Commentary / Japan

Japan-U.S. economic dialogue: risk and strategy

by Yoichi Funabashi

During my time as a newspaper correspondent in Washington in the 1980s, I filed reports day in day out on the economic frictions between Japan and the United States. The two countries were engaged in fierce bargaining over a wide range of products: home electronics, automobiles, machine tools, precision machinery, supercomputers, tobacco, beef, oranges and rice. During this period, there was the 1985 Plaza Accord. In the 18 months between its conclusion and the 1987 Louvre Accord, the dollar’s exchange rate to the yen and the deutschmark dropped by as much as 50 percent.

But even that could not reduce the U.S. trade deficit with Japan. The negotiations leading up to the Japan-U.S. Semiconductor Agreement began in 1985. This agreement (amended in 1991) promised to ultimately allocate 20 percent of Japan’s chip market to U.S.-made products. Some of the Japanese businesses forced to purchase U.S. products simply dumped them in Tokyo Bay, demonstrating the illogical nature of trade agreements focused on sector-specific numerical targets.

The Structural Impediments Initiative (SII) talks between the two governments began in 1989. During the SII talks, the U.S. side made over 200 specific demands pertaining to a range of issues including Japan’s public investments, the keiretsu system, and rules on distribution and land use. But it was not these talks but rather the subsequent globalization that finally broke down the structural barriers to the Japanese market.

The bilateral economic discussions launched in April would promote “dialogue” on three central issues: economic and fiscal policy, economic cooperation in fields such as infrastructure investment and energy, and rules governing trade and investment. The biggest focal point will be trade. In order to reduce its trade deficit with Japan, the U.S. government would like to place bilateral trade negotiations at the top of the agenda. Japan, on the other hand, is primarily concerned with establishing rules governing trade and investment in Asia.

That the current relationship between Japan and the U.S. increasingly resembles that of 30 years ago elicits a certain sense of futility. Trade deficits arise when a country’s consumption exceeds its income, or when investments outstrip savings. When manufacturers source components from all over the world, any attempt to set numerical targets in bilateral trade is almost meaningless.

What is more, today’s geopolitical challenges are vastly different from those of 30 years ago. In the early 1980s, imports from Japan accounted for 50 percent of the U.S. trade deficit. Today, China is the source of nearly 50 percent of the U.S. deficit. China’s state-owned enterprises have sharply increased their overseas infrastructure investments, building a China-style economic integration centering on Asia. China’s industrial policies subsidize the overseas expansion of its state-owned enterprises and promote new monopolies in strategic sectors. Meanwhile, China’s domestic market remains insular and its cyberspace is isolated from the outside world.

By all rights, the question of how to respond to these challenges posed by China should be an important theme in the economic dialogue between Japan and the U.S. From this perspective, a number of major strategic risks remain hidden in the dialogue between the two countries:

Vital and long-term diplomatic and security interests may fall victim to short-term, opportunistic economic and trade deals. Prime Minister Shinzo Abe and U.S. President Donald Trump confirmed that the bilateral security alliance will be upheld under the new U.S. administration. However, disputes over trade or economic issues could still threaten stability of the alliance.

The U.S. could use the Japanese government’s morbid fear of a strong yen in order to compel Tokyo to make major concessions on economic and trade issues. The hidden agenda behind the ongoing dialogue is to keep Trump’s enthusiasm for a weaker dollar in check, but the U.S. government may still turn to policies aimed at weakening the dollar.

As a leverage to make a “big deal” with China on economy and trade, the U.S. may try to force Japan to make concessions with regard to the economy, trade or even its strategic interests. For example, the Japan-U.S. alliance might be subordinated to a strategic compromise between the U.S. and China on the subject of North Korea — through which a new “relationship between the major powers” could emerge.

There is a risk that the current dialogue may actually prove counterproductive by encouraging American bilateralism, thereby hampering the progress of Asia-Pacific regional integration and trade liberalization.

Diverting resources and interest to a new trade friction-induced war of attrition, similar to that of the 1980s, could delay technological innovations for the future and corporate strategies based on them. The auto industry offers one such example. While making a fuss over local production, local content regulations and border adjustment taxes, revolutionary changes in mobility can take place, as evidenced by the advent of Uber, Tesla, self-driving vehicle technologies, and artificial intelligence, possibly leaving Japan behind as the U.S. and China take the lead in such changes.

If this is the case, then what strategy should Japan adopt?

First, maintain and strengthen our commitment to an open and liberal international order. For that purpose, reform the World Trade Organization. In the near future, even the U.S. will come to find it difficult to restrain an all-too-powerful China. If the U.S. ignores the WTO, an even more powerful China is certain to ignore the WTO as well. The WTO must overhaul its guidelines concerning subsidies, industrial policy and cyberspace. Moreover, both Japan and the U.S. must learn to make better use of the WTO.

Next, we can advance the regional integration and liberalization of trade and investment in the Asia-Pacific region by spreading the standards agreed on in the Trans-Pacific Partnership deal surrounding norms and rules. Japan must assist with the regional integration of the Association of Southeast Asian Nations members and the construction of a regional architecture that includes India and adheres to the principles of an “open and liberal international order.”

Finally, Japan can use the momentum of the current economic dialogue with the U.S. as a form of “gaiatsu” (foreign pressure) for promoting domestic structural reforms — the “third arrow” of Abenomics. After all, we should not forget that utilizing gaiatsu to achieve reform and liberalization has long been a Japanese specialty.

Yoichi Funabashi is chairman of the Rebuild Japan Initiative Foundation and former editor-in-chief of the Asahi Shimbun. This is a translation of his column in the monthly Bungei Shunju.