(UNTITLED)

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP86T01017R000606240001-2
• Release Decision: RIPPUB
• Original Classification: S
• Document Page Count: 13
• Document Creation Date: January 12, 2017
• Document Release Date: April 21, 2011
• Sequence Number: 1
• Publication Date: July 17, 1986
• Content Type: MEMO

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--T
DOC NO EA M ' oo93
0 D&C *0
P&PD
Central Intelligence Agency
DIRECTORATE OF INTELLIGENCE
17 July 1986
Japan's Reliance on "Private-Sector Vitality:"
Helping or Hindering Economic Growth?
Summary
conservative philosophy underlying the concept.
At the US-Japan Dialogue on Economic Adjustment next week,
Japanese officials are almost certain to argue that Tokyo's program to
"promote private-sector vitality" will soon expand domestic demand, boost
imports, and ease the bilateral trade imbalance. Prime Minister Nakasone
has put his support behind the idea of relying on business efforts to
energize the economy and apparently views the ruling party's recent
landslide election victory as evidence of public backing for the
The phrase "private-sector vitality" has a variety of often
contradictory meanings even in Japan, and we are not optimistic that the
program it represents will be positive for the United States. To the extent
that the concept represents a rationale for continued fiscal austerity, a
common interpretation, it provides philosophical support for policies that
restrain Japanese growth and imports. The more specific initiatives
covered by the notion--for example, the reliance on the private sector to
This memorandum was prepared b Office of East Asian Analysis.
Information available as of 17 July 1986 was used in its preparation. Comments and
queries are welcome and may be directed to the Chief, Japan Branch, Northeast Asia
Division, OEA,
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fund and manage large infrastructure projects such as the long-planned
Tokyo Bay Bridge--probably will not come to pass without a substantial
infusion of government funds, thus having little impact on economic
growth and imports. Moreover, the "privatization" of government
programs under a "private-sector vitality" heading could enable Tokyo to
argue--as it has in freezing out bidding by foreign construction firms on
the new Kansai international airport project--that the GATT code on
government procurement requiring open bidding does not apply to such
private-sector deals. F_~
Tokyo's success at slowing the growth of Japan's public sector stems largely
from the recommendations of the powerful Ad Hoc Council on Administrative Reform.,
Established in 1981, this blue ribbon panel was composed of influential business leaders,
academics, and ministry officials who proposed policies for Japan in the 1990s that
would correct what they saw as severe Japanese economic problems. These include:
? The decline in the rate of investment and Japan's international competitiveness
because of the 1970's oil price hikes and the ensuing wage and price inflation.
? The sharp increase in Tokyo's budget deficit and the national debt in the late
1970s, as a result of increased social spending and Tokyo's reluctant attempt to
spur global economic growth. The council argued that continued growth of the
national debt would eventually bring tax hikes, reduced business profits, slowed
investment, and degradation in economic vitality.
? The rapidly aging population--Japan will have the highest proportion of over
60-year-olds among major industrial countries by 2000--that threatens to bust
the budget by driving up Tokyo's pension and health care costs.
In addition to pruning the public sector, the principal remedy suggested by the
Administrative Reform Council was to "enhance private-sector vitality." To this end, the
Council recommended fostering private investment and research and development by:
The Council also suggested other wide-ranging changes in the size, organization, and
management of the government. F-1
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? Reducing or eliminating a variety of regulations that discouraged or prevented
business investment. The privatization of Nippon Telephone and Telegraph and
the Japan National Railways fall in this category.
? Eliminating the deficit in current government expenditures by 1991 to slow the
growth of the national debt. Because of strong opposition to tax
increases--especially among the business community--this recommendation
translated into cuts in Tokyo's operating budget, beginning in 1982. The phrase
"fiscal reconstruction without tax increases" has been reflected in the
government's subsequent budget guidelines.
Although the Council's recommendations largely reflected the views of big
business, they also appealed to Japanese politicians and officials who foresaw a growing
government debt falling due at the same time as Japan's rapidly aging population
demanded increased pension and health care expenditures. Nakasone also was an
advocate of administrative reform even before becoming Prime Minister--he headed the
predecessor of the Management and Coordination Agency, to which the Council
reported--and some commission members came from his brain trust.
The fact that Tokyo has proceeded to implement most of the Council's reform
proposals has surprised many in Japan. The now yearly ritual of cutting 10 percent
from the ministries' previous annual budget (except for defense and foreign aid) has
sliced the budget deficit from 4.5 percent of GNP in 1980 to about 1.5 percent last year
(see figures). In our view, this progress has depended on the backing of "private-sector
vitality" by powerful Japanese interest groups, such as Keidanren--the leading business
federation--and important ministries. The Finance Ministry, for example, has used the
concept effectively to counter proposed spending increases as well as to resist foreign
pressure for Japan to ease its tight economic policies. For their part, business leaders
have used the idea to argue against increased taxes (see table 1).
Boosting Public Works?
Probably the most concrete manifestation of the vitality notion, outside of its
contention that a leaner.government is better, is Tokyo's plan for shifting the burden of
developing Japan's infrastructure to the private sector. The proposed incentives for
private-sector participation in public works projects--such as the long-planned Tokyo
Bay and Akashi Straits Bridges--range from tax breaks and disguised subsidies to
government loan guarantees. The Diet this spring approved exemptions from real estate
and municipal taxes for firms participating in several small harbor projects, but has not
yet addressed the financial requirements of the major public works. Although the details
of "using private-sector vitality to promote public works" are still fluid--all projects
apparently are decided on a case-by-case basis--Tokyo has included the concept in
recent trade and economic policy packages. It was also cited in last April's Maekawa
Commission report on restructuring as a principal means of boosting Japan's economic
growth and thus imports. The idea of a larger private-sector role in public works has
struck a responsive chord in Japan:
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? Both politicians and the influential construction industry appear to find the
concept appealing because it promises large-scale public works in a time of
fiscal austerity. Nakasone has occasionally emphasized the pork barrel nature of
such projects.
? It allows Tokyo--at least on paper--to maintain a tight-fisted approach to the
budget while describing to its trading partners the menu of infrastructure
development planned for the remainder of the decade.
Recently Tokyo has included the joint public-private sector management of major
infrastructure projects under the "private-sector vitality" heading as well. The new
Kansai international airport projec
is a case in point. The semiprivate company created to oversee the
construction has received capital contributions from the central and local governments
as well as private businesses. The government also has granted tax concessions and
promised subsidized loans.
Whatever the net economic effects of a mixed public-private sector approach to
long-term capital development projects, Tokyo has taken advantage of the unique
arrangement to protect Japanese business from outside competition. Japanese officials
claim that, because the airport is not a government project, the GATT provisions on
government procurement requiring open bidding for major contracts do not apply. The
Transportation Ministry and the Japanese construction industry are pushing for similar
arrangements for other large projects, such as the Tokyo Bay Bridge, the largest
construction project now planned through the 1990s.
Other variations on the "private-sector vitality" theme--with minor implications
for the long-run competitiveness of Japan's industry--appear to be in the offing. The
newest interpretation, advanced by MITI, focuses on government efforts to foster basic
research in emerging technologies such as informatics, and is part of MITI's goal of
weaning the economy away from basic industries. Japanese firms have traditionally
been more adept at commercial application of existing technologies than in attaining
breakthroughs leading to new technologies or product categories. MITI hopes to close
this gap in basic research by assembling researchers in key fields and tapping
private-sector funds for research facilities. Government funds to construct facilities for
cooperative research are also intended to enhance "private-sector vitality," but are
unlikely to be forthcoming in quantities large enough to alter Japan's basic research
capability.
"Private-Sector Vitality" and Restructuring the Economy
Nakasone's emphasis on his pledge to implement the recommendations of the
Maekawa Commission, which produced its widely advertised report on steps to
restructure Japan's economy away from export-led growth last April, appear to present
the Prime Minister with several problems. Some of the suggestions of the Maekawa
panel, such as reducing regulations that constrain housing construction, meet the
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criteria of enhancing economic vitality. Others, such as proposed reforms to discourage
saving and reduce the workweek, obviously raise problems for many Japanese who
regard them as reducing the ability of both the government and the private sector to
respond to the challenges of the 1990s. In our view, Tokyo is certain to resolve this by
choosing from the structural adjustment agenda items that coincide with plans to
promote" private-sector vitality" (see table 2). Such measures will probably include a
liberalization of coal imports, continued financial deregulation, and restructuring of
increasingly uncompetitive industries such as textiles and steel. They are unlikely to
include substantial cuts in income tax rates--unless accompanied by new revenue
sources--or elimination any-time soon of tax-free savings accounts.
Implications for Japanese Economic Growth
Tokyo's successful paring of the public sector--through both spending cuts and
privatization--has, in our view, reinforced the private-sector's capacity to adjust quickly
to economic change and helped prepare Japan to respond to the growth areas of the
1990s. The widely held desire to avoid "the advanced country disease" of escalating
welfare spending and taxes will probably keep Japan on this path. Thus, barring an
economic downturn far worse than we--or the Japanese--expect, we do not foresee
Tokyo abandoning fiscal austerity in the next few years. The final report of the
Administrative Reform Council, issued last month, calls for continued budget restraint,
although it allows for fiscal "flexibility" in economic emergencies. The government, for
example, is likely to favor a modest supplemental budget--on the order of $15 billion
dollars--this fall.
Nakasone, who quickly endorsed the final report, apparently also interprets the
landslide election victory as widespread support for his economic policies. Since the
election, he has called for another round of budget tightening in fiscal 1987, which
begins on 1 April. Work by the OECD, as well as our own analysis, suggests that
Japan's budget policy continues to hold growth below its potential and thus restrains
imports.
We also are pessimistic about the prospects for a substantial increase in
infrastructure development resulting from reliance on "private-sector vitality." An
assessment by the US Embassy in Tokyo suggests that the projects under consideration
cannot be completed without substantial government contributions--either directly or as
tax concessions. We agree with this view. Unless private firms can earn substantial
profits--by setting high bridge tolls, for example--or have their costs reduced by
government subsidies, they are unlikely to embark on such projects. The willingness of
the government to commit substantial public resources to private projects, therefore,
remains central to any upbeat expectations about their economic effect, as well as the
main sticking point for Nakasone.
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I I
Table 1
"Private- Sector Vitality" and Economic Policy in Japan, 1983-86: A Sampler
Date Policy/Event Comment
1983 Nakasone speech on administrative The Prime Minister, who began talking about private-sector vitality from the time he took
reform. office in 1982, contended that if the government limited its role to supplementing the vitality
Formulation of Japan's 10th
postwar "economic plan."
Publication of Report of Nakasone's
Special Advisory Commission on
Economic Policy called "Economic
Policy and Fostering Private-Sector
Vitality."
of the private sector and to reducing the regulations that block the creative power of
individuals and enterprises, the unlimited potential latent in the Japanese economy would
automatically bloom.
Drawn up by high level Economic Council to set economic objectives for 1983-90 but rejects
detailed forecasts as inconsistent with market economy. Report advocated "harnessing the 25X1
vitality of the private sector" but provided little in the way of specifics.
Report, which set the economic agenda for Nakasone's second term, is responsible
for popularizing the phrase "private-sector vitality." Its recommendations
for using private funds to stimulate the economy and to pay for major infrastructure projects
surfaced in almost all subsequent government economic packages as well as reports of other
study groups on issues ranging from trade policy to the shape of the economy in the 21st
century.
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\pril 1985 Market-opening package Commission headed by former Foreign Minister Okita noted the advantages of reducing the burden
on the public sector: "Japan is full of economic vitality, as it is less rigid in its price
structure and flexible in its labor market in addition to having a high savings rate, high
investment ratio, and advanced technology. Maximizing this vitality... will contribute to the
development of the world economy." Report also called for using Japan's economic vitality to
aid LDCs by economic and technological cooperation.
July 1985 Interim Report of Admininstrative Reform Called for more deregulation by local and central government in the finance, transport, energy,
Council and urban redevelopment sectors. Deregulation package based on these recommendations passed
Diet in October 1985. Report called for "harnessing the vitality of the private sector"
through deregulation.
Summer 1985 MITI proposes new center to support Center apparently intended to foster cooperative R&D efforts by private firms in high-
private-sector vitality. technology areas. A $27 million budget allocated for fiscal 1986.
Jctober 1985 Pump-priming package Included in list of measures to expand domestic demand: introducing private-sector vitality
into public works. The intention was to create semiprivate entities that would function more
or less the way independent public works authorities function in the United States. The
prototype for this concept is the new Kansas airport.
February 1986 Government introduces Private- Core of policy adopted in spring of 1986 to expand domestic demand. The bill targets
Sector Vitalization Bill in Diet six types of facilities for private-sector participation: research and development of
industrial technology, telecommunications, news media center, cooperative use of facilities for
telecommunications research, facilities for international exchanges such as trade fairs, and
facilities to improve harbor use, such as passenger terminals. Participation will be
encouraged by tax credits and government guarantees for funds borrowed by private firms for
projects.
April 1986 Maekawa Report Recommendations to promote housing and urban development focused on "mobilization of private-
sector vitality" and deregulation. Called for retaining basic goal of fiscal austerity to
enhance "economic vitality."
May 1986 Bank of Japan Special Report Report concluded that deregulation and encouragement of private-sector investment,
on Impact of Deregulation including private capital for Kansas airport, will boost GNP by 1.1 percent over the next year
or two. Supports well-known Bank of Japan stance that economic stimulus is not needed because
the private sector will soon recover from deflationary impact of strong yen.
July 1986 Nakasone's Postelection Press Nakasone asked MITI Minister Watanabe to work out by fall "bold" measures to stimulate
Conference domestic demand by capitalizing on the resources of the private sector as well as "some"
increase in government spending.
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Private-Sector Vitality and Structural Adjustment:
Probable Japanese Positions on Key Issues*
Deregulation
Coal imports
Probable Japanese Response
Support in principle; will continue with JNR and
NTT privatization but regulations governing the
distribution system will be defended.
Pressure from users of high-priced
domestic coal plus high cost of subsidies
leading Tokyo to slowly phase out protection.
Financial liberalization Will continue with items agreed to in yen/dollar
talks to have an internationally
competitive financial sector, but Tokyo does not
intend to liberalize its financial activities as
much as the United States has.
Direct investment Promoting outward investment to ease
trade friction and encourage industrial
restructuring.
Industrial Restructuring Long-term plan to reduce size of uncompetitive
industries such as textiles, steel, shipbuilding,
should eventually increase imports
although not necessarily from the US. MITI
using strong yen to help with politically
difficult task of reducing the uncompetitive
small-business sector to free resources for
more productive uses.
Housing Construction Favor incentives in principle and may offer
improved mortgage terms; key is availability of
land restricted by zoning provisions and
tax policy.
*Infrastructure Development
Modest increase likely
in public works budget next year, but large scale
projects will be promoted through private-
sector vitality--that is, few new ones likely.
*Represents our best judgment of Japanese consensus after assessing positions of
business community, key ministries, and political leaders. Starred items
represent issues on which private sector vitality concerns run counter to
Maekawa Commission proposals.
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*Budget austerity Modest supplemental budget likely this fall,
but GNP growth rate for FY 1986 probably will
fall short of Tokyo's 4% forecast. Finance
Ministry planning more spending cuts in FY 1987.
*Labor market changes Although publicly supporting idea of shorter
workweek, Tokyo will resist measures--such as
conversion of bonuses to salary payments--that
reduce flexibility, which it believes aided
in Japan's quick recovery from the last oil
price hike.
*Tax-free savings Nakasone promised during election campaign
not to touch tax exemption despite Maekawa
recommendation.
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Japan: Public Sector Trends
The Budget Deficit Shrinks...
.~
Budget Deficit as United States
Receipts as
Percent of GNP
Y _T _J-
1ieo 1ie1 Wk Sie3 twit ties tier
and Government Receipts Slow**
WO fim Wk tie3 tie4 ties flea'
01986 data projected
**Receipts are principally taxes and social insurance contributions.
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Japan: Private Sector Trends
Decline in Public Investment...
Fixed Investment
as % of GNP Private sector
Private Consumption
as . of GNP
tL r r i
1980 1981 9982 1983 1984 1965
not offset by rise in Consumption
-4
30+-- -'
1980 1961 1982 1983 1984 1985
Private consumption
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Title: Japan's Reliance on Private Sector Vitality:
Helping or Hindering Economic Growth?
1 - Joseph Massey, USTR
1 - Bob Park, Intelligence Liaison, USTR
1 - Donald Gregg, Office of the Vice President
1 - Thomas Hubbard, Department of State
1 - William Brooks, Department of State
1 - Chuck Kartman, Department of State
1 - John Malott, Department of State
1 - Rea Brazeal, Department of State
1 - Nicholas Riegg, Department of State
1 - Dan Morris, INR/EAP/Japan
1 - James Kelley, Staff Member NSC
1 - Cdr. (Ret.) Jame Auer, DOD/ISA/EAP
1 - DIA/DB-2D
1 - Defense Intelligence Agency
1 - Defense Intelligency Agency
1 - Stephen Danzansky, National Security Council
1 - Louis Pugliariesi, National Security Council
1 - Robert Adam, Federal Maritime Commission
1 - Byron Jackson, Department of Commerce
1 - Maureen Smith, Department of Commerce
1 - Doug Mulholland, Department of the Treasury
1 - Richard Woodward, Department of Treasury
1 - National Security Agency
Central Intelligence Agency
1 - Director, DCI/DDCI Executive Staff (7E12)
1 - NIO/EA, 7E-62
1 - NIO/Economics
1 - C/PPSDDO (DO1)
1 - C/EA , 5E-18
1 - OGI/IIC/PI
1 - OEA/NEA/Korea Branch
1 - OEA/NEA/STI Branch
1 - OEA/NEA Division
1 - OEA/China Division
1 - OEA/SEA Division
1 - D/OEA, 4F-18
1 - C/Research/OEA
1 - FBIS Analysis Group
1 - DDI, 7E-44
1 - Senior Review Panel, 5G-00
1 - PDB Staff, 7F-30
1 - C/PES, 7F-24
1 - CPAS/ILS, 7G-50
5 - CPAS/IMC/CB, 7G-07
1 - Branch
1 - C/PES, 7F-24
1 - NIC/AG, 7E-47
1 - DDO/EA Division
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1 - DDO/EALI 5C-45
- Aut or
1 - Chrono
OEA/E,
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