The ups and downs of share prices in markets around the world are often linked to each other.
At the beginning of this year, the confrontation between Iran and the United States pushed down the stock markets in many countries. The signing of the first phase of a U.S.-China trade agreement led to the rise in share prices in a number of markets. Share prices in markets across the globe will likely go up or down in union in response to such news.
However, long-term trends in share prices differ much from country to country. Share prices in countries like China — whose economy as a whole continues to grow rapidly — aside, big differences are observed in stock market movements among advanced industrialized nations, where the rates of economic growth differ little from each other. During the five years to the end of 2019, the Euro Stoxx index in Europe rose 19 percent, the Nikkei average on the Tokyo Stock Exchange increased 35 percent and the Dow Jones Industrial Average on the New York market surged 60 percent. Economists have given various theories as to why the U.S. is experiencing a particularly rapid climb in stock prices.
A look at the performance of individual firms makes the U.S. strength clear. U.S.-based platformers like Google and Amazon, which have overwhelming presence in their business, dominate the top positions in the world’s corporate value ranking. The presence of these companies has energized the whole U.S. stock market.
At the same time, as compared with Japan’s situation, the U.S. business sector has a major characteristic that is believed to contribute to boosting the corporate value of American firms. It is the enormous size of their intangible assets.
The importance of intangible assets to economic activities has long been discussed. Today, this importance is being recognized once again as we enter the age of grand innovations called the Fourth Industrial Revolution. A familiar example is the stock of knowledge produced through investments in research and development. Japan has gone through an easy-to-understand experience of this matter.
The standard for measurement of gross domestic product is reviewed once every five years. In a 2016 revision, treatment of R&D investment was significantly changed. Before then, such investment was not directly reflected in GDP statistics since it was regarded as intermediate input. But after the revision, it came to be counted as final expenditure just like capital investments. As a consequence, the level of Japan’s nominal GDP went up by as much as 3.5 percent. The nation’s GDP growth also increased by 0.3 percentage points. This experience points to the need to grasp the concept of investments more broadly as we go through the Fourth Industrial Revolution.
Recent research also sheds light on new problems related to intangible assets. Economist Carol Corrado and other experts on this field classify intangible assets into three categories — computerized information such as software and databases; innovative property such as R&D and copyrights; and economic competencies such as human resources and spending on organizational reforms.
Investments in intangible assets in Japan almost doubled from 1985 to 2000, but growth since has been nearly flat. Its ratio to GDP in Japan is 9 percent — well below the 15 percent in the U.S. This gap is one reason behind the strong performance of U.S. share prices.
While Japan has paid sufficient attention to assets related to information-related innovations and innovative assets, it has not invested much in human capital or organizational reforms that affect economic competencies, the research shows.
For example, Japan’s ratio of R&D investment to GDP is about 3 percent, putting the nation among the highest in the world. But spending by Japanese companies — which rely heavily on on-the-job training for their employees — on the development of workers’ ability to improve the quality of human capital is nearly flat, and the gap with their U.S. counterparts, whose such spending keeps growing at 2 percent, is widening.
As a consequence, Japan puts only a quarter of its investments on intangible assets into efforts to improve its economic competencies. Even if Japanese firms acquire new technologies through increased information technology investments, those assets will not bear fruit unless the firms have the organizational structure or human capital to make use of them.
One of the problems that arise in connection with investments in intangible assets is the difficulty in correctly assessing their economic value. Banks will adequately assess the value of tangible fixed assets as collateral for lending, but the process will not be so easy for intangible assets. That makes it more important for businesses to turn to equity investments that carry risks, instead of indirect financing such as bank loans. The U.S. with its flexible financial investment markets has a big advantage in this regard.
Another problem is that big companies account for an overwhelming portion of such investments in intangible assets, while the weight of small and medium-size firms remains extremely small. Due to the difficulty in assessing the value of intangible assets, the availability of internal funds matters a lot in making such investments, which gives larger corporations an advantage.
This problem is likely related to the low productivity of the service sector in Japan, which has large numbers of small and medium-size businesses.
A key challenge for the economy going forward is deciding how to invigorate Japanese firms’ investments in intangible assets and how to grasp the importance of such assets and get them reflected in GDP and other statistics.
Heizo Takenaka, a professor emeritus at Keio University, served as economic and fiscal policy minister in the Cabinet of Prime Minister Junichiro Koizumi from 2001 to 2005. He is a member of the government’s Industrial Competitiveness Council.
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