Beyond Structual Reform - IT, Risk and Workmanship

Fellow, RIETI

Prime Minister Junichiro Koizumi is committed to transforming the policymaking processes in several sectors of economy and administration. With no clear government vision of the post-reform economy and society, discussions have centered on immediate pains resulting from the reforms, which exacerbates concerns about the future. In the following paragraphs, I would like to discuss the meaning of the present structural reform using a historical perspective that spans one hundred years.

Risk control industry to lead 21st century frontier

In his 1992 book, Anti-Classical Political Economics, economist Tairyo Murakami analyzed the development of the global economy. According to Murakami, before the Industrial Revolution, society was based on self-sufficient production of agricultural products, handicrafts and trading of surplus products. Machinery gave people vast potential for controlling structures, natural objects and space. This potential for mechanical control was the source of values after the Industrial Revolution. During the hundred years that followed the latter half of the 18th century, light industry and transportation (ships and railroads) thrived, thanks to the utilization of internal combustion engines.

During the hundred years that followed the latter half of the 19th century, new economic values were inspired by the latest technologies: mass conversion technology and the utilization of chemical reactions and energy conversion technology based on electromagnetism were made possible by advances in natural sciences, such as physics and chemistry. The automobile, heavy and chemical industries were the leading sectors of the economy. These industries are characterized by decreasing costs or increasing returns, under which economies of scale worked effectively as larger-scale production enjoyed larger economic advantages. As literary critic Kojin Karatani pointed out, a controlled economy under totalitarianism and communism and the economic intervention of Keynesian economic policies were social and political means of maximizing the advantage of economies of scale through accelerated expansion and organization of manufacturing operations. These three social systems were therefore accepted by a large number of nations.

The latter half of the 20th century saw the advent of the information age. Information technology made substantial advances during the 1990s. The 19th century was distinguished by the expansion of mechanical power (Newtonian physics), while the 20th century was characterized by the enhancements in energy and material control (modern physics and chemistry) and the 21st century by the development of information control. What economic values will the information age bring us?

In his information theory, Claude Shannon measured information by decreases in entropy (level of uncertainty). In economic terms, the amount of information represents a reduction in risk. Specifically, risks involved in R&D investments, price movements of securities, and traffic changes in distribution serve as important information for economic activities. For the last two decades, economics has been focusing on how to control information, or risk, in such a way as to improve social welfare. Expectations are high for financial technology, which is being established as a field of economics, to provide a theoretical foundation for risk control. In short, the greatest significance of information technology rests in its ability to control, in real time, a variety of risks found in society and make these risks products of economic value.

In the emerging field of biotechnology, the inability to distribute among investors risks inherent in biotechnological research and development is considered to be the main obstacle to commercialization and technological breakthroughs in the industry. If information technology facilitates the future development of financial products that subdivide and distribute risks in an efficient manner, it would be possible for the industry to collect funds from ordinary inventors and accelerate timely high-risk investments in research and development on a larger scale, without waiting for budgetary support from the government. Consequently, expanded risk-control abilities are indispensable to the creation of new industries.

Moreover, an economy that handles risks as commodities has the potential for bringing far-reaching benefits and changes to economic life. The conceptual separation between consumption and ownership of goods and services and the radical changes in employment patterns may bring about social and political changes that would match the changes in social structure in the first half of the 20th century.

Based on these factors, the global economy of the 21st century will be led by the fusion of information technology and financial technology, which I notate "IT + FT."

Base IT, FT on workmanship

If the global economy is in a long-term development stage, what does it mean to Japan's structural reform efforts?

First, it should be noted that the reconstruction of the financial sector, including the disposal of bad loans, is indispensable to the long-term development of Japan's economy. Some experts maintain that the financial industry will not recover because there is no promising borrower to start a new industry, but this view is too static. There will be no other way for Japan to progress than to develop new risk-control approaches that encourage high-risk investments and make the financial sector the driving force behind the Japanese economy. It is not that the emergence of new industries will procure new borrowers for financial systems; instead, the enhancement of the risk-control capability of the financial industry will promote the development of other industries.

The second point of discussion concerns workmanship in the Japanese culture. According to a common view, today's highly advanced financial technology is a huge crapshoot under modern capitalism and not suited to the Japanese, who work in groups in an orderly manner. Nonetheless, we should remember that manufacturing, a sector where the Japanese are extremely well versed, was once too a world of speculators or gamblers. Once modern manufacturing methods were established, Japanese demonstrated the spirit of workmanship, from their tradition in agriculture, in the manufacturing industry. They have succeeded in meeting the needs of customers worldwide by providing exquisitely manufactured goods. The role of Japan in the global economy of the 21st century should be to exercise the same level of delicacy and refinement in the manufacture of risk products as the country demonstrated in the preceding centuries. To fulfill this role, Japan needs to catch up with the times until a production method based on IT + FT is established, maximizing the workmanship of the Japanese people. In my view, Koizumi's structural reforms are part of this effort.

July 10, 2001

July 10, 2001

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