No. 20 — May 19, 2000

Feature Article

CORPORATE JAPAN'S RESTRUCTURING EFFORTS: A PROGRESS REPORT

Douglas Ostrom

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Summary

Few analysts would dispute the statement that the Japanese economy hit a wall in the 1990s. Experts have offered a plethora of suggestions for getting the world's second-biggest economy moving. At least publicly, Tokyo has embraced the recommendation that the government and the private sector restructure to improve efficiency. For corporate Japan, such an overhaul also would boost competitiveness and profitability.

Although the concept is somewhat unclear, corporate restructuring often is described by referencing the frequently painful process by which U.S. companies since the 1980s have reduced employment, shuttered plants and sold divisions — in the successful cases, emerging more profitable and even back on a growth track. Few if any Japanese companies, Nissan Motor Co., Ltd. included, have been nearly as bold, or as reckless, as their American counterparts.

Japanese corporate restructuring presents a sobering picture when viewed through the prism of economic and financial data. Restructuring that is extensive enough to boost growth should be obvious in altered relationships between output and labor or capital inputs, yet the evidence suggests that little has changed. While this negative finding may be a consequence of the business cycle skewing results, it also is disturbingly consistent with the less-than-radical actions undertaken to date by individual Japanese firms.

Restructuring remains controversial both in Japan and in the United States. Without it, however, Japan's economy is likely to be relegated to sluggish growth. While such an outcome would disappoint overseas policymakers and suppliers, it would represent a choice in favor of the slow change and the preservation of existing relationships that most Japanese find preferable.

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What Is Restructuring?

The Japanese economy is in deep trouble. When growth declined sharply in early 1991, experts nearly unanimously assumed that the expansion would resume within months and at rates close to those that had prevailed in the late 1980s and in 1990. In short, the downturn was seen as a recession — a temporary slowing of growth, or even a decline in output, that every modern economy faces sooner or later. As such, Japan's condition was regarded as treatable using such time-tested anti-recession remedies as monetary expansion, tax cuts and the like.

Today, after protracted sluggishness through the 1990s punctuated only briefly by a growth spurt in 1996, the diagnosis has changed. Japan's problems no longer are seen as primarily cyclical but as structural. Although experts continue to debate the efficacy and the need for activist monetary and fiscal policies, the realization is spreading that such measures, although probably necessary, will not be sufficient to restore the Japanese economy to a sustainable growth path.

Unfortunately, the medicine cabinet is, if not empty, not nearly as well-stocked for structural problems as it is for cyclical difficulties. Moreover, what few cures are available have serious side effects that make them difficult for the patient to accept.

Most such measures fall under the heading of restructuring. They involve changing who produces what in the hope that the new arrangements will facilitate a larger aggregate output. This expectation is fed by the belief that the adjustments will reflect consumer preferences as expressed through the market.

These changes can be introduced through various agents: the government by means of deregulation or other measures, the marketplace via the expansion of some industries and firms at the expense of others, or by businesses themselves. In practice, the procedures interact. For example, as Tokyo deregulates airfares, the airline industry probably will expand at the expense of rail travel, and those airlines more skilled in a deregulated environment will expand the fastest. The carriers that restructure their operations most effectively will be the best airlines.

Previous Japan Economic Institute reports have looked at several aspects of the restructuring issue, including industrial and firm mobility. At the industry level, the rates of structural change in the United States and Japan are not strikingly different.1 In recent years, some industries in both countries, such as those producing information technology products, have rapidly increased their shares of economic output. Others, for example, variety stores, have seen their shares plummet.

Firm mobility, by contrast, refers to the advance and the decline of companies. Movement into and out of the ranks of large firms is another indicator of restructuring. The rapid expansion of Southwest Airlines Co. and the demise of Eastern Airlines, Inc. illustrate this phenomena in theUnited States. By this yardstick, Japan has not done well, at least in the 1990s. Between 1987 and 1997, big U.S. businesses changed places more frequently on the list of the largest such companies than did their Japanese counterparts. Moreover, over that period, the rate of turnover remained constant for American companies but fell for Japanese firms.2

A third type of corporate restructuring is internal and is determined by the extent to which a company responds to a new reality through self-transformation. Generally, the changes take one of three forms: expanding or contracting the physical plant or equipment, varying employment levels or the terms of employment, or altering the product mix. Each of these types of adjustment is more painful — and more likely to be resisted — if it involves a reduction of some sort. This is especially true for Japanese companies that have a long history of expansion. Few observers doubt that businesses will respond — or even overreact — to a growing market by adding capacity and hiring additional workers. The harder action is to abandon capacity and lay off workers. The difficulty comes partly from the wish to avoid the human suffering imposed on those released, but it also arises from the implicit admission that previous expansions may have been mistakes.

In American parlance, internal restructuring is called downsizing or, more euphemistically, right-sizing. The catchword actually may be more accurate. If the reduction in the scale of operation is successful, the firm will increase its competitiveness and even may manage to boost its revenues above previous levels.

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The Incentive To Restructure

Some Japanese analysts have absorbed from the past 20 years of U.S. economic history the lesson that this sort of restructuring is the magic bullet that reinvigorated America's economy. The corollary is that it could do the same for Japan's. This view takes into account the track records of companies like Ford Motor Co. that appeared doomed by Japanese competition in the late 1970s and early 1980s, restructured like crazy in the 1980s and emerged in the 1990s as fiercely competitive concerns that, in a few instances, acquired the very Japanese firms that had so threatened them two decades earlier. Such accounts of the American experience note that the turnaround at the firm level was mirrored in macroeconomic statistics. The U.S. economy now is expanding rapidly, while Japan's economy stagnates.

The policy implication is clear to these analysts: corporate Japan, too, must restructure. Conventional wisdom regarding Japanese firms appears to indicate, however, that initiating the process is next to impossible. In this view, stockholders have little power in big Japanese companies; workers, suppliers, management, lenders and even local communities loom far more important. Of these stakeholders, only shareholders are thought to have the interest in higher profits that provides the principal reason for the firm to act. In contrast, the welfare of everyone but stockholders and lenders could be hurt by restructuring.

Restructuring, in short, presupposes an increase in stockholder influence and greater interest by lenders in the bottom line. Fortunately, the objective can be accomplished, but it has taken a gun to management's head in the form of brutal competition for funds, which results, in turn, from recent policy changes or ones in the pipeline.

The Big Bang financial deregulation program may be the most important of these policy changes.3 The protracted crisis in Japan's banking system in the mid- to late 1990s created the perception that domestic banks could not, or would not, assess credit risk and expected rates of return as carefully as they should. The end product was a mountain of bad debt.

The financial reforms of recent years had two important objectives in this regard. First, new laws and procedures have put banks on a much shorter leash. Swelling volumes of nonperforming assets are supposed to prompt a quicker official reaction, thereby encouraging banks to be more careful in the first place.

Second, options for Japan's huge army of savers were to be increased. Among other changes, recent aspects of the Big Bang liberalization make it easier for individuals to invest in foreign equities and other securities, either directly or through investment trusts (Japanese-style mutual funds). Returns on these foreign investments approximate rates of profit in offshore markets. To the extent that this group of investors finds risk-adjusted rates of return higher abroad, banks and other financial institutions at home will lose business. To compete, banks will have to boost interest rates, which means that they will have to earn more on their loans and other investments. To pay these higher charges, nonfinancial borrowers will have to make more money as well.

Putting it all together, rates of return in Japan, which have been far lower than elsewhere, must be increased to near to international levels. Otherwise, companies will find themselves starved for funding, regardless of their chosen means of finance. Banks and insurers now operating under the watchful eye of the Financial Supervisory Agency, which is charged with policing the entire financial services sector, will be careful to lend only at rates that reflect a reasonable combination of risk and return. Even self-financing will not give nonfinancial firms an out. Shareholders will sell their stock in a company that is not sufficiently profitable.

Corporate restructuring is necessary to achieve greater profitability. Put another way, to the extent that competitive forces are unleashed, companies have no choice but to be efficient. In this interpretation of financial reform, nonfinancial firms do not embrace restructuring out of a conviction that it is the right or ethical thing to do but because the new realities of the market dictate it.

If firms, financial and otherwise, and savers in Japan behave as just described, the economy will get a huge lift. The country's abundant savings will flow into the supply of goods and services that people really want and are willing to pay for. Instead of half-completed real estate projects cluttering the landscape and producing nothing but blight, this scenario projects a diversion of funds into companies that provide goods and services that are globally competitive, both in terms of pricing and rate of return.

The international dimension of this process is important. If Japanese companies fail to heed the message that they need to boost profitability, investors, whether individual or institutional, can be expected to look for higher yields abroad. In that case, national output still would get a boost through higher incomes on foreign investments. Moreover, if Japanese companies can convince outsiders that they have mended their extravagant ways and are poised to earn internationally competitive rates of return, then they even may be able to attract foreigners eager to get in on the ground floor of a Japanese industrial renaissance.

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Recent Restructuring Initiatives

Sony Corp. - In 1999, numerous big Japanese companies announced restructuring initiatives. Sony Corp. was among the best known of these firms, which included most of its rivals in the industrial and consumer electronics field. At the beginning of March 1999, executives said that the company would slash 17,000 jobs, or 10 percent of its global work force, by March 2003. They also disclosed that over the same period, Sony would reduce its worldwide manufacturing facilities to 55 from 70.

Sony's stock price rose 9 percent the day after this plan was released and has remained healthy since then. The price of its American depository receipts, which represent shares of foreign stocks that are traded on U.S. exchanges, climbed in the 12 months through early May as high as $315, roughly four times above the level prior to the restructuring announcement.

Few analysts have attributed any portion of the run-up in Sony's stock price over the past year to its restructuring plan. U.S. companies in recent years have found that restructuring is a virtually guaranteed way to increase their stock prices. Although not American, Sony is not as Japanese as one might think. Its foreign ownership share, which has varied in recent periods between 47 percent and 49 percent, is among the highest of publicly traded big businesses headquartered in Japan.

Whether Sony's restructuring plan is working — or even has made a difference in the bottom line — is not clear. Since last year, little has been said about plant closings, but in late March, Sony opened a $650 million factory in Japan to produce the graphics synthesizers for the PlayStation 2 video game console. In late April, the company announced that its consolidated profit had fallen 32 percent in the fiscal year that ended March 31. Moreover, blaming the strong yen, the company said that it expects another drop in FY 2000 despite higher sales. Analysts noted that the high launch costs of the hot new PlayStation 2 had dragged down FY 1999 profits.

Mitsubishi Electric Corp. - Another of Japan's big electronics manufacturers, Mitsubishi Electric Corp., announced a restructuring plan of its own in March 1999. Its central purpose is to achieve a 10 percent return on equity. Among other means of achieving this goal, management said that from FY 1999 through FY 2002, the firm would trim 10 percent of its global work force of 146,000. MELCO's projected cuts exactly match those announced three weeks earlier by Sony in percentage terms and timetable.

Of the 14,500 jobs to be eliminated, 8,400 are to be cut in Japan and 6,100 overseas. MELCO also announced its intention to integrate 180 affiliates into 140. Later details included the closure of its American semiconductor plant and its strategy for layoffs. According to company executives, to the extent possible, 6,000 of the domestic job cuts will be accomplished by "seconding personnel to outside the group and restraining new employment," while the remaining 2,400 positions will come from the ranks of affiliated companies.4 Indeed, the firm's reported timetable indicates that the employment reductions can be achieved almost entirely through attrition. No mention has been made of closing any of the company's 10 domestic factories.

MELCO's restructuring strategy, which one Japanese financial analyst described at the time as a "positive surprise," has been well received. The day after the announcement, the company's stock price moved up 10 percent, and it has risen another 50 percent in the year since. MELCO has revealed few details about how the restructuring is going except to say that the FY 1999 overseas portion essentially was complete by last July.

Nissan Motor Co., Ltd. - In October 1999, Japan's second-largest vehicle builder, Nissan Motor Co., Ltd., unveiled its long-awaited turnaround strategy (see JEI Report No. 41B, October 29, 1999). In contrast to the Sony and the Mitsubishi Electric announcements, Nissan's was delivered with a foreign accent — that of its then-recently appointed chief operating officer, Brazilian-born Carlos Ghosn. Based on his cost-cutting efforts at French automaker Renault S.A., which had dispatched him to Tokyo after acquiring a controlling 36.8 percent stake in Nissan earlier in the year (see JEI Report No. 12B, March 26, 1999), analysts expected a full-throttled reform.

They were not disappointed. The centerpiece of the so-called Nissan Revival Plan is the closure of three assembly plants and two engine facilities in Japan. Foreign factories largely are unaffected. The assembly plants are to be closed by March 31, 2001 and the engine plants within the following year. When Nissan announced in 1993 a plan to shutter a single assembly plant that did not actually close until 1995, it made headlines around the world as the first Japanese car and truck manufacturer to close a domestic factory.

Nissan's latest moves will trim production capacity at home by 30 percent and global employment by about 14 percent, or 21,000, by March 31, 2003. Japan will lose 16,400 jobs, implying that domestic employment will bear more than three-quarters of the cuts. However, roughly a fourth of the overall job loss will be the result of spinning companies off from Nissan; this suggests that some discharged workers will see little change. Nissan hopes to accomplish the remaining reductions through retirement and other attrition. Mr. Ghosn also announced that Nissan would thin its supplier ranks to 3,400 from 6,900.

The government of then-Prime Minister Keizo Obuchi had braced itself for the likelihood that Mr. Ghosn, following the script laid out in dozens of government reports that had advocated restructuring across a broad swath of industries, would institute painful measures that held the promise of restoring Nissan to financial health. In this context, official reaction was surprisingly negative. Mr. Obuchi told reporters in mid-October that "[w]e believe it is necessary for them [Nissan] to deal as much as they can with the plan's effects on the company's employment situation and subcontractors." Mr. Obuchi already had signaled his desire to use last fall's special Diet session to address the problems of small and midsize companies.

Echoing his boss and apparently not worried about how his words would be taken by foreign analysts aware of Japan's long tradition of administrative guidance, International Trade and Industry Minister Takashi Fukaya said that he had expressed his own concerns to Nissan via a senior MITI official. He added that the Nissan issue had come up at a cabinet meeting held the day of Mr. Obuchi's statement about subcontractors and that he was looking at the extent to which Tokyo could cooperate in relieving their plight.

At least one anonymous observer even argued that the Nissan plan made little sense in narrow, bottom-line terms. This person suggested that Mr. Ghosn believes that the automotive industry is like the refrigerator industry, where cost considerations, marketing and superficial design changes are the keys to competitiveness rather than technology, the factor that economists see as paramount. For this analyst, the dreary result of the Nissan strategy is runoka (Renaultification). For Nissan stockholders, including Renault, if runoka means a return to profitability, it might not be so bad. For Nissan workers who escape the cutbacks, it could mean a more secure job in time. But for Japanese politicians, whose long-term vision extends no further than the next election, runoka was a threat.

Half a year later, the success or the failure of Mr. Ghosn's plan is unclear. Already, some large chunks of the Nissan keiretsu5 have been put on the block as the company works to spin off noncore business lines. For example, Nissan announced in mid-April that Ishikawajima-Harima Heavy Industries Co., Ltd. had agreed to purchase its aerospace division.

Nissan's North American sales are healthy and even have increased in response to the introduction of the previously planned Xterra sport-utility vehicle. However, the company's share of the Japanese market has continued to drop.  In the first quarter of this year, Nissan accounted for just 13.4 percent of all sales versus 14.3 percent a year earlier. At a minimum, Mr. Ghosn has failed to win a vote of confidence from Japanese consumers. At worst, they may be voting against the foreign ownership — and the increasingly foreign practices — of what once was regarded as one of the jewels in Japan's industrial crown. In any event, Nissan's stock price has fallen from the highs recorded around the time of the restructuring announcement.

Other Examples - Sony, Mitsubishi Electric and Nissan barely represent the tip of the iceberg of major Japanese companies that have announced restructuring plans or are rumored to be considering such moves. In 1999, firms as varied as Nippon Steel Corp., Mitsui Chemicals, Inc., Sogo Co., Ltd. (a department store operator), Asahi Breweries, Ltd., Kao Corp. (life-style products) and Toyo Ink Manufacturing Co., Ltd. all released plans to overhaul their operations. Generally, these strategies are similar to those just described. Here and there, a plant will be closed, employment will be reduced by 3 percent to 4 percent a year over a three-year period and certain nonstrategic ventures will be abandoned. Most of the plants slated for closure are foreign, and most if not all of the domestic employment reductions are small enough to be achieved through attrition and reassignment within the corporate group.

An apparent exception to these generalizations that proves to be anything but is the restructuring initiated by top-ranked pharmaceutical manufacturer Takeda Chemical Industries, Ltd. In 1994, it unveiled a plan that called for slashing employment by 37.5 percent, but the company gave itself 11 years to accomplish this objective, implying a 4.2 percent reduction per year. By last fall, Takeda Chemical reportedly was considering speeding up the timetable, a rumor that set off shock waves in the drug industry.

Perhaps the most amazing of last year's announcements was that Kao, Japan's biggest manufacturer of personal-care products and soaps, would stop making floppy disks and other storage media after 13 years in the business. Kao's president explained that despite corporate strength in "surface chemistry technology," the firm was unable to "make good use of our expertise in traditional products such as household goods, cosmetics and chemicals" in the information technology industry. The 500 workers making media products in Japan will be reassigned, and Kao will impose a hiring freeze.

According to one writer, analysts gave Kao management high marks because it had increased profits for 19 straight years. Getting rid of storage media was seen as a way of extending that streak. Foreign analysts might wonder how the company maintained its exemplary record in light of such obviously nonstrategic decisions as getting into the media field in the first place and then toughing it out for more than a decade.

Nomura Asset Management Co., Ltd., an arm of Nomura Securities Co., Ltd., established an investment trust in August 1999 known as Open Management Reform. The fund's managers try to differentiate among backward-looking and forward-looking restructuring efforts and to invest in those firms that score as sufficiently forward-looking. Their indicators of improvement cover 16 areas, including executive leadership, elimination of unprofitable operations and management use of quantitative techniques. Takeda Chemical and Kao apparently are in the forward-looking group, having announced restructuring efforts despite rising profits.

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Corporate Restructuring In International Perspective

Japanese analysts fall into two camps regarding the announced restructuring efforts. One group complains that companies attempting to revamp their operations have fallen into the same trap that ensnared U.S. firms two decades ago — that of taking short-term measures that boost stock prices at the expense of employee morale and, ultimately, profitability. The other group praises the same managers for their boldness in putting earnings first. Nissan's Mr. Ghosn, in particular, receives condemnation or praise for implementing plans that his Japanese predecessors had contemplated but not implemented because of their warm hearts, lack of guts or some combination thereof.

Few Japanese analysts seem to have asked, however, whether the plans go far enough. Yet a comparison with American companies that have restructured over the past two decades suggests that this is a fair question.

Vehicles - The automotive industry is a particularly interesting example for several reasons. The Nissan Revival Plan clearly was inspired by Mr. Ghosn's previous experience with Renault. But perhaps even more influential were the efforts of U.S.-based multinational car and truck companies, beginning around 1980, to restructure in direct response to their perceived inability to compete with Japanese vehicle builders, including, not least, Nissan.

In 1986, David Halberstam, already well-known for The Best and the Brightest, his definitive book on the Kennedy administration, wrote The Reckoning, an account that used a comparison of the American and Japanese automotive industries as a springboard for a broader discussion of U.S. economic prospects. That book also became a best-seller, was named one of the 10 best books of the year by Business Week and was a favorite of Fortune 500 chief executive officers. H. Ross Perot, the future presidential aspirant, said at the time that Mr. Halberstam's book covered everything anyone needed to know about America's industrial crisis.

Mr. Halberstam wove his story around two manufacturers. For the American firm, he chose Ford, explaining in essence that Chrysler Corp. was too big a mess and General Motors Corp. simply too big.6 Having opted for the number-two U.S. vehicle maker, he looked at the second-largest Japanese automotive producer, Nissan.

Mr. Halberstam generally avoided Ford-to-Nissan comparisons. By no means did he portray Nissan as uniformly competent, but his generalizations were rooted in the belief at the time that the United States was in an economic crisis due in part to Japanese superiority in making cars and other products. The author said in the conclusion to his book that by 1986, "… other nations were following the Japanese into middle-class existence, which meant that life for Americans was bound to become leaner."7

One topic that Mr. Halberstam described only briefly was the Ford effort begun in 1979 to radically restructure its operations. His skepticism was obvious when he raised the possibility that what appeared to be the early fruits of that strategy — higher profits in 1983 — were more illusory than real.

The comeback, some skeptics sensed, was not an industrial resurgence but rather a skilled financial arrangement. The essential problems remained. It was an industry desperately trying to improve itself. But to take a giant industry, one that had grown careless and sloppy over more than 25 years of virtual domestic monopoly, and restructure it under combat conditions was not easily accomplished.8

In fact, combat conditions were exactly what Ford needed. The threat of a hanging is said to concentrate the mind, and in 1979, Ford's future was questionable. Its restructuring efforts can be traced to a trip that senior management took that year to Japan. Despite the worst conditions in the industry in decades and a plummeting market share, Ford had just obtained a 24 percent stake in Mazda Motor Corp., which gave the visiting Ford executives greater access to the Japanese company. The trip's usefulness also may have been enhanced by Mazda's own brush with bankruptcy just a while before, which, in addition to leading to the equity tie-up with Ford, may have sharpened the Japanese company's manufacturing skills.9

For whatever reason, the Ford executives returned to Detroit with a new mission — to cut costs. Under new Chairman and CEO Philip Caldwell, the automaker began to lay off workers and close plants. By the mid-1980s, it was gaining market share and was the most profitable of the Big Three. In 1986, Ford earned more money than General Motors for the first time since 1924.

The cutbacks in Ford's domestic capacity and personnel probably were greater than the restructuring that Mr. Ghosn has in mind for Nissan. Unquestionably, they were accomplished on a much faster timetable. With 239,000 employees in 1979, Ford's business was less than twice as large as Nissan's current global operations, which employ 140,000 in group companies. Yet Ford's North American employment dropped by 60,000 in a single year, a loss of almost three times the number of jobs that Nissan plans to trim internationally over three and a half years and nearly four times the domestic cutback. Moreover, Ford closed nine factories in the space of two years, moving much faster than Nissan's plan to close three assembly plants and two engine plants over two and a half years. Similarly, within a year, Ford had eliminated 8.3 percent of its domestic dealers; Nissan expects to scale back its sales network by 10 percent over three years.

Ford's cutbacks continued through 1983. When the restructuring was done, the company had closed 13 factories — most but not all of them in North America — and had reduced its hourly work force by nearly half, from 191,000 in 1979 to 101,000.10 Salaried employment fell 24 percent over the same period.11

Ford's restructuring program was copied with varying degrees of success by General Motors and Chrysler. One expert, Michael Smitka of Washington and Lee University, has cautioned against being too harsh in the rush to judge the effectiveness of the restructuring efforts undertaken by Nissan and, eventually, other Japanese vehicle makers that face similar if less serious problems of overcapacity at home.

Mr. Smitka notes that GM and Chrysler waited nearly a decade — and parts makers even longer — to act decisively. He describes Mazda's latest restructuring under Ford's tutelage — an example of trading places for the second time — as a comparative success story and speculates that Renault will have less leverage over Nissan than Ford has had over Mazda. The same goes, he says, for DaimlerChrysler AG, which has agreed to buy a controlling 34 percent of Mitsubishi Motors Corp. While arguing that Japanese firms in general are as capable of reform as their U.S. counterparts, Mr. Smitka maintains that Japan's vehicle industry faces "grim times" because the extent of the required change is greater.12

Other Industries - The American automotive industry, however, is hardly the only U.S. industry to have gone through the restructuring process in recent decades. In fact, one study found only a single instance among 35 examples of significant downsizing by big U.S. companies widely reported in the national U.S. media between 1990 and 1997 that involved Detroit: GM's layoff of 70,000 employees.13 The list spans industries from retailing (Sears, Roebuck & Co. and Woolworth Corp.), aerospace (Boeing Co.), high technology (Apple Computer, Inc., International Business Machines Corp. and Digital Equipment Corp.) to financial services (BankAmerica Corp.). In all, half a million people lost their jobs through these 35 actions, which do not include any of the infamous restructurings at the hand of "Chainsaw Al" Dunlop14 at Scott Paper Co. and Sunbeam Corp.

One of the best-known restructurings reported in the study involves AT&T Corp. In 1995, the company received widespread negative publicity when it eliminated 40,000 jobs and, at the same time, handed its chairman a hefty paycheck. In mid-May of this year, AT&T, still struggling with its traditional long-distance services under a different chairman, announced that it would eliminate 6,200 employees, about 4 percent of today's work force, by the end of 2000. The news was not picked up by most media organizations — the Japanese press being a notable exception — presumably because the numbers were so tiny compared to the 1995 action and less dramatic than such recent steps as the February 1999 move by Levi Strauss & Co., the jeans maker, to lay off 5,900 workers, or 30 percent of its worldwide work force, and to close half of its U.S. factories.

The latest AT&T action would not have been included in the cited study of downsizing because it was too small and so thinly reported. Yet a comparison with the plans of Japanese companies reveals it to be larger in certain respects. Sony, for example, expects to trim its payroll by 10 percent, but the company is giving itself three years. This 3.3 percent annualized rate of job-cutting is far less than the 4 percent AT&T plans over six months or so, an 8 percent yearly rate of downsizing.

Restructuring initiatives undertaken by other U.S. companies also are much more extensive than those of their Japanese counterparts. No Japanese electronics maker, for example, has announced, let alone implemented, anything approaching the early 1990s' cutback by IBM, a company once known for its "permanent employment," which was thought to approximate Japanese practice. Between 1990 and 1993, Big Blue's work force dropped from 400,000 to less than 200,000. Studies of restructuring put the extent of the downsizing at between 35,000 and 60,000 because this is the retrenchment associated with Louis Gerstner, IBM's chief only since 1993. Whether a 50 percent reduction was accomplished in three years or a 15 percent drop in one, the magnitude of change and its pace were far faster than the 6.5 percent a year that rival Toshiba Corp. has set as an objective.

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Macroeconomic Evidence Of Restructuring

The lesson of these examples would seem to be that restructuring in Japan is less extensive than that achieved by U.S. firms. This should not be surprising. After all, much of the motivation for what happened in the United States came from the argument that corporate America had to get lean and mean to compete with its Japanese rival, which was assumed to be in that shape already. Yet, as argued before, restructuring is advocated for Japan in part because low growth rates suggest that a business overhaul is needed.

What is the evidence? Some experts, echoing the reasoning described, have said that Japanese firms must be doing what their press releases say they are doing — restructuring — because they have no choice. Not a few analysts on both sides of the Pacific have found evidence in Japan's employment, investment and output statistics that this process, in fact, is underway.

Many such arguments proceed on the assumption that if output is rising faster — or falling more slowly — than employment, then restructuring must be taking place. Alternative evidence is higher production in the face of declining capacity. Statistical verification of these assertions is difficult because in every country, the relationship among labor inputs, investment and output varies over the business cycle, whether restructuring is going on or not. Firms react slowly to higher demand, for example, accommodating it from inventories or by reducing slack rather than adding workers. In fact, they may continue to trim employment.

Japan appears especially prone to having labor and output indicators that move in different directions during a recovery or a downturn. Companies appear eager to retain workers, perhaps because historically short recessions have meant that redundant employees could be needed again soon or maybe because they practice lifetime employment. If so, these businesses may find demand for their product or service bottoming out before they have fully completed their adjustment to the downturn. In this phase, a reduction in employment coupled with an increase in output could be interpreted incorrectly as evidence of restructuring.

The important question is whether the relationship differs from what existed in the past under similar macroeconomic conditions. New and significant efforts at restructuring would result in a faster adjustment in employment to a downturn in output or, alternatively, in an increase in production coupled with falling employment not seen in the past.

In its latest annual survey of Japan, the Paris-based Organization for Economic Cooperation and Development briefly noted that regression analysis failed to find any evidence of change of this sort, at least through the most recent recession. However, the OECD report did not contain the regression equations.15

A less-rigorous but more intuitive way of looking at the relationship is shown in Figure 1 and Figure 2.  In both instances, which cover the 1985-87 economic downturn and the 1997-99 recession, labor and output are scaled to equal 100 at the time of peak production — the point at which the economy's problems began. During the initial period of falling output, labor inputs either continued to rise or fell more slowly than production. During the 1997-99 recession, the decline in output was much sharper. That seemed to induce quicker and deeper reductions in labor inputs than experienced during the more moderate 1985-87 slide.

Even so, the discrepancy between the cumulative change in labor inputs and output (shown by the extent to which the labor line lies above the output line) was much greater during the recent time. In that sense, the employment adjustment was slower in the 1997-99 period — exactly the opposite of the conventional wisdom.

By themselves, the data suggest that restructuring is not as widespread as it was 10 to 15 years ago. In addition, declining or flat employment in the face of rising output — the evidence put forward this year as proof of restructuring — is much more apparent in the earlier period, when production soared coming out of the recession in 1987. Perhaps comparable increases in output in 2000 will lead to the same phenomenon.

Even if corporate Japan feels constrained in slashing employment, companies have other options for restructuring. For example, certain types of jobs regarded as less productive can be cut. In this case, one analyst has identified sales and administrative expenses as particularly ripe for pruning.16 For years, even bureaucrats have complained about wasteful staff — in Japanese companies that is, not in their own ministries and agencies. And, in fact, such expenses as a share of sales for manufacturers rose from under 16 percent in FY 1990 to more than 20 percent in FY 1998, according to Ministry of Finance corporation data. The increase for nonmanufacturing firms was 17 percent to 19 percent.

Companies that restructure can be expected to take a whack at these costs. "Chainsaw Al," in particular, took special aim at them. Yet in each of the four quarters of calendar 1999, these expenses rose as a percentage of sales from the year-earlier period — in some cases, because sales had dropped.

Another restructuring option is to sell off redundant capacity, as Ford did in the 1980s and Nissan plans to do on a more limited scale in this decade. As Robert Alan Feldman of the Tokyo office of Morgan Stanley Dean Witter & Co. has emphasized repeatedly, these basically are the two choices that firms have for boosting the rate of return on assets to a level that is at least the historical standard and, ideally, internationally par for the course. Such an improvement would enable companies in Japan to compete for capital at existing exchange rates — a clear, if unstated, objective of the Big Bang financial reforms.

Whether Japanese companies are moving toward the objective of a higher return on assets under the newly adopted banner of restructuring is hard to tell. By most accounts, the economy has trillions of yen of extra capital stock.17 At first blush, right-sizing Japan's capital stock might appear to involve, as an initial step, at least some efforts to avoid adding to the surplus. Yet, even if a company has superfluous plant and equipment, it still may need to acquire more if its capacity is worn out or, as is more likely, obsolete. However, the appropriate capital depreciation rate is not obvious.

For these reasons, whether corporate Japan is trimming its excess capital stock is difficult to discern from macroeconomic data. In the October-December 1999 quarter, plant and equipment spending accounted for 14.4 percent of nominal gross domestic product. With depreciation estimated at 8 percent to 9 percent of GDP, the difference of around 6 percent of GDP is an indication that Japanese companies, even though they already have unusable capacity, are piling still more on.

But dynamic new companies must acquire assets even if the same assets are in surplus on an economywide basis. Even older companies have to buy new equipment when what they have becomes obsolete. Some experts have argued that this type of investment should be different, consisting of a higher proportion of equipment in general and computers in particular than the typical capital spending. Hence, if corporate Japan is restructuring at the same time that the capital stock is in surplus, both the share of equipment in business investment and the ratio of expenditures on IT products and services to equipment expenditures should rise.

National income accounts data from the Economic Planning Agency indicate that since the early 1970s, if not sooner, equipment orders as a percentage of capital formation have risen or fallen with overall economic conditions. However, the long-term trend is upward. In 1997, the latest year for which comparable information is available, the proportion rose above 32 percent. Interestingly, that was one of only three years since 1970 when the ratio reached this level. The other times were the much more prosperous years of 1985 and 1990.

A comparison of Ministry of Construction statistics on private building starts with EPA's series on equipment orders since 1994 shows a sharper increase in spending on equipment than on structures through 1997, the identical pattern revealed by the EPA national income data for the same period; this suggests a hike in the proportion of investment represented by equipment. Conversely, the sharper decline in equipment orders between 1997 and 1999 implies a drop in the share of equipment over this period (see Figure 3).

The bottom line is that the role of equipment in investment has not obviously increased in Japan in recent years. This conclusion casts some doubt on the proposition that the surplus capital stock has led to investment only in critically needed cutting-edge equipment as opposed to easily postponed and slow-to-obsolesce buildings and other facilities.

The story is similar regarding spending on computers and other IT infrastructure as a share of equipment investment. According to EPA data on equipment orders from the private sector, computers and related products as a percentage of the total generally have risen in recent years, as might be expected given the growing role of IT hardware in a broad range of economic activity. However, the increase has been irregular. Computer orders accounted for 23.8 percent of all such outlays in 1987 and rose to 24.1 percent in 1992 before declining to a low of 21.9 percent in 1995. The proportion increased in the 1996-98 period, but it dropped again in 1999 and in the first two months of 2000, when it stood at 24.2 percent.

The pattern clearly is cyclical as well. Computer purchases as a percentage of all investment rise when the economy does better, as it did in the late 1980s and again in 1996, but they fall during downturns, as in 1999.

The data on both equipment as a share of investment and computers as a percentage of equipment purchases provide contemporary examples of an old principle, the accelerator. A fixture of economics textbooks 30 years ago, this concept says that investment rises sharply during upturns, products used to make investment goods rise even more and the goods to make those goods rises most of all.

Since computers can be considered key to the production of investment goods, their role should expand relative to that of other products when times are very good or appear on the verge of becoming so, as they were in the 1980s and in 1996. Most likely, the fact that computer sales as a percentage of equipment orders fell in 1999 and in the first part of 2000 mainly reflected weaker economic conditions at the time. Nonetheless, the finding casts some doubt on the theory that investment demand is shifting strongly to high technology equipment because every other investment good already is in abundant supply.

At a minimum, it can be concluded that the impact is not strong enough to overwhelm the negative accelerator effect. This outcome is even worse for the theory to the extent that, as some Japanese experts have contended, the economy grew faster last year than the anemic 0.3 percent rise in real GDP indicated. In this case, the accelerator had the effect of boosting the share of computers in equipment purchases, yet the ratio fell anyway.

The data on investment in equipment vis-a-vis structures as well as the statistics on IT purchases suggest that corporate Japan is not obviously limiting itself to the types of capital spending necessary given the economy's surplus capital. Companies could be adding more to their capital stock of what they already have in superabundance. This would be the opposite of restructuring.

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Conclusion

The conclusion regarding plant and equipment outlays is consistent with that concerning jobs. Whether looked at from the perspective of overall employment adjustment, a reduction in sales and administrative expenses or investment trends, the bottom line is incontrovertible: no clear-cut evidence of widespread restructuring in the Japanese economy exists.

This assessment is tentative because many of the relevant variables are affected by the business cycle. Without the assumption that an upturn was underway in 1999, most key indicators of restructuring — such as reduced sales and administrative expenses relative to revenues and increased computer expenditures — are pro-cyclical, making negative conclusions regarding restructuring preliminary. Similarly, if a recovery gains steam in 2000 and these factors reverse, the positive finding would have to be considered just as tentative.

In short, identifying conclusive evidence of restructuring in Japan will take more time than has elapsed since it became popular in the late 1990s for companies to claim that they were pursuing this strategy. Even the corporate announcements that have been made, which may or may not lead to the implied plant closings and employment reductions, remain modest by American standards. If Japanese policymakers and industrial leaders are serious about adopting the American model of restructuring, they still have a long way to go.

Kanako Yamada provided research assistance.

The views expressed in this report are those of the author
and do not necessarily represent those of the Japan Economic Institute

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Notes
aaa

1aa See Arthur J. Alexander, "Structural Change And Economic Mobility In Japan," JEI Report No. 44A, November 20, 1998, and Arthur J. Alexander, "Trading Places — Again: Japan Confronts Corporate Restructuring," JEI Report No. 20A, May 21, 1999. Return to Text

2aa See Douglas Ostrom, "The Search For New Corporate Superstars: Japanese Firm Mobility In The 1990s," JEI Report No. 12A, March 26, 1999, especially pp. 5-8. Return to Text

3aa For an overview of the first phase of Big Bang reforms, see Jon Choy, "Japan's Financial Market Big Bang: The First Shock Waves," JEI Report No. 22A, June 12, 1998. For an update on securities industry reform, see Jon Choy, "Japan's Securities Industry: From Big Bang To E-boom," JEI Report No. 22A, June 11, 1999. Return to Text

4aa "Mitsubishi Electric Corp. Announces Midterm Corporate Strategy Target For Fiscal 2001," Mitsubishi Electric Corp. Press Release No. 0485, October 8, 1999. Available at http://www.mitsubishi.com. Return to Text

5aa See Douglas Ostrom, "The Keiretsu System: Cracking Or Crumbling?" JEI Report No. 14A, April 7, 2000, especially pp. 7 and 13-14. Return to Text

6aa David Halberstam, The Reckoning (1st paperback edition) (New York, New York: Avon Books, 1987), p. 749. Return to Text

7aa Ibid., p. 747. Return to Text

8aa Ibid., p. 732. Return to Text

9aa James P. Womack, Daniel T. Jones and Daniel Roos, The Machine that Changed the World (New York, New York: Rawson Associates, 1990), pp. 237-238. Return to Text

10aa Paul Ingassia and Joseph B. White, Comeback: The Fall and Rise of the American Automobile Industry (New York, New York: Simon & Schuster, 1994), p. 137. Return to Text

11aa Davis Dyer, Malcolm S. Salter and Alan M. Webber, Changing Alliances: The Harvard Business School Project on the Auto Industry and the American Economy (Boston, Massachusetts: Harvard Business School Press, 1987), p. 165. Return to Text

12aa Michael J. Smitka, Restructuring the Japanese Automotive Industry: Historical Perspectives. Paper presented at Washington and Southeast Japan Seminar, April 15, 2000, pp. 6-7. Return to Text

13aa Jonathan Lurie, "Downsizing" (Unpublished Senior Thesis, Princeton University, 1998). Available at http://www.geocities.com/WallStreet/Exchange/4280. Return to Text

14aa "Chainsaw Al" was the epithet given to Al Dunlop, most recently Sunbeam's CEO. Mr. Dunlop earned his nickname as the CEO of seven companies over a 15-year period by raising profits and share prices by ruthlessly eliminating workers and shedding assets. Return to Text

15aa Organization for Economic Cooperation and Development, OECD Economic Surveys: Japan 1998/1999 (Paris: 1999), p. 47. Return to Text

16aa Alexander Kinmont, "Corporate Restructuring: End of the Bear Market." Speech to Hotel Okura's Executive Luncheon Meeting, Tokyo, October 5, 1999. Excerpts reprinted in The Nikkei Weekly, November 29, 1999, p. 9. Return to Text

17aa See the discussion in OECD, op. cit., p. 230. One estimate considered credible by the OECD figures the excess capital stock beyond that resulting from the downturn in the business cycle to be at least ¥43 trillion ($390.9 billion at ¥110=$1.00), equal to more than seven months of investment at recent rates. Return to Text

The views expressed in this report are those of the author
and do not necessarily represent those of the Japan Economic Institute

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