Japanese corporations, by and large, chalked up their biggest profit gains ever in the financial year ended March 31, breaking previous records for the third straight year. But numbers can be misleading. Earnings statistics indicate economic movements and trends but do not necessarily tell what these changes mean. So a closer look at profit performance is in order.
The surge in big-business incomes suggests an economic recovery supported largely by exports to major markets such as China. In other words, weakness in domestic demand continues. This situation cannot help but raise questions about the makeup of the Japanese economy and the nature of the government’s structural-reform policy.
One thing notable about fiscal 2004 earnings is that profits increased much more than sales. This shows that falling prices for materials have contributed significantly to cost reduction. In fact, an overwhelming number of large companies have registered double-digit profit increases from a year earlier. By contrast, two-digit sales increases have been recorded by a relatively small number, such as petroleum, machinery and steel companies benefiting from strong Chinese demand for raw materials as well as from higher oil prices.
Thus many companies have managed to deal successfully with deflation by securing profits even as sales stagnate. A general pickup in prices — mild inflation — seems unlikely for the time being. As growing ties to China’s lower-wage economy applies downward pressure on prices here, employers are more likely than not to continue cost-cutting efforts, including wage restraints and layoffs.
Such restructuring may be part of the reason that labor’s share of corporate income keeps shrinking. Unemployment among young people remains disturbingly high, while the number of young part-time workers, known as “neets” (not in education, employment or training), continues to rise. Record earnings appear to reflect the severity of the job market. Also conspicuous are sectoral disparities in profit performance.
Generally, manufacturers, materials producers and wholesalers have done well. By contrast, incomes generally have remained flat in sectors such as real estate and services. The once-booming communications sector appears to have paused.
The polarized profit picture reflects the presence of deep-seated structural flaws in the economy. The uniform growth pattern of the past, which was dominated by manufacturing, is now a pipe dream.
Today the manufacturing industry’s share of Japan’s gross domestic product is about a half of that of the services industry, and the number of workers employed in the manufacturing industry is less than one-fourth of the number employed in the services industry.
This means that stable, long-term growth is impossible to achieve without productivity gains in the nonmanufacturing sector. But the structural problem of oversupply, as illustrated by the number of vacant or under-utilized shops and offices, is blocking improvement in productivity. This problem may be even more serious than in the United States and Europe.
The dramatic recovery in big-business earnings also conceals disparities between large and small companies. Surveys show that confidence remains low among small and midsize businesses and that a growing number of them feel the economy is slipping into recession. Wage increases are limited mostly to employees of large corporations. The question is how to reduce this widening gap in performance and income.
Another question is how to tap domestic demand and create new services. The number of business startups has dropped markedly since the collapse of the information-technology bubble and the introduction of the nursing-care system for the elderly. The challenge for the government is to refocus its structural-reform policy on areas of potential demand, such as environmental technology and urban development. Tourism promotion, a government priority, is also a promising area.
The government, noting that GDP expanded at an annual rate of over 5 percent in the first quarter of 2005, appears optimistic that the economy is about to enter another expansionary phase. Yet the possibility of a new recession cannot be ruled out in view of, among other things, China’s export drive, which is cutting into Japanese exports.
Now is the time to tackle structural reform in real earnest, with an eye toward the long-term future of the economy. This is all the more important because fiscal and monetary policy freedom is severely limited. The task for the administration of Prime Minister Junichiro Koizumi, a staunch advocate of structural reform, is to draw up a new strategy from this perspective.
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