Towards a politics of creative destruction

A review of Richard Katz's The Contest for Japan's Economic Future

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The Contest for Japan’s Economic Future

Richard Katz

Oxford University Press, 2024

Japan’s equities are having a moment. The Nikkei 225 index is at its highest levels since before the economic bubble burst. Major foreign investors are making pilgrimages to Tokyo, with itineraries including an obligatory meeting with the prime minister, who has himself pledged to make Japan an “asset management nation.” The question on everyone’s minds is whether this is another false dawn for Japan’s economy or whether this time something is truly different.

Richard Katz, an economic journalist and writer whose previous books Japan: The System That Soured and The Japanese Phoenix documented the struggles of post-bubble Japan provides an indispensable reality check about the state of Japan’s economy in The Contest for Japan’s Economic Future, challenging some of the hype that has surrounded the latest boom in Japan’s stock markets.

In his new book, Katz makes the argument that Japan still needs major economic change, as its productivity has continued to lag even as its population ages and the ratio of workers to retirees falls. Simply put, Japanese businesses need to figure out how to produce more output per worker or the country will face a decline in its standard of living. The solution, Katz argues, is creative destruction. Japan needs more firms to fail and more new firms to be born, with productive labor and capital released from the former to the latter.

Katz roundly rejects the idea that there is anything innately Japanese about the risk aversion that has characterized the economic status quo and stifled the emergence of fast-growing start-ups. Rather, he documents how Japan’s economic institutions are not immutable monoliths but rather emerged as Japan transitioned from its high-growth “miracle” to slower growth after the oil shocks of the 1970s.¹ Accordingly, through both bottom-up change – which Katz documents through many interviews with Japan’s new entrepreneurs – and policy change, Japan can enter a new, more dynamic age.

Japan’s problem, for Katz, is a kind of economic metabolic disorder. “The abandonment of creative destruction,” he writes, “is the reason Japan’s growth remains anemic.” Instead, Japan’s economy has become dominated by “elephants,” large industrial giants that have benefited from postwar institutions like keiretsu networks, cross-shareholding and stable shareholding, access to credit from main banks, and stable labor relations featuring seniority pay, lifetime employment, and complaisant enterprise unions. These firms were primed to growing through “creative accumulation” and the pursuit of economies of scale.

These giants have, however, lost global market share to newer, more nimble rivals, often precipitously so. They continue to suffer from “big company disease,” a kind of conceptual rigidity that has prevented them from adapting even as they have fallen behind. Katz argues that the cure is not corporate governance reforms – although they can be part of the solution – but competition. “Executives and managers at firms insulated from intense market competition and/or discipline from financial markets are more risk-averse, as well as less imaginative,” he writes. To grow, Japan needs reforms that encourage the creation of fast-growing “gazelles” that can create high-productivity jobs.

Perhaps the most valuable section of the book is its third section, which is a useful tour d’horizon of Japan’s start-up economy, showing both how a nascent start-up economy has emerged against the odds but also the enormous hurdles that would-be entrepreneurs continue to face. For example, the primacy of lifetime employment and seniority pay has made it extraordinarily difficult for entrepreneurs; with few prospects for finding a regular full-time job mid-career, the costs of leaving to start a business (or to join a start-up) have been high, since it would be difficult if not impossible to find another secure, well-compensated job in the event of failure. Meanwhile, draconian bankruptcy laws and the difficulty of securing capital have made it virtually impossible for younger Japanese to try their hand at entrepreneurship. He argues that Japan has no shortage of individuals who would like to be entrepreneurs if they could, but they face a unique set of obstacles. As Katz writes, “Policies and politics, not culture, will be the primary determinant of whether or not Japan takes the right road.”

Katz has done a substantial amount of work on what a policy program to encourage start-up formation might look like, and he offers several chapters worth of suggestions. These include but are not limited to:

• Support the shift away from lifetime employment – which workers have begun to do themselves – through pension portability, reducing the wage gap between regular and non-regular workers, and building a social safety net that shifts from job security to employment security via active labor market policies (ALMPs);

• Helping small- and medium-sized enterprises embrace information technology (which could also create a more vibrant market for IT professionals);

• Reform the system of carry-forward tax credits so smaller firms can benefit from R&D incentives;

• Reform public lending so that instead of playing a welfare function – propping up mom-and-pop shops – it supports fast-growing start-ups;

• Encourage private equity firms – foreign and domestic – to help SMEs facing succession and inheritance issues;

• Take promises to boost historically anemic inbound foreign direct investment more seriously.

But Katz is not just suggesting a few small policy changes. He suggests that what Japan needs is, to paraphrase Prime Minister Kishida Fumio, a new form of capitalism. He is not proposing that Japan needs to embrace Anglo-American neoliberalism, but rather points to Nordic “flexicurity” as a suitable alternative for Japan. Katz is hardly the first to be drawn to the Nordic model as a Goldilocks option, with a relentless focus on competition and competitiveness – particularly global competitiveness – for firms and employment and income security for individuals. To a certain extent, this ambition animated the policies of both the Democratic Party of Japan when it took power in 2009 and Abe Shinzō during the latter years of his second administration (“social security for all generations”).

Japanese-style flexicurity means that to encourage greater risk-taking and entrepreneurial activity, the Japanese state needs to do more to provide education and training that have traditionally been provided by firms, enabling individuals to be more mobile. It needs to provide more generous benefits to workers between jobs, which could enable them to try to start their own businesses or learn new skills that allow them to pursue higher-paying jobs in growth industries. And it needs to let uncompetitive firms fail.

While it is hard to argue with this vision for a new Japanese capitalism, it is less clear how it is achievable. Katz says it comes down to political leadership: “The main hurdle to reviving Japanese entrepreneurship is not a lack of feasible solutions; it is getting Japan’s political leadership to implement them.” He criticizes Abe, for example, for squandering the political capital he accumulated through his electoral victories and his dominance of the political process. But individual politicians may matter less than the socio-political coalitions they lead – and every LDP leader has had to grapple with an electoral coalition skewed towards economic incumbents and the over-represented countryside. In this sense, what is remarkable is not that Abe failed in far-reaching reforms than that he was willing and able to take on his own base on an issue like the Trans-Pacific Partnership and win.

To be sure, there could be change afoot. Katz notes the many ways in which Kishida has tried to encourage start-ups, at least rhetorically, with support from some LDP lawmakers and Keidanren. But it may also be too much to expect from a political system in an advanced industrial democracy. The firms that would be forced out of business have organizations that speak on their behalf, representatives who listen closely to their concerns, and employees, customers, and neighbors who may be reluctant to endorse creative destruction – even if it means Japan’s future prosperity is harmed as a result. How many votes can a start-up that does not yet exist deliver for an ambitious politician? As Katz admits, it may be more realistic to start with smaller reforms with “little budgetary or political cost” – reforms that make it easier for new firms to receive financing and attract new customers – than expect some of the bigger changes, which could still nevertheless require a concerted effort on the part of politicians to take on the Ministry of Finance and Financial Services Agency.

Japan’s political system as currently constituted is not designed to unleash creative destruction. Over time, the LDP has shed supporters and fueled the rise of the unaffiliated voter, but it has still not abandoned its pursuit of being a big tent party for all Japanese, with all of the compromises that entails for its policy program.² The Constitutional Democratic Party, for its part, has proposed a mix of broad policies generally oriented towards expanding social security and redistribution with some gestures towards encouraging new business activity, but the whole may be less than the sum of its parts. Not unlike the LDP, the CDP is trying to appeal to a range of constituencies with incompatible interests, starting with organized labor, which is divided between protecting the prerogatives of its core workers and protecting all workers, including the non-unionized, non-regular workers who compete with unionized workers.

Ishin no Kai’s policy program may be closer to what Katz has outlined than any other party – and the party conceives itself as capable of delivering reforms that the LDP has been unable to due to its relationships with vested interests. But Ishin no Kai is unlikely ever to lead a national government of its own. Perhaps an LDP forced into coalition with Ishin no Kai after a general election would be pressured to be more ambitious in its economic reforms.

Nevertheless, greater political competition could, as Katz suggests, help. When the LDP was in danger of losing power in the early 2000s, it created space for Koizumi’s political and economic experiment, and when it was seeking to regain power in 2012, it turned to Abe for a second time, who at the very least was promising to try something new in economic policy. Perhaps the reemergence of political competition – and growing fears within the LDP that the party might lose power again – will create room for another LDP experiment. But more durable political competition – and more sweeping changes to Japanese capitalism – may require the formation of more robust economic and social forces in favor of creative destruction. It is not inconceivable that small changes that create more space for start-ups could snowball into broader social, political, and economic changes.

Institutional change in an advanced industrial democracy is extraordinarily hard, and it is unlikely to follow a linear path. But Katz has done a service in showing how Japan has already begun to change, what its political and business leaders could do to promote additional reforms, and what Japan has to gain from embracing a new model of capitalism.

1. Katz does not cite work historical institutionalist work in political economy, but his book fits comfortably in this intellectual tradition. Institutionalists generally define institutions as formal and informal rules and norms that structure political and economic behavior. See Steinmo 2008 on historical institutionalism.

2. As Aurelia George Mulgan documented, Koizumi Junichirō tried – and failed – to reorient the LDP towards urban floating voters. As she writes, “Koizumi was prepared to trade support from the LDP's traditional support networks for that from a potentially much larger constituency of unaffiliated urban voters, salaried workers and working mothers.” See Japan’s Failed Revolution: Koizumi and the Politics of Economic Reform.