 
And I can't really speak beyond our industry.
    Senator Murkowski. So, can you speak to any level of 
optimism, it doesn't sound like it?
    Mr. MacMillan. Not right now. I think we were probably 
hopeful that with the PAL reforms and you know, if they were 
obviously increasing some of our costs of doing business there 
that might, as in the United States where we put in the drug 
user fees, or the device user fees, and it led to increase 
levels of staffing, it's allowed a better product flow. We're 
clearly not seeing that, and in fact on the other side, seeing 
them now turn around and want to slash prices by literally 25 
percent over the next few years. So we're--why we're coming 
here actually.
    Senator Murkowski. Is there a Japanese domestic medical 
devices industry.
    Mr. MacMillan. It is very limited. It is much more 
underdeveloped, which is why we feel that it's kind of fair 
game to go and attack you know, disproportionately changes they 
make here will effect U.S. and frankly European based companies 
far more than their own environment. And I think they've not 
created the environment, nor supported the development of that 
industry in their country the way they have many other 
industries.
    Senator Murkowski. Do I understand that Stryker Corporation 
purchased a Japanese company to help with your distributorship 
within Japan?
    Mr. MacMillan. Yes. Actually we, that would have been back 
in the late 1990's, about 1996 or 1997. So we acquired a 
distributor in Japan that helps us navigate what is a very 
complex and multi-tiered structure of distribution which is 
also what dramatically increases our cost of doing business. 
You know it's very hard to sell directly to a hospital there, 
we have to go through many chains all of them take a price cut. 
And then when the NHLW decides well let's go compare your 
pricing to what it is in France, where we can be selling 
direct, you know it's just where we feel it's an unfair 
comparison. We had actually even gone a step further over the 
last few years, our business, Stryker, specifically has been 
very healthy in Japan, because we've been designing implants 
custom made for the Japanese anatomy, and we've introduced a 
knee system that's doing very well and a hip system where we 
were placing greater levels of investment to try to cater to 
that market place, now with this latest turnaround of 
reimbursement that's obviously going to have to effect our 
strategy because we won't be able to continue to afford to 
serve their patients better than what we thought we were doing.
    Senator Murkowski. If you had not purchased the company 
that you did several years back, would that have limited your 
ability to even be where you are within the Japanese market 
now, I mean was that something that really had to happen in 
order to do business over there?
    Mr. MacMillan. For us to establish our self as a leading 
player, we did feel we needed to make that acquisition, just to 
better manage the distribution chain. Because otherwise we were 
feeling cut out and unable to penetrate a number of the markets 
without having that local ownership, yes.
    Senator Murkowski. But now given what you are facing with 
the pricing cuts, the reimbursement cuts coming at you, I would 
imagine it causes you to question how you continue to do the 
business that you need to do, with the markets. Particularly 
given that you're trying to cater to a very specific market 
with your technology.
    Mr. MacMillan. Madam Chair, I would tell you it is an issue 
that we're losing sleep over as we start to plan the next few 
years. Japan is our second largest market, it's been a very 
important market for us, and we've invested a lot of time and 
money in that market really over the last 20 plus years to get 
to the position we're at today, all of a sudden to be staring 
down the barrel of a gun, you know it's just an unprecedented 
level of price cuts that you just can't plan and--we literally, 
just as a company, we hired 75 new people just earlier this 
year to comply with the PAL reforms, now--and those are not 
cheap people, they are regulatory people, a lot of expertise 
all of a sudden to sit around and say OK, now we're going to 
price your product differently puts us in a tough bind and 
clearly forcing some tough choices going forward for what we do 
there.
    Senator Murkowski. So for the 20 years that you have been 
doing business in Japan, it's really been these past few years 
where it has made--regulations have made doing business very, 
very complicated and costly.
    Mr. MacMillan. Yes. We would categorize it probably that 
there's been a gradual effect, every 2 years or so, we've been 
used to some kind of biannual, getting nicked on pricing 
reductions, 4 or 5 percent price cuts on certain product lines, 
some enhanced level of reform. There's really been just a 
watershed event with this PAL reform coming in that's just 
dramatically increased our costs, and then all of a sudden just 
as they got that implemented they start talking about the 2006 
price cuts as not being part of this biannual thing that we've 
tried to manage for, and plan for. At least if you know it's 
coming, and it's manageable, you can plan for that, in terms of 
staffing, not adding as many people, and trying to find other 
efficiencies in the system. But when they all of a sudden put 
that cost, and then turn around and say, we want 25 percent 
price reductions.
    Senator Murkowski. But is that 25 percent from where you 
were last year?
    Mr. MacMillan. Yes, where we are currently, and that's 
following last year's actually we took a price cut in 2004, of 
about 5 percent. So it's a 25 percent on top of that. Which is 
as you know, in any industry to incur that kind of a hit off, 
is very hard to recover from.
    Senator Murkowski. OK. Check through here and see if there 
isn't anything that I wanted to followup with. I think I've 
kept everybody here a sufficient amount of time here today.
    I appreciate the time you have given to us, the information 
that you have provided to us, and thank you very much. And with 
that we are adjourned.

    [Whereupon the hearing was adjourned at 4:25 p.m.]

                            A P P E N D I X

                              ----------                              

              Additional Material Submitted for the Record

  Prepared Statement of Hon. Norm Coleman, U.S. Senator from Minnesota

    Thank you, Madame Chairman, for holding this hearing on U.S.-Japan 
Relations, and for allowing me the opportunity to provide opening 
remarks. It is a pleasure for me to participate in this hearing to 
discuss a topic that I regard as a key element of U.S. foreign policy. 
In addition, I find this hearing extremely timely for addressing key 
issues relating to the U.S. relationship with Japan that specifically 
affect the state of Minnesota.
    My tenure as a member of the Foreign Relations Committee has led me 
to a greater appreciation for the friendship our country has with our 
longstanding ally, Japan. The unique relationship between the U.S. and 
Japan has proven vital for both countries, as we have become highly 
integrated through collaboration on issues ranging from economics to 
security. On all of these fronts Japan has demonstrated that it is both 
a committed partner of the U.S. as well as a global leader in its own 
right. It is because Japan has demonstrated its leadership on the 
global stage that I support its bid to become a member of the U.N. 
Security Council.
    I would like to take the opportunity to recognize a few of the 
contributions made by Japan in the global arena that warrant applause 
from the U.S. Japan has been a partner to the U.S. in our efforts in 
Iraq, and the magnitude of our mission in that country means that the 
support of our allies is critical for achieving success. Japan has also 
been a valuable partner in the broader War on Terror, which is 
underscored by their leadership on efforts such as the Proliferation 
Security Initiative. Finally, the commonality of American and Japanese 
security interests is underscored by our joint efforts in the Six-Party 
Talks to address the North Korean nuclear crisis. In all of these 
areas, Japan has demonstrated its commitment to its relationship to the 
U.S.
    I am particularly interested in participating in today's hearing 
because I believe that there are ways that the U.S.-Japan relationship 
can be strengthened. As with any partnership, the U.S. and Japan face 
challenges in their relationship. While I think it is important to 
point out the issues that exist in the U.S.-Japan relationship, I also 
want to emphasize that I believe that addressing them will positively 
benefit both countries. My specific concerns regarding the U.S. 
relationship with Japan stem from trade issues relating to the medical 
technology industry.
    One issue that must be tackled is the need for a trade regime with 
Japan that allows for reasonable access to its health care system, 
which in turn has a direct impact on the people of Japan. Last 
Congress, I introduced a Resolution in the Senate expressing my 
significant concern that discriminatory practices and systematic 
barriers have limited the ability of the U.S. medical device industry 
to introduce new technologies into the Japanese healthcare system.
    Discriminatory practices targeting the medical device industry 
directly affect my state and many of my constituents. This is due to 
the fact that Minnesota is the proud home to a thriving medical 
technology industry. Minnesota's Medical Alley is a rich corridor of 
more than 8,000 medical-related companies--12 percent of our work 
force--and is home to over 520 FDA-registered medical technology 
manufacturers. Employment in the industry increased 33 percent from 
1991 to 2001, adding over 23,000 jobs to the state of Minnesota. The 
jobs produced by the medical technology industry represent a lucrative 
opportunity for my constituents, as the aggregate figure for wages 
exceeds $ 1.3 billion--an average of over $ 56,000 per employee.
    Recently I was asked to support a grant application to ensure that 
the demand for skilled workers in the medical device industry is met in 
the future. The projected growth in the industry is expected to lead to 
the creation of 15,000 new jobs for Minnesota's top 4 device companies. 
I couldn't be more thrilled.
    The benefits that Minnesota has derived from being home to a 
flourishing medical technology industry are well-deserved and a product 
of hard work. Minnesota ranks second only to California in device 
companies, and our state is home to many technology firsts: the first 
implantable cardiac pacemaker, first artificial heart valves, first 
implantable drug transfusion pump, first wireless cardiac monitoring 
system, first blood pumps, first anesthesia monitor and more--and much 
more to come!
    Despite all of these positive trends in the medical technology 
industry, one area that does not reflect all of this progress is that 
of trade with Japan. Japanese policies have hindered the entrance of 
medical technology goods into the Japanese market. I would like to 
point out several of these problematic policies.
    Japan has adopted a foreign reference pricing scheme to reduce 
reimbursement prices in Japan's health system--a tool long opposed by 
the U.S. Government and the medical technology industry. This foreign 
reference pricing policy is an arbitrary price control mechanism that 
fails to account for the high costs of bringing advanced technologies 
to the Japanese market.
    In addition, I am also concerned about the non-tariff barriers that 
players in the U.S. medical device industry face in their attempts to 
access the Japanese health care system:

   Regulatory: The regulatory hurdles embedded in the Japanese 
        medical technology industry conflict with regulatory 
        commitments made to the U.S. under the MOSS trade agreement. 
        They also contradict the philosophy underpinning the Global 
        Harmonization Task Force, to which the U.S., Europe and Japan 
        are a party. Even our friends need to be held accountable to 
        their commitments.

   Reimbursement: Japan's foreign average pricing system, which 
        is primarily targeted at devices made by non-Japanese 
        manufacturers, fails to take into account costs unique to 
        operating in Japan. Operating costs in Japan often greatly 
        exceed those in other countries. For example, the costs of 
        basic inputs such as salaries, office rent, and transportation 
        are extremely high.

    We are very proud of our health care system in Minnesota. Its 
stellar reputation draws people from all over the world to receive top-
quality medical care. It saddens me to acknowledge that our friends in 
Japan do not have access to the same quality of care due to 
bureaucratic barriers embedded in their health care system.
    These bureaucratic barriers have effectively blocked access to many 
high quality treatments to Japanese patients that are available 
internationally. Instead, the Japanese are forced to utilize older 
generations of products that do not reflect the maximum benefits that 
can be achieved with existing technology. Several examples how this 
lack of access is adversely affecting the welfare of the Japanese 
include:

   Japanese patients cannot receive the latest implantable 
        cardiac defibrillators for the treatment of tachyarrhythmia--a 
        condition characterized by a fast heart rate. They also do not 
        have access to the most innovative cardiac resynchronization 
        products for congestive heart failure.

   Japanese patients lack access to carotid and intracranial 
        stents for neurological surgery.

   Japanese women with breast tumors cannot benefit from a 
        vacuum assisted biopsy device which helps gain a larger and 
        more easily diagnosed sample from the tumor. Japanese women 
        also do not have access to the most advanced test for the 
        primary cause of cervical cancer.

   In the orthopedic area, products that are not available in 
        Japan include artificial spinal disks, antibiotic bone cement, 
        and bone morphogenic protein.

    I urge our friends in the Japanese government to take aggressive 
action to remedy this clearly disadvantageous situation. Non-tariff 
regulatory and reimbursement policies discriminate U.S. manufacturers. 
While these policies hurt U.S. manufacturers' economically, ultimately 
the biggest losers of these policies are Japanese patients. Innovative 
medical technologies offer the possibility of key health solutions all 
nations, including those that face severe health care budget 
constraints and the demands of aging populations. I think the 
importance of the U.S.-Japanese relationship demands that inequities 
within it be addressed. As has been the case in many other aspects of 
our relationship, both countries stand to gain significantly by 
addressing these shortcomings.
    Thank you very much for the opportunity to address the subcommittee 
this afternoon.
                               __________

Responses by Hon. Christopher R. Hill to Questions from Senator Coleman

    Question. What is the State Department doing to convey its concerns 
about Japan's economic policies that hurt U.S. industries such as the 
medical device?

    Answer. The U.S. medical technology industry is one of the most 
innovative industries in the world. It manufactures products that 
improve and extend lives--like pacemakers, orthopedic devices (hips, 
shoulders), and diagnostic equipment.
    The State Department is actively involved in the Regulatory Reform 
Initiative. Under that Initiative, the U.S. Government is pressing 
Japan's Ministry of Health, Labor and Welfare (MHLW) to implement 
reimbursement pricing and regulatory policies that reward U.S. 
companies for developing innovative, life-enhancing medical technology.
    Our Ambassador to Japan (J. Thomas Schieffer) has met with industry 
representatives regarding their concerns. Ambassador Schieffer has 
pledged to continue working to ensure that highly competitive U.S. 
industries, such as the medical technology industry, are treated fairly 
in Japan.
    We will keep urging the Japanese Government to ensure its policies 
do not unfairly discriminate against American medical devices.

    Question. While China is getting all the headlines, Japan is still 
our largest overseas economic partner by far. Is the administration 
devoting enough effort to dealing with Japan's restrictive economic 
policies?

    Answer. We have come a long way with Japan over the years, and have 
found ways of doing business on the trade front that are generally 
yielding improved results. While the Japanese market as a whole is more 
open than it used to be, some substantial problems remain, most notably 
Japan's continued ban on beef imports from the United States. We, USDA, 
USTR, and other agencies press senior Japanese officials on the beef 
issue at every opportunity and at every level, and we will continue to 
do so until American beef exports to Japan resume.
    We, USTR, the Department of Commerce, and other agencies seek to 
reduce barriers to foreign investment in Japan through our Investment 
Initiative, led by the State Department. We also work to open markets 
in Japan further in key sectors such as telecommunications, information 
technologies, medical devices and pharmaceuticals, energy, and 
agriculture, through our interagency Regulatory Reform and Competition 
Policy Initiative led by USTR. For example, we have called on Japan to 
establish a level playing field in the privatization of Japan Post and 
eliminate any legal, tax, and regulatory advantages for Japan Post that 
put private U.S. and other companies at a competitive disadvantage.
    In addition to the U.S. Government agencies in Washington, the U.S. 
Embassy in Tokyo works closely with the U.S. business community in 
Japan to address restrictive economic policies in Japan.
                               __________

  Responses by Stephen P. MacMillan to Questions from Senator Coleman

    Question. Is there a Japanese domestic medical device industry?

    Answer. Surprisingly, Japan does not have a strong domestic medical 
device industry.
    From a business development perspective, Japan has all of the 
capabilities for developing a strong domestic medical device industry--
world class technology, research facilities, and design capabilities, 
not to mention outstanding manufacturing prowess. And, with its rapidly 
aging population, it also has strong built-in demand for these 
products.
    However, Japan has failed to create the conditions that would lead 
companies to take the risks involved in entering this field. Companies 
need a predictable pricing environment where they can achieve a 
reasonable return on their investment--but the only predictability in 
Japan is that prices will be cut every 2 years. Companies also need a 
timely and predictable regulatory environment--but Japan's regulatory 
process is the slowest in the world.
    A few large Japanese companies have medical devices divisions, but 
none of them hold leadership positions in the categories where they 
compete in the Japanese market. There are also a number of small niche 
players who compete at the lower end of the market in terms of product 
performance, quality and price. For example in the hip implant market 
we believe that there are approximately 30 Japanese companies with a 
combined market share of about 20 percent.

    Question. Why does it take so much longer for Japan to approve U.S. 
medical devices? Are they stricter on safety standards than the United 
States?

    Answer. A number of factors contribute to the slowness of Japan's 
approval process, without measurable improvement to safety and 
efficacy:
    Japan's approval agency is understaffed--only 23 staffers reviewing 
medical device approval applications. This compares to over 700 FDA 
staff devoted to reviewing medical devices.
    In Japan, there is a backlog of unprocessed applications inherited 
from their predecessor organizations when the present agency was 
established in April 2004. Each reviewer has a stack to review that 
would be over 30 feet high if put in a pile.
    Japan's regulatory requirements are the most cumbersome in the 
world--and Japan just made the situation worse under a new law that 
adds a large number of time-consuming and onerous requirements. For 
example, Japan requires huge amounts of documentation that is not 
required by regulatory authorities in other countries. In most cases 
they also refuse to accept the results of scientific studies conducted 
elsewhere. The U.S. and other countries routinely use worldwide data 
versus having to repeat expensive studies in Japan.
    In Japan if a company wants to upgrade existing products with new 
materials, the process is long and expensive. In the U.S. changes of 
this nature take approximately 1 year under the FDA's 510k provisions. 
Japanese officials require a 4 to 5 year study that is completely paid 
for by the companies who are proposing the changes.

    Question. You mentioned that it takes much longer to get new 
technologies into the Japanese market. Can you tell me what devices 
Japanese patients are unable to benefit from that are available for 
patients in the United States or Europe?

    Answer. There are a large number of examples:
    In the orthopaedic market, where Stryker competes, products that 
are not available in Japan include artificial spinal discs, antibiotic 
bone cement, and bone morphogenic proteins.
    In the cardiovascular area, Japanese patients cannot receive the 
latest implantable cardiac defibrillators for treatment of 
tachyarrhythmia (fast heart rate). They also do not have access to the 
most innovative cardiac resynchronization products for congestive heart 
failure.
    Japanese women with breast tumors cannot benefit from a vacuum 
assisted biopsy device which helps gain a larger and more easily 
diagnosed sample from the tumor.
    Japanese women also do not have access to the most advanced test 
for the primary cause of cervical cancer.
    These are just a few examples of the many products that are 
available to patients in the U.S. or Europe but not to Japanese 
patients.

    Question. What are the costs of the Pharmaceutical Affairs Law 
(PAL)?

    Answer. Japan has adopted extremely complex changes to its 
regulatory process as a result of PAL.
    The total cost over the next 5 years will be $ 1.5 billion for 
medical device companies.
    The initial cost for compliance that was born by these same 
companies was $ 340 million (40 billion yen). It will cost another $ 
1.2 billion (140 billion yen) in ongoing compliance costs over the next 
5 years.
    At Stryker we have added 75 people to meet the new requirements to 
provide inbound inspection on imported products, comply with additional 
quality inspections, track the useful life of all surgical instruments 
and conduct post-market surveillance studies.

    Question. Why are costs/prices different in the United States, EU, 
and Japan?

    Answer. Costs of doing business are much higher in Japan:
    The new regulatory requirements mentioned above have added 
significant cost to an already costly system.
    Facilities costs (i.e.: office leasing)--7 times higher in Japan 
than in the U.S.
    Labor costs--39 percent higher in Japan vs. the U.S.
    Utilities and communications costs--1.5--2 times higher in Japan 
vs. the U.S.
    Tokyo and Osaka--world's most expensive cities (no cities in U.S. 
in the top 20)
    Sales/administrative costs--1.4 times higher in Japan vs. U.S.
    Amount of write-offs--2.3 times higher in Japan vs. U.S.
    Value of consignment inventory--3 times higher in Japan vs. U.S.
    Inventory carrying costs (as percent of sales)--3.6 times higher in 
Japan vs. U.S. even though monthly sales volume is 9.9 times higher in 
the U.S. vs. Japan.
    Multiple distribution layers in Japan (at least one layer for all 
products and 2+ for 14 percent of products--including orthopaedics) 
compared to the U.S. where 73 percent of products are sold directly to 
customers and the rest have only one layer of distribution expense.
    Twice as many hospitals in Japan vs. U.S.--over 60 percent are 
small private hospitals that perform few procedures, but require 
representatives from manufacturers to be present during procedures. 
This expense is not reimbursed separately and is only covered if it is 
reflected in the product price.

    Question. What do you want the outcome of the next Japan pricing 
cycle to be?

    Answer. We would like Japanese officials to recognize that 
substantial cuts have already been made and the costs of doing business 
in the Japanese market are substantially higher than in other parts of 
the world.
    We want to work with the Japanese officials if they identify some 
specific products they believe are priced too high. These should be 
addressed in a predictable phased reduction.
    For the future, we would want Japan to work with us to adopt a new 
system for determining reimbursement that is predictable, fair, 
transparent, and based on factors in the Japanese market--not on 
markets outside Japan.

    Question. Why have device exports to Japan stagnated?

    Answer. The adoption of FAP in 2002 has had a significant impact on 
reimbursement prices in Japan. Companies will supply the market as long 
as they can achieve adequate returns. When prices are cut dramatically, 
companies must reassess whether it makes business sense to continue to 
supply products whose returns have been seriously affected. In some 
cases, products may be withdrawn in order to avoid severe losses.

    In addition, Japan's regulatory system is the most burdensome and 
costly among developed countries, greatly reducing the attractiveness 
of the Japanese market, particularly for our smaller companies.
    The current reimbursement system that provides the same level of 
reimbursement for substantially different products discourages 
companies from providing advanced technology. For example, ceramic-on-
ceramic hip cup liners are reimbursed at the same level as those that 
are made of polyethylene despite the big difference in both product 
performance and costs.
                               __________
  The Privatization of Japan Post: Ensuring Both a Viable Post and a 
      Level Playing Field (by Amelia Porges and Joy M. Leong) \1\
                            1. introduction
    In the last year, postal reform in Japan has emerged from the 
shadows to become the single policy issue that could remake Japanese 
politics. After his legislative package for postal privatization was 
blocked by opposition from his own party, Prime Minister Junichiro 
Koizumi dissolved the lower house of the Diet, and made the election 
into a referendum on postal reform. Appealing to urban voters with an 
attack on entrenched interests, he won a landslide victory. His 
legislative package will be resubmitted soon to the Diet and is 
predicted to pass easily, ushering in a new political era.
---------------------------------------------------------------------------
    \1\ Both of the authors practice law at Sidley Austin Brown & Wood 
LLP in Washington, D.C. specializing in international trade and WTO law 
(Porges) and in postal and delivery law and global supply chain issues 
(Leong). The views expressed are those of the authors and do not 
necessarily represent the views of Sidley Austin Brown & Wood LLP, nor 
of any of its clients.
---------------------------------------------------------------------------
    In contrast to Europe, the driving force behind postal reform in 
Japan is not competition in postal delivery, but unlocking the immense 
financial assets of the postal system. Japan's postal system now 
includes not just postal delivery, but also huge postal bank and postal 
life insurance operations. The postal bank is the world's largest bank, 
with total assets of 227 trillion (US$ 2.07 trillion)\2\ in 
individual accounts--30 percent of household savings in Japan and over 
twice the asset size of Mizuho Financial or Citigroup, the two next 
largest banking groups in the world. The postal life insurance scheme, 
with 122 trillion (US$ 1.11 trillion) in policies, has 40 percent 
of Japanese households' life-insurance assets and is larger than its 
four largest private competitors combined. Postal savings and postal 
life insurance together hold a quarter of Japan's personal financial 
assets. (Economist, 2004).
---------------------------------------------------------------------------
    \2\ Exchange rates used are the yen-dollar rate for specific dates, 
or otherwise the yen-dollar rate (109.6/US$ 1) as of August 15, 
2005.
---------------------------------------------------------------------------
    Postal privatization will make it possible to remobilize these 
assets, and remove distortions to competition in the banking and 
insurance sectors. Yet postal savings and postal life insurance are now 
provided only by the postal network of close to 25,000 post offices, 
which also provides postal collection and delivery. This means that 
while Koizumi's reform program may be driven by public finance 
concerns, it will necessarily entail fundamental changes in the postal 
delivery sector--creating opportunities in delivery and logistics 
services for Japan Post and perhaps for its competitors. This paper 
presents a political perspective on the evolution of postal reform in 
Japan, an account of the Koizumi proposals, and an evaluation of them 
in the context of legal and economic principles of postal reform.
    Japan's policymakers face the dual dilemmas of postal reform: In 
privatizing Japan Post, they must structure four viable entities--a 
privatized bank, insurance company, postal network, and postal delivery 
company--and at the same time ensure a level playing field for 
competition in these markets. The concern expressed by many observers 
is that policymakers will create either a strong post that enjoys so 
much preferential treatment and so many subsidies that it can overpower 
its competitors and threaten competition in the industry, or a weak 
post that will struggle to meet its universal service obligations and 
its deferred liabilities and ultimately need a government bail-out. 
This paper examines some of the challenges and pitfalls in structuring 
a privatization scheme that walks a line between these two extremes and 
attempts to ensure both a viable post and a strong competitive market.
                             2. background
    The official provider of postal services in Japan is Japan Post 
(Nihon Yusei Kosha), a public corporation established under the Japan 
Post Law of 2002 as the inheritor of the people, assets and 
organization of the former Postal Services Agency (Yuseicho), including 
271,000 employees and close to 25,000 post offices. In fiscal 2003-04, 
Japan Post delivered 25.6 billion items, down 2.3 percent from the year 
before. Per capita mail volume in Japan (202 items) was slightly over 
half the European level and less than 30 percent of the level in the 
United States. Sealed mail (designated First Class) and postcard mail 
(designated Second Class) together accounted for approximately 90 
percent of mail items. Parcels delivered by Japan Post accounted for 
only 698 million items. (Japan Post, 2004).
    Japan Post has less than a 10 percent share of the parcel market, 
compared to the market leader, Yamato Transport, which has over 30 
percent. Yamato Transport gained its market position through its 
``black cat'' takkyubin parcel pickup and delivery service, and other 
value-added product innovations. Direct mail advertising constitutes a 
relatively small sector in Japan; the number of persons in Japan 
receiving direct mail is one seventh of the number in the United States 
and one half of that in Europe. (Yamato, 2004).
    For Japanese public policy as a whole, the most important aspect of 
the postal complex has been its connection to postal savings and postal 
insurance. After launching a national post office in 1871, Meiji period 
modernizers established a postal savings scheme in 1875. The postal 
savings scheme offered small savers a government-guaranteed place to 
put their money, and starting in 1916, the post office also sold life 
insurance. The postal savings scheme has been exempt from banking 
regulation: it does not pay any deposit insurance premiums or taxes, 
and the interest rate was historically set higher than bank interest 
rates. The most popular postal savings product is the teigaku chokin, a 
high-interest 10-year time deposit account with no early withdrawal 
penalty after 6 months. The postal life insurance scheme is similarly 
exempt from taxes and insurance regulations applicable to other 
insurance providers. Both postal savings accounts and postal life 
insurance policies are still guaranteed by the state.
    Historically, postal savings and life insurance monies were placed 
with the Ministry of Finance Trust Fund Bureau, which then provided the 
funds to the Fiscal Investment and Loan Program (FILP). FILP provided 
money to public corporations, local government and other government 
entities, for public works projects, housing, small business assistance 
and policy finance. As of March 2001, FILP involved 418 trillion 
(US$ 3.3 trillion), equal to 82 percent of GDP, and FILP's uses of 
funds statement totaled more than the GDP. In the 1990's, FILP began to 
come under increasing criticism as a source of wasteful spending.
    Prime Minister Hashimoto then took up the cause of administrative 
reform in the late 1990's. The Administrative Reform Council (Gyosei 
Kaikaku Kaigi) issued a draft plan in August 1997 to reorganize the 
government, privatize postal insurance, and consider privatization of 
postal savings. After lobbying by special postmasters and their 
political allies in the ruling Liberal Democratic Party (LDP), the 
Council's December 1997 final report called for the combined postal 
delivery, savings and insurance business to be shifted to a single 
independent public corporation. The report urged followup consideration 
of breaking the link between postal savings funds and the FILP, and of 
allowing private sector entry into postal delivery. (Kawabata, 2004)
    The legislation to carry out these recommendations became one of 
Prime Minister Koizumi's major agenda items when he took office in 
April 2001. His ascent in 2001 reflected widespread public desire for 
fundamental change to pull Japan out of the economic doldrums and to 
build a better future. Koizumi immediately chartered a commission to 
study the future of the three postal businesses and moved forward on 
the first round of postal reform legislation. After difficult 
negotiations within the LDP, he finally sent his package of four bills 
to the Diet without prior LDP approval, and it was enacted in July 2002 
after debate and amendment. (Kawabata, 2004).
    The 2002 package established Japan Post as a public corporation 
staffed by civil servants and supervised by the Ministry of Internal 
Affairs and Communications (MIC). It also authorized limited 
competition for some types of mail delivery. Postal account monies were 
no longer sent to the Finance Ministry, but were to be invested in 
Japanese Government Bonds (JGBs), or bonds issued by FILP on capital 
markets. (Japan Post owns about one quarter of the outstanding stock of 
JGBs today.) Koizumi did not stop there; in 2003 he was re-elected as 
head of the LDP promising postal privatization, and postal 
privatization by April 2007 was part of his platform for the 2003 Diet 
election (Kawauchi, 2005).
    Koizumi then gave the job of developing a plan for postal 
privatization to his chief policymaking group, the Council on Economic 
and Fiscal Priorities (CEFP), led by the economist Heizo Takenaka, 
Koizumi's Minister for Economic Reform.\3\ On April 26, 2004, the CEFP 
issued an interim report proposing to split Japan Post into four units, 
to have the four businesses compete in the marketplace, and to 
liberalize their management. The cabinet then established an advisory 
committee on postal privatization, with a preparatory secretariat 
staffed by almost a hundred experts from government and business, to 
plan the details and draft legislation. The planning process and its 
related political discussions involved a dialog of interests. On the 
one side were Japan Post president Masaharu Ikuta, MIC Minister Taro 
Aso, and LDP Dietmen aligned with the postal lobby, seeking to maximize 
the postal network and maximize the post's ability to enter new areas; 
on the other side were Takenaka, Koizumi and competing private 
businesses, pushing for smaller government and for placing the system's 
financial assets in private hands.
---------------------------------------------------------------------------
    \3\ The eleven-member Council, chaired by Prime Minister Koizumi, 
includes five key Cabinet members (Takenaka, Minister for Internal 
Affairs and Communications Taro Aso, Minister of Finance Sadakazu 
Tanigaki, Minister of Economy, Trade and Industry Shoichi Nakagawa, 
Chief Cabinet Secretary Hiroyuki Hosoda) plus five private sector 
members (Bank of Japan Gov. Toshihiko Fukui, Toyota Motor Corp. 
Chairman Hiroshi Okuda, Ushio Inc. Chief Executive Officer Jiro Ushio, 
Prof. Masaaki Honma of Osaka University, Prof. Hiroshi Yoshikawa of 
Tokyo University).
---------------------------------------------------------------------------
    The plan finally came together with the CEFP's Outline of Basic 
Privatization Policy announced on August 6, 2004. After difficult 
political discussions, the Cabinet adopted a Basic Policy on 
Privatization of Japan Post on September 10, 2004. Takenaka, tapped as 
the Minister for Postal Privatization, then moved forward on planning 
with the privatization secretariat, consulting with an advisory 
committee, with a new cabinet-level Postal Privatization Headquarters 
chaired by Koizumi, and with Japan Post, Dietmembers, and 
stakeholders.\4\
---------------------------------------------------------------------------
    \4\ The documents from this process, and summaries of meetings, are 
all available at the official postal privatization webpage, http://
www.yuseimineika.go.jp/index.html.
---------------------------------------------------------------------------
The Basic Policy on Privatization
    The policy announced in September 2004 promised a reform of 
historic dimensions. It envisioned three phases: preparation, a 10-year 
transition starting on the privatization date of April 1, 2007, and a 
final post-privatization configuration of companies. After April 1, 
2017, operations would be split into six more or less privatized 
entities: (1) a privately owned bank; (2) a privately owned insurance 
company; (3) a majority-private holding company which would wholly own 
(4) a postal delivery company and (5) a postal network company; and (6) 
an entity to hold pre-privatization bank and insurance assets.
    During the fall of 2004, work proceeded on fleshing out the 
business and legal details of privatization, and on drafting the 
legislation. The privatization headquarters prepared a management 
simulation for the four operational companies, predicting that all four 
could show after-tax profits in fiscal year 2008. (Yuseimineika 
Junbishitsu, 2004; Ikuta, 2004) LDP resisters continued to seek a broad 
USO including financial services and parcel delivery, tax concessions 
for the privatized postal units, and measures to maintain post-office 
employment by prolonging the linkage and cross-subsidy between the 
banking and insurance units and the postal units. Banking and insurance 
interests weighed in as well.
    In January 2005, Koizumi announced that postal privatization would 
be his No. 1 legislative priority for the new year, and he and Takenaka 
pursued negotiations. While many LDP members supported economic reform 
unconditionally, and some opposed any privatization, others were 
willing to consider privatization if the four businesses were under 
integrated management. Koizumi's negotiators tried to win over this 
middle group without losing too much of their original objective to 
remobilize the assets of the postal bank and insurance system.
    During the early months of 2005, more details fell into place. 
Japan Post released accounts for individual post offices showing that 
the great majority run a deficit on their mail operations. The 
negotiators agreed to provide tax breaks to the privatized companies, 
and to require network offices throughout Japan assisted by a USO fund 
of 1 trillion (US$ 9.35 billion). On February 24, the government 
released a scenario projecting profits of 1 trillion in 2016, 
premised on successful entry of the privatized units into new lines of 
business: the postal delivery business would enter international 
distribution and logistics, the postal bank would enter securitization 
and lending, the insurance company would issue large-value policies and 
health insurance, and all of these activities would yield enhanced 
commissions for the postal network. Attempts by the LDP to block 
foreign ownership of the privatized bank and insurance companies were 
rebuffed, as the government concluded that such action would violate 
Japan's commitments under the WTO General Agreement on Trade in 
Services.
    On April 27 the Koizumi Cabinet transmitted to the Diet its package 
of six privatization bills. After much discussion and minor amendments, 
the legislation ultimately passed the lower house by 233 to 228, but on 
August 8 failed in the upper house by 125 to 108. Koizumi had 
consistently threatened to call a snap election if the bills did not go 
through. He then delivered on his promise. On August 8, by Cabinet 
resolution, the Emperor dissolved the lower house of the Diet.
    Koizumi then did everything he could to focus the election on 
postal privatization as the turning point for shrinking government and 
pursuing economic and political reform. He blocked LDP endorsement of 
Dietmembers who had voted against the postal bills, and ran competing 
LDP-endorsed ``assassin'' candidates against them. After the short 
campaign, Japan gave a landslide victory to Koizumi on September 11. 
The LDP won 296 seats, and with the 31 seats of Komeito, its coalition 
partner, gained a majority sufficient to override the upper house. 
Upper house Dietmembers who voted against the postal legislation 
announced they would support it in the next Diet session; newspapers 
predicted easy passage of the bills within a few weeks.
The legislative package
    Like the September 2004 proposal, Koizumi's postal privatization 
bills called for activity in three periods: a preparation period 
through March 31, 2007, a transition period from April 1, 2007 through 
March 31, 2017, and the period from April 1, 2017 onward. On September 
16, Koizumi's team announced that his resubmitted legislation will be 
revised to postpone the target date for privatization to October 1, 
2007, retain the 10-year transition period, and incorporate changes 
agreed to in earlier Diet deliberations; they stated that there will be 
no other substantive changes. The discussion below is based on these 
assumptions.
    The legislation provides for establishment of a new government 
company, the Japan Postal Services Corporation (JPSC), to be set up 
within 6 months of enactment. The legislation also establishes a 
Cabinet-level Postal Privatization Headquarters, advised by a five-
person Postal Privatization Commission (PPC), both of which will cease 
to exist on October 1, 2017. The Prime Minister and MIC Minister, 
through the Headquarters, are to develop a succession plan, and JPSC is 
to produce an implementation plan subject to approval by the Prime 
Minister and MIC with input from the Commission. The succession plan 
will resolve key issues such as how the assets, liabilities and 
employees of Japan Post will be divided between the successor 
companies.
    The legislation authorizes Japan Post to enter or invest in 
international freight transportation and related domestic delivery 
services before 2007, if approved by MIC after receiving the views of 
the PPC. The bills call for MIC to consider potential damage to the 
interests of competing private sector businesses, when it decides 
whether to permit Japan Post to enter or invest in competitive areas. 
Japan Post had reportedly been negotiating with TPG and other 
international distribution firms, with plans to invest 10-20 
billion (US$ 93.5-187 million) over the 2 years from fiscal 2006, but 
the upper house's rejection of the bills put these talks on hold. 
(Nikkei, 2005)
    On October 1, 2007, Japan Post is to be dissolved and its functions 
inherited by new companies established for four business areas: 
government-chartered companies for postal delivery and the postal 
network (counter services), and private companies carrying on the 
postal bank and postal life insurance businesses. JPSC will initially 
hold all the stock in these four companies. In addition, a government 
corporation will be established to hold pre-privatization savings and 
insurance accounts of Japan Post. Present Japan Post employees will 
become employees of JPSC or one of the new companies. The four 
companies will be taxable, but will receive special tax benefits. The 
postal bank and insurance companies will pay into depositor or 
policyholder security funds, and the government will not guarantee bank 
accounts and insurance policies opened after October 1, 2007.
    During the period between October 1, 2007, and September 30, 2017, 
JPSC will be required to progressively sell off all of the shares in 
the postal bank and the postal life insurance business, and the 
government will sell almost 2/3 of JPSC's shares. The Minister of 
Finance has stated that the proceeds will be used to reduce Japan's 
national debt. The four companies will be able to expand into new areas 
with the approval of the Prime Minister and/or MIC (not the Ministry of 
Land Transport, which regulates freight companies).
    As of October 1, 2017, the postal bank and postal life insurance 
company will be privately held, and subject to the same regulation as 
private banks and insurance companies. Both the Postal Privatization 
Headquarters and the PPC will cease to exist on October 1, 2017. JPSC 
will continue in operation as a holding company for the postal delivery 
and postal network companies.
    Much political attention has gone into the continuing relationship 
between the financial units and the network company. As Takenaka 
pointed out in August 2005, 60 to 70 percent of current postal 
operations are supported by financial operations. (Kyodo, 2005) The 
privatization package envisions that the network company will provide 
counter services for the other ex-postal units, private companies and 
local government, and receive fees in return. This separation will make 
visible any cross-subsidization by postal financial services units. 
Resisters from the LDP and the opposition Democratic Party (DPJ) sought 
to prevent any post-office closures and maintain postal jobs, 
attempting to build in cross-holding of stock between the four ex-
postal enterprises and to prevent full privatization of the postal 
bank. Koizumi and Takenaka agreed only that after JPSC sells all of the 
bank and insurance company shares, it will not be prevented from buying 
the shares back. During Diet deliberations on June 30, Koizumi 
clarified that if these two units have become a normal bank and 
insurance company, their shares can be held by the postal network 
company. It is also clear that the postal bank and insurance company 
will be de facto compelled to enter into long-term agency contracts 
with the postal network.
    The legislation required JPSC to set up a 1 trillion (US$ 9.1 
billion) fund, to be financed by share sales. JPSC will make grants 
from this fund to the postal delivery and postal network companies for 
the costs of socially mandated free and reduced-rate mail, and other 
USO-related functions in local areas. In June, Koizumi agreed that JPSC 
will be able to retain up to 2 trillion (US$ 18.2 billion) in the 
fund; the purpose of increasing the fund is to ensure that universal 
service includes not just mail delivery but also financial services.
                              3. analysis
    As regulators throughout the world have struggled with adjusting 
the monopoly aspects of postal delivery to today's competitive markets, 
they have confronted a similar set of problems, much discussed in the 
postal economics literature. In Japan, however, we are presented with a 
situation that confounds some of our standard approaches. The 
government has proposed a privatization scheme for postal services to 
move the huge financial assets now tied up in postal savings into 
investments to create jobs and growth in the Japanese economy. The 
benefits of postal competition may only be an afterthought. In fact, 
concerns running in the other direction, as the LDP pushes for maximum 
retention of the existing postal network, may lead to cross-
subsidization of postal services, competitive distortions in financial 
services, and sub-optimal solutions that reduce the value of the assets 
to be privatized. Moreover, the postal system presently in place in 
Japan has unique characteristics. For example, there is no ``sanctity 
of the mailbox'' in Japan, the ``last mile'' of postal delivery has not 
been accepted to be a natural monopoly, (Maruyama, 2005) and ``special 
postmasters'' have been a potent political force.\5\ (MacLachlan, 
2004).
---------------------------------------------------------------------------
    \5\ Of Japan's 24,715 post offices as of March 31, 2004, 77 percent 
were special post offices, each headed by a special postmaster; 81 
percent of the special post offices do not pick up or deliver to 
individual delivery points. (Japan Post, 2004). Until Koizumi split 
from the special postmasters over privatization, they were a major 
element in mobilizing rural voters for the LDP. Special postmasters are 
selected by regional postal bureau officials from local notables. R, 
reportedly one quarter to one third of them inherit their jobs, and 
they often own the space leased for special post offices. (MacLachlan, 
2004). The September 2005 Koizumi landslide left them, and the postal 
unions, shaken. (Yomiuri Shimbun, 2005)
---------------------------------------------------------------------------
    As Koizumi's policymakers implement the postal reform package, they 
will face the dual dilemma of postal reform: they must structure the 
privatized post so that the post has a fair chance of increasing mail 
volume, offering stable rates, maintaining service standards, and, most 
importantly, meeting its universal service obligation. At the same 
time, they cannot create such overwhelming advantages for the 
privatized entities of Japan Post that competitors are discriminated 
against and competition is discouraged. The playing field must be 
level--not tilted in favor of Japan Post or its successors, nor tilted 
in favor of competitors. We examine below the specific decisions facing 
policymakers and how each may be resolved to favor either the post or 
competitors or to balance the interests of both.
    As has been demonstrated in other countries, one of the basic 
problems of introducing competition into postal services is the 
vertical integration of a natural monopoly component (local delivery of 
letter mail to mailboxes) with potentially competitive activities 
(e.g., sorting or transportation). The service provider that controls 
the monopoly component can use its control to block access to this 
component, to cross-subsidize activities in the competitive domain, and 
to thus frustrate competition. To address these problems, policymakers 
may use such mechanisms as opening access to the monopoly component, 
requiring structural separation between the monopoly and non-monopoly 
businesses (and corresponding accounting transparency), allowing 
limited competition through worksharing, and regulating the ability of 
the monopoly service provider to compete in non-monopoly businesses. Or 
the regulator can create a legally reserved area as a quid pro quo for 
the post's universal service obligation.
    Prime Minister Koizumi and his postal policymakers have chosen 
neither the path of worksharing, as in the United States, nor the path 
of liberalization based upon the weight of the mail piece, as in the 
EU. Instead, driven by the problem of financial and fiscal reform, they 
have chosen the more radical solution of privatization to unwind the 
financial (banking and insurance) and postal (network and delivery) 
activities.
Concerns of the Post
    Universal Service Obligation (USO): One of the primary missions of 
a post is to fulfill its universal service obligation. The new 
legislation obligates the postal delivery company to provide ubiquitous 
6-day delivery at a regulated price, and requires the postal network 
company to provide offices throughout Japan. The USO debate has focused 
on whether postal network offices must offer savings and insurance 
services in addition to classic postal services. Japan Post, MIC and 
postal-lobby Dietmembers have argued that the private sector will not 
meet the demand for financial services in rural areas, and that the 
privatized postal bank and postal insurance companies should have a USO 
so that they do not leave rural areas unserved. Takenaka and others 
have argued that extending the USO this way would impair competitive 
conditions for regional banks and other financial services companies, 
and ultimately increase government burdens. The legislation would not 
formally extend the USO to cover financial services, but during 
previous Diet debate it was amended to provide explicitly that post 
offices' business activities will include banking and insurance, and 
the final legislation will include that change.

    Reserved Area: The mainstay of support for the USO for postal 
delivery is revenue from the reserved area. Although competitors can 
use household mailboxes, Article 5 of the Postal Law forbids anyone 
other than Japan Post or its subcontractors to engage in postal 
business, or to engage as a business in delivery of ``correspondence,'' 
defined as ``a document expressing the intentions of the sender or 
communicating facts to a specific recipient.'' The law specifically 
forbids transportation businesses from delivering correspondence. The 
reserved area does not include parcel delivery, and companies such as 
Yamato Transport have successfully competed with Japan Post in the 
parcel market by establishing nationwide collection, sorting, and 
distribution networks. These competitors have used their economies of 
scope to deliver not only parcels, but also magazines, catalogues, and 
form letters to household mailboxes all over Japan. (Maruyama, 2005).
    The Correspondence Delivery Law, enacted as part of the 2002 postal 
reform package, created an exception to the reserved area--if MIC 
grants a license to a private operator for either ``special 
correspondence delivery'' or ``general correspondence delivery.'' The 
law and its regulations define ``special correspondence delivery'' as 
delivery of correspondence items whose combined length, width and 
thickness exceed 90 cm, or which weigh over 4 kg, or which are 
delivered within 3 hours, or for which the delivery fee exceeds 
1000 (US$ 9.12). If the licensee is engaging only in special 
correspondence delivery, it need only show that it is fit to carry out 
this business, and that its business plan is appropriate and is adapted 
to protecting the confidentiality of correspondence. Over a hundred 
firms have obtained such licenses. However, entry into general 
correspondence delivery is subject to much more stringent rules, 
designed to avoid cream-skimming. A provider of general correspondence 
delivery may handle all types of correspondence, but must deliver 
throughout Japan at least 6 days per week, must set up approximately 
100,000 of its own collection boxes (distinct from Japan Post boxes) 
throughout Japan, must meet service standards set by MIC order, and 
must charge MIC-regulated uniform rates. Upon passage of the 2002 law, 
Yamato Transport, the firm considered most likely to enter the general 
correspondence delivery business, issued a statement stating that the 
conditions were impossible to meet. (Yamato, 2002)
    The spring 2005 legislative package did not alter the existing 
provisions of the Postal Law on ``correspondence'' or on entry by 
general or special correspondence providers. Thus, after privatization, 
the postal delivery entity's de facto monopoly of general 
correspondence delivery will not change. The question is whether 
revenues from that business alone will be sufficient to sustain the 
postal delivery company.

    New Opportunities: Most commentators believe that Japan Post's 
postal operations have been subsidized by the more profitable banking 
and insurance branches. When the banking and insurance operations are 
separated from the postal operations, cross-subsidies will end. The 
postal delivery company will also be required to pay the postal network 
company for counter services and other services the postal network 
supplies. The USO fund is intended to provide some support for the 
postal delivery company's universal service obligations, but the 
prerequisites for tapping into the fund are as yet unclear. The postal 
delivery company will have an incentive to take dramatic steps to 
compensate for the loss of subsidies by entering new lines of business, 
increasing its mail volumes, and cutting costs. One such step, already 
articulated by Japan Post, would be to enter the logistics industry. 
This is a growing but complex industry, one which may require the Post 
to partner with an established logistics provider at the outset.
    Throughout the political process described previously, the Post has 
consistently advocated maximum freedom for its privatized companies to 
enter new business areas. Business studies carried out by the postal 
privatization policy team in February 2005 projected that the new 
entities would reap increased profits if allowed to enter new 
businesses such as international logistics, securitization, consumer 
lending, and health insurance, with increased commissions paid to the 
postal network. (Yuseimineika Junbishitsu, 2004).
    Another step for the Post to take would be to develop a strategy to 
increase mail volume, an action that other posts have focused on in 
order to sustain the USO and fend off a graveyard spiral.\6\ A fruitful 
avenue for Japan Post may be to encourage addressed solicitation mail, 
which would fall within the general correspondence monopoly. Whereas, 
for example, the average household in the UK receives 157 items of 
direct mail per year, and in the US 356 items per year, the average 
Japanese household receives only 44 items per year. UPU statistics for 
2003 show 32 addressed advertising items per capita for Japan compared 
to 246 in the US. In the United States, the growth of solicitation mail 
has had a major positive impact on the postal industry. There is thus 
much potential for growth in direct mail for Japan Post.
---------------------------------------------------------------------------
    \6\ For an example of an approach to maintaining and/or increasing 
mail volume, see Levy, Leong, Buc, and Plunkett (2005).
---------------------------------------------------------------------------
    The survival of Japan Post's delivery unit may be of great concern 
to Japan's policymakers as they structure the privatized Post. They may 
want to equip the postal delivery entity with the ability to enter new 
businesses, maintain or increase mail volume, control its costs, and 
meet its USO. On the other side of the equation from the Post's 
survival, however, stands the need to encourage competition in 
competitive services, not allowing the Post so many advantages that it 
can squeeze out its competition.
Concerns of Competitors
    Encouraging competition in postal services is based on sound 
economic principles which provide that increased competition generally 
results in greater efficiency and lower costs and/or better service to 
the consumer. To ensure viable competition in special services, Japan's 
policymakers must not give preferential treatment to the Post or allow 
cross-subsidies from its monopoly services to its competitive 
services--even as they attempt to equip the Post for survival.

    Preferential Treatment: To the extent the privatized postal 
delivery business receives preferential treatment that discriminates 
against its competitors, the playing field will be tilted toward the 
Post, with negative effects on competition. For example, if the Post 
does not pay taxes, parking tickets, or other government fees that its 
competitors must pay, the Post receives an unfair advantage. If the 
Post enjoys priority treatment in customs processing, it receives 
preferential treatment that allows it to outpace its competitors--not 
based on its own efficiency but based on the government's regulatory 
scheme. If the Post has sole access to key facilities (such as post 
offices) or pays less than its competitors to rent those facilities, it 
again receives preferential treatment. The regulator for Japan Post and 
its postal successor entities is MIC, not the Ministry of Land, 
Infrastructure and Transport, which regulates its competitors in the 
package and express industry. Moreover, the LDP has reportedly agreed 
to reduce by half the fixed asset tax payable to municipalities on 
postal buildings and other assets. Japan Post has also sought exemption 
from the consumption tax for fees and commissions received by the 
postal network from the other ex-postal companies. Adoption of these 
proposals could grant Japan Post preferential treatment and place its 
competitors at an unfair competitive disadvantage.

    Cross-Subsidies: The design for privatization in the legislation 
represents an attempt to achieve structural separation between the 
postal delivery and network businesses and the Post's financial 
services businesses. The final privatization of the bank and insurance 
company will complete that process, but only after a 10-year 
transition. As long as the banking and insurance businesses are tied to 
the network and/or delivery companies by equity or contract 
relationships, the pressures for cross-subsidies will continue. If the 
postal banking and insurance entities are compelled to subsidize the 
postal network, and indirectly the postal delivery entity, the cross-
subsidies will not only prevent a level playing field, but will also 
reduce the value of the banking and insurance assets to be sold in the 
privatization process, lower the expected reduction of Japan's national 
debt and reduce the benefit to Japan's fiscal position.
    Furthermore, even assuming that the postal delivery entity no 
longer receives subsidies from the banking or insurance operations, 
unfair cross-subsidization may arise if the postal delivery entity uses 
funds from its monopoly services to cross-subsidize its competitive 
services. Oversight by an independent regulator together with 
accounting transparency by the Post in the allocation of costs and 
revenues may be a critical factor in preventing cross-subsidies.

    Independent Regulator: Postal reform experience in other countries 
has shown that the role of an independent regulator is critical in 
striking a fair balance between the interest of the Post, the 
competitors, the consumers, and the public. The Koizumi reform package 
requires MIC approval for major decisions of the successor companies; 
key decisions concerning the postal bank and insurance company must be 
made jointly by the Prime Minister and the Minister of Internal Affairs 
and Communications. As noted above, the legislation also establishes 
the cabinet-level Postal Privatization Headquarters led by the Prime 
Minister, and within it the Postal Privatization Commission (PPC), a 
body of five persons of ``superlative judgment,'' appointed by the 
Prime Minister for renewable 3-year terms. The PPC, which will have its 
own staff, will carry out reviews each 3 years and must be consulted 
about many decisions in the course of postal reform. The Headquarters 
and the PPC will exist only through the end of March 2017, and will be 
abolished thereafter.
    The PPC will have an important, but limited role in ensuring fair 
and efficient advancement of privatization. For instance, MIC must 
obtain the PPC's opinion about any authorization for Japan Post to 
enter or invest in international freight transportation, or for the 
postal delivery company to enter new business areas. The PPC will also 
have the authority to obtain accounts and information from the ex-
postal companies, like the subpoena powers of postal rate regulators in 
other countries. This is a step toward greater transparency to detect 
unfair cross-subsidies or preferential treatment. The leadership of the 
present and future Prime Ministers and Ministers of Internal Affairs 
and Communications, and the expertise and independence of future 
Commissioners, will be critical in ensuring successful privatization 
with equitable results.
    However, proposed provisions on postal ratemaking, in amendments to 
the Postal Law that are part of the Koizumi package, appear to give the 
postal delivery company increased ability to set rates with reduced 
regulatory supervision. While Japan Post now must obtain MIC approval 
for postal rates, under the revised Postal Law the postal delivery 
company would set postal rates and simply notify MIC. MIC approval 
would only be required for discounted third and fourth class mail, and 
there would be no role at all for the PPC or private parties in postal 
ratemaking.

    Allocation of Assets: Many crucial issues remain to be resolved. 
One of the most important, from a business standpoint, is the 
allocation of assets to each of the successor companies. When Japan 
Post is dissolved on April 1, 2007, its remaining employees, assets, 
and liabilities will be divided among the successor entities; 
obviously, this division will be key to each company's future. In the 
case of mail delivery, the physical plant must be divided between the 
network and delivery entities, perhaps allocating all counter service 
facilities to the postal network company, and allocating trucks and 
sorting facilities to the postal delivery company. These allocation 
decisions will affect the playing field--making it level or tilted--and 
transparency in accounting will again be a key factor in whether the 
regulator will be able to accurately allocate assets and liabilities.

    Capitalization: It is not clear how Japan Post's net capital 
position will be treated. As of March 31, 2004, Japan Post's postal 
delivery business had 2.2 trillion (US$ 20.8 billion) in assets 
and 2.7 trillion (US$ 25.6 billion) in liabilities, for a negative 
net worth of - 0.5 trillion (US$ - 4.8 billion). Observers, 
including President Ikuta of Japan Post, have argued that the postal 
delivery business will need additional capital of 1.4 trillion 
(US$ 12.8 billion) to 1.8 trillion (US$ 16.8 billion) in order to 
be a viable competitor. Recapitalizing Japan Post through a cash 
infusion from the government would be contrary to Koizumi's 
liberalization and privatization agenda. Observers have suggested that 
this capital could also come from private sector investment. (Feldman, 
2004).
Business Opportunities
    Banking reform, enhanced financial sector regulation, and 
remobilization of assets have been key to pulling the Japanese economy 
out of stagnation under Koizumi's plan. As the September 2004 Basic 
Policy promised, Postal privatization, if done right, can yield 
``enormous value for the Japanese people.''. It can unlock the value of 
the assets tied up in postal savings and insurance, use the proceeds to 
reduce public debt overhang, and remobilize those assets in private 
hands. In the process, opportunities will be created for collaborators, 
investors, or competitors in Japan's delivery, insurance and banking 
industries. A decision to invest in these opportunities, however, will 
turn upon the result of the September Diet elections and the 
legislation enacted thereafter.
    New business opportunities will include competing with the newly 
formed entities, which will no longer have a strangle-hold on their 
respective markets. Other opportunities capitalize on partnering with 
the new postal entities. For example, mutual funds, other funds 
management companies, and a range of service companies could develop 
new opportunities to market to Japanese consumers through the postal 
bank or the postal network company. The postal bank and insurance 
company may seek to invest their assets more effectively through 
improved money management or through securitizations offered by other 
companies. The postal delivery company could utilize the freedom 
provided by the legislation and enter into arrangements with 
international partners, such as logistics services or services using 
the postal network as an agent to collect mail. The bank and insurance 
company may choose to collaborate with partners in offering new banking 
or insurance products. The legislation appears to leave all of these 
opportunities open. Again, a strong independent regulator will be 
critical as each of the entities enters new lines of business during 
the transition period.
                             4. conclusion
    In crafting the final design for privatization of Japan Post, 
Japan's policymakers must structure four viable entities: a privatized 
bank, insurance company, postal network, and postal delivery company. 
The electorate has overwhelmingly endorsed Koizumi's vision of postal 
privatization, but many details remain to be decided as the plan is 
implemented. Will Japan's policymakers create a strong post with so 
much preferential treatment and so many subsidies that it will 
overpower its competitors and threaten competition in the industry, or 
a weak post that will struggle to meet its universal service 
obligations and its deferred liabilities and ultimately need a 
government bail-out? Koizumi's team and the Diet have a challenging, 
but hopefully not impossible, task before them: to create a postal 
privatization scheme that walks a line between these two extremes and 
results in both a viable post and a flourishing competitive market.
                               references
Economist, 2004. ``Ready, steady, go--Japan Post.'' The Economist 
    (Sept. 4, 2004).

Feldman, R. ``Japan: Postal Privatization? Political Drama, Economic 
    Revolution.'' Morgan Stanley Global Economic Forum, Oct. 8, 2004, 
    posted at http://www.morganstanley.com/GEFdata/digests/20041008-
    fri.html#anchor5

Ikuta, M., 2004. ``Kokkaku keiei shisan ni taisuru iken'' (Views on the 
    skeleton management estimate), Nov. 22, 2004, posted at http://
    www.yuseimineika.go.jp/iken/041124iken.html

Japan Post, 2004. ``Postal Services in Japan 2004: Annual Report,'' at 
    http://www.japanpost.jp/top/disclosure/e2004/index.html

Kawabata, E., 2004. ``Dual Governance: The Contemporary Politics of 
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Kawauchi, A., 2005. ``Yusei kaikaku no doko'' (Trends in Postal 
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Koizumi, J., 2004. Koizumi Cabinet E-mail Magazine No. 160, ``Lion 
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    2004.

Kyodo, 2005. ``Ministers criticize DPJ plan on postal savings, fiscal 
    reforms.'' Kyodo News, Aug. 15, 2005.

MacLachlan, P., 2004. ``Post Office Politics in Modern Japan: The 
    Postmasters, Iron Triangles, and the Limits of Reform.'' J. of 
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Maruyama, S., 2005. ``Competition Structure and Future Postal Reform in 
    Japan,'' paper for 2005 CRRI conference.

Nikkei, 2005. ``Japan Post to Mothball International Ambitions.'' 
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Yamato, 2002. ```Shinsho ni gaito suru bunsho ni kansuru hoshin' ni 
    kansuru tosha no iken'' (Company views regarding the ``Guidelines 
    on documents constituting correspondence''), Nov. 8, 2002, posted 
    at http://www.kuronekoyamato.co.jp/news/141108_1news.html

Yamato, 2004. Annual Report 2004, Yamato Transport Co., Ltd., at http:/
    /www.kuronekoyamato.co.jp/english/investors/annual2004/
    annual_report_2004.pdf

Yomiuri Shimbun, 2005. ``Poll puts postal lobbyists' backs to wall.'' 
    Yomiuri Shimbun (English ed.), Sept. 13, 2005.

Yuseimineika Junbishitsu, 2004. ``Juyo kento komoku ni tsuite (Sono 2-
    2),'' (Major issues for consideration: 2-2), Nov. 17, 2004, posted 
    at http://www.yuseimineika.go.jp/dai18/18siryou.pdf
  

                                  
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