After one full year of Abenomics – the measures introduced by Japan’s prime minister aimed at reviving the country’s sluggish economy – there is still no sign of a much-needed boost in inward FDI.
Prime minister Shinzo Abe insisted on the importance of FDI to his Abenomics programme when he said: "It is important that we step up efforts to attract foreign investment. As part of the new growth strategy, we have set an ambitious target of doubling the level of direct investment into Japan by foreign companies… I want to make Japan the most business-friendly environment in the world."
But despite an increase in 2013 over the previous year from $1.8bn to $2.3bn, FDI inflows remain chronically low and were close to zero in net terms for the second half of the year, according to provisional data from the Japan External Trade Organisation (Jetro).
Former EU trade commissioner Peter Mandelson’s cry that Japan is “the most closed investment market in the developed world” continues to resonate. There have of course been successes, such as the forays into the Japanese market by US retailer Costco and cloud computing company Salesforce.com, but these are few and far between. The World Bank still rates Japan a very difficult country in which to do business when it comes to paying taxes, starting a business, dealing with construction permits and registering property.
With large outflows and small inflows of FDI, Japan has always been an outlier among advanced countries. Its stock of inward FDI represents only about 3.5% of GDP, compared with 19% for the US or 29% for Germany, according to statistics from the Organisation for Economic Co-operation and Development (OECD). Even North Korea’s stock of inward FDI, which represents 12% of GDP, is much higher than Japan’s.
However, when measuring strictly greenfield investment, last year was a boon for Japan, with inflows nearly tripling. Most significantly, Japan’s stock of outward FDI is some five times higher than its inward FDI, whereas for other advanced countries the ratio is about two or less. While Japanese companies boost economies and productivity overseas, and create many jobs (1.4 million jobs in the US automobile industry alone, for example), Japan receives a fraction of the same benefits in return.
Greater inflows of FDI, especially into research and development, would enhance productivity through improved competitiveness, technology spillovers, innovation and market access. As OECD secretary-general Angel Gurria recently said, to revitalise the Japanese economy "the key priority is to increase productivity”.
Population in decline
With Japan's rapidly ageing, and now declining, population, improving productivity is widely seen as the only real option to grow the economy. And with Japan's productivity about 25% below the levels of the upper half of OECD countries, there is a lot of room for improvement, as there also is for Japan’s very low rates of return on investment.
There are many barriers to FDI into Japan, according to a survey by Jetro. These include high business costs, peculiarities of the Japanese market and difficulty in communicating. Foreign companies have called for cuts in Japan’s very high corporate tax rates, less stringent criteria in the company registration system and initiatives to make Japan’s highly educated workforce more internationally oriented.
The US State Department says: “Foreign investors seeking a presence in the Japanese market or to acquire a Japanese firm through corporate takeover face a number of challenges, many of which relate more to prevailing practices comprising the business environment rather than to government regulations.” Among the most notable of these are an insular and consensual business culture that is resistant to hostile M&A, a lack of independent directors, cross-shareholding networks among listed corporations, and exclusive supplier networks and alliances between business groups that can restrict competition.
China, whose investments in Japan are still modest, has great potential as an investment partner for the country. Chinese companies are now seeking to move up the global value chain in light of rising costs at home and many Japanese companies are very attractive with their high-tech and established brands. But a calming in geopolitical tensions would be necessary to exploit this mutually beneficial opportunity.
“Looking ahead, the prospects for a take-off in inward FDI do not look promising,” says Ken Lebrun, an M&A lawyer with Shearman & Sterling in Tokyo. “Japan’s demographic weakness means that it will likely remain a low-growth market. Too few assets come onto the market for M&A. In fact, Japanese companies themselves are more interested in investing overseas than at home. In this context, about 90% of my work has been outbound, rather than inbound, deals.”
Mr Lebrun has a more positive assessment of Japan’s inward FDI policies under the administration of prime minister Junichiro Koizumi from 2001 to 2006. Mr Koizumi believed in the importance of deregulation and his reforms led to a spurt of inward FDI. In contrast, the reforms actually implemented to date under Abenomics have been more modest, as Japan’s notorious vested interests are blocking change, according to Mr Lebrun.
The prospects now also seem more remote for substantial FDI liberalisation under the Trans-Pacific Partnership free-trade agreement, a key element of the structural reform ‘arrow’ of Abenomics. These trade talks seem to be struggling to achieve anything and any conclusion to negotiations would be likely watered down relative to initial ambitions – even though economists Peter Petri and Michael Plummer have estimated that a successful outcome could double Japan’s stock of inward FDI.
“It’s a great pity that Japan is not more open to FDI”, says Mr Lebrun, “as the country has lots of technology and engineering talent, as is evident in Google’s purchase of robot venture Schaft Inc. And we should not forget that Japan is still the world’s third largest economy and has some of the world’s best infrastructure.”