RIETI World KLEMS Symposium

Growth Strategy after the World Financial Crisis (Summary)


  • Time and Date: 13:30-17:30, Tuesday, May 20, 2014 (Registration desk opens at 13:00)
  • Venue: JP Tower Hall & Conference (Address: 4th Fl, JP Tower KITTE, 2-7-2 Marunouchi, Chiyoda-ku, Tokyo, Japan) http://jptower-kitte.jp/en/


Opening Remarks

NAKAJIMA Atsushi (Chairman, RIETI):
We are delighted to be hosting the RIETI World KLEMS Symposium: "Growth Strategy after the World Financial Crisis." The World KLEMS is a global undertaking to build an international database to compare productivity internationally. Productivity is a key source of economic growth, and, particularly for the economy of Japan, productivity improvement is a crucial economic policy issue. In this symposium, discussions on the theme of a growth strategy after the world financial crisis will be made from a broad perspective. Numerous scholars and academics in the field of economics from both within Japan and abroad will give presentations and discuss this theme.

Keynote Speech 1: "The World KLEMS Initiative"

Dale W. JORGENSON (Samuel W. Morris University Professor, Harvard University):
The World KLEMS Conference is a worldwide undertaking that was established in 2010. The idea of the initiative is to analyze productivity by comparing inputs of capital, labor, energy, materials, and services, and how they interact with the outputs of all of the commodities that constitute a modern economy to produce economic growth.

The Third World KLEMS Conference was organized around the idea of growth and stagnation. In exiting the financial crisis, the countries of the world are challenged by the slow pace of recovery. Currently, there is a very active debate taking place between proponents of the view that the world economy is fated for another long stagnation period, and proponents who feel that we will see a period of economic growth. Is the world economy fated for stagnation? Will we have slower growth? Or will the world economy accelerate as the focus shifts away from advanced countries toward emerging countries?

Today, we will turn to the practical issues of how economic policy should be focused in the aftermath of the financial crisis. This is particularly relevant in Japan, where we await the "third arrow" of Abenomics which will be Prime Minister Shinzo Abe's growth strategy. Examples of growth strategies elsewhere in the world include China 2030 and Europe 2020. The United States is unique in resisting the idea of a growth strategy, however, there is substantial relevant discussion to economic growth.

Growth strategy is something that has to be formulated at a fairly abstract level. We have to think about the objectives, the short run and the long run character of these objectives, how strategy might be implemented, and what policy tools we have. It's very clear that, in the long run, the issues in Japan are, first of all, how to deal with the impending decline of the labor force. Should there be relaxed rules about immigration? Should there be pro-natalist policies to encourage childbearing? There is also the view of expanding participation in the labor force, mainly by women, and relaxing age restrictions to enable people to work beyond the conventional ages of retirement. Many other countries are facing similar issues such as the demographic issues in Japan. In the short run, Prime Minister Abe announced his two objectives of ending deflation and arriving at a reasonable level of economic growth.

How do we proceed from the abstract to the real work of making policy? The prime minister has been making speeches about a growth strategy around the world and has announced the major elements. One is a thorough reform of the electric generation industry. This issue has been brought to the forefront of the agenda by the tsunami and nuclear accident. The short run dimension is how nuclear plants will be brought back into production and under what conditions and safety regulations. A longer run problem is the idea of having a unified electricity market instead of regional monopolies. A second example is reform of the agricultural sector. As Japan moves toward the Trans-Pacific Partnership (TPP), it will not only free trade, but also implement measures to stimulate cross-border investment and result in greater participation in the global economy.

What these examples have in common is that they are identified with specific industries. All of the various elements discussed by Prime Minister Abe involve looking at industry level information and implementing policies that have an industry dimension to them. That requires a new system for accounting of economic data, which is where the World KLEMS Initiative comes in.

Understanding economic growth and the role of productivity is crucial for understanding the choices faced by policy makers. These policies have to be designed considering how the economy could be developed, and how inputs and outputs and productivity could facilitate a new structure of the economy that would produce higher growth and more satisfactory outcomes than that of the existing economy. Also, in dealing with issues such as free trade or the TPP, it's very important to understand international competitiveness. That requires new data, which are included in the KLEMS Initiative. Finally, such data can be integrated with demographic projections which differ drastically among different countries.

The World KLEMS Initiative was created with the intention of filling a gap in the world statistical system relevant to growth strategy. When people in Europe found that the data available to them were inadequate for analyzing the growth strategy that they were trying to follow, they organized a consortium led by Prof. Bart van Ark and involving Marcel Timmer and 18 research institutes around Europe to create this new database in 2008. There is now a Latin American version of KLEMS that involves four countries, and, in 2011, Asia KLEMS came into existence. All of these come together in the World KLEMS Initiative and provide essentially common methodologies based on national accounting, enabling people to share experiences, and start to contemplate on how to use data not only for growth strategies, but also for trade strategies and analysis of special problems such as intangible investments. All of these things are unified under this umbrella of the World KLEMS Initiative.

In the case of Europe, the purpose of this project was to answer the very simple question of how to get Europe back on track. The results identified Europe's knowledge economy as the cause of its distress, specifically under investment in human capital, information technology, and innovation. Those are the main sources of the economic growth slowdown, and the Europeans drew a very important implication, which is that establishment of a single market for services in Europe is crucial to removing the barriers to the development of a knowledge economy.

This successful example has very important lessons for Japan. Japan is one of the world's most successful investors in human capital, and the quality of the Japanese workforce is renowned around the world for its educational and training quality. However, Japan until very recently was considerably weak in terms of innovation, and while Japan has now emerged as one of the most innovative economies in the world, its weakness in information technology still remains. Its research findings are in Productivity in Asia: Economic Growth and Competitiveness published in 2007. Asian KLEMS and RIETI's role will continue to remain as a very potent resource looking to the future.

Japan has just finished a period of stagnation, and, in emerging from this period, monitoring progress as the growth strategy was first designed, and implementing this on an ongoing process will be crucial. To do this, KLEMS type datasets must be created within the national accounts. Japan is very well equipped to handle the data requirements for a growth strategy with the work that RIETI has already established, and the Japan Industrial Productivity (JIP) database will be a very potent resource for the analysis of growth policy and growth strategy both in and outside Japan.

Beyond the level of specific industries, there is the issue of product competition and factor competition. Product competition refers to competition in markets for services and goods, and a leading example is a deficiency of product market competition in industries that absorb an enormous amount of the Japanese national product—namely, trade and services. Specifically, wholesale and retail trade and services including finance. These have been weak industries in terms of international productivity standards for decades, and require attention at a more general level. They are far more demanding than dealing with the specifics of a particular industry, and Japan will have to confront these issues up front.

Factor markets include the Japanese labor market, and Japan has among the world's most highly talented and highly educated labor forces, including many very talented women. However, Japan lacks labor market institutions that make it possible to allocate this very valuable human resource in an efficient manner. This is something that will need to be addressed and obviously is a very important initiative that will be part of this implementation of KLEMS type ideas.

The original vision of the World KLEMS Initiative was to create datasets that would fill a very important gap in our statistical system, and these datasets supply information not just about aggregate demand, consumption, investment, government, but also about aggregate supply. Aggregate supply is not represented in the national accounts without changing the fundamental character of the way in which data is collected and analyzed, which is the purpose of the World KLEMS Initiative. This is directly relevant to the most important policy issues we confront which are designing growth strategies after the financial crisis. It's also very important to link these data on growth and productivity through purchasing power parities to the determinants of international competitiveness. Finally, as I've already discussed, once this growth and productivity dataset is created, it will be an important resource to assist in the design of growth strategies and enable the monitoring of progress of growth policies that are implemented as part of an overall strategy.

The whole idea of a growth strategy is a legitimate subject for policy and is something which is best addressed in the aftermath of a very serious disruption like the world financial crisis, as well as part of an overall strategy that combines the different elements within a consistent framework, which has been created as part of the World KLEMS Initiative.

Keynote Speech 2: "Evolving Spatial Economy of Asia-Pacific and the Growth Strategy"

FUJITA Masahisa (President, RIETI):
My area of specialty is spatial economics. From this perspective, and looking at Asia and Japan in particular, I will review the last decade including the spatial transformation of the global economy. Based on that and looking at Asia in the mid and long term basis, I will discuss what growth strategy Japan should undergo in order to continue long term economic growth.

While there are numerous activities and projects ongoing at RIETI, the organization shares common viewpoints in the face of rapid globalization, technological changes, and a declining and aging population. Under this environment, RIETI continues to pursue research by always keeping in mind the following three priority viewpoints of economic and industrial policies: 1) how to incorporate the growth of the world economy, 2) how to develop new growth areas, and 3) how to create new economic and social systems for sustainable growth. By looking at this, we wish to enhance the productivity and vitality of the Japanese economy and society. We are attempting to make a significant contribution to the third arrow of Abenomics, the growth strategy.

The global spatial economy has transformed considerably due to rapid progress in information technology and transportation technology and the promotion of free trade through diverse mechanisms. Transportation costs, broadly defined, have gone down across the world, resulting in globalization in production, trade, investment, and finance. While globalization has occurred, there has been simultaneous local agglomeration of production and consumption. These dense networks connecting local agglomerations of production, consumption, and research and development (R&D) are highly complex. Such a networked world is quite efficient and growth-enhancing under normal conditions, but is quite vulnerable to local disasters or shocks. In order for both Japan and the global economy to grow smoothly, efficiency must be enhanced while overcoming this vulnerability.

Broadly speaking, transportation and communication costs have gone down, and, as a result, world gross domestic product (GDP) and trade have seen unprecedented growth in the last half century. GDP has grown annually by approximately 3% on average since the 1970s. Trade has seen about 6% growth per annum. However, there is a consistent threat of global financial shocks that could spill across the world. Under those circumstances, what would the impact of decreasing transportation costs be on economic distribution across the world?

Spatial economic theory tells us that when transportation costs are extremely high, production has to be close to consumption, which would be highly distributed. However, if transportation costs become sufficiently low, it could result in a concentration in particular locations, and there will be a major agglomeration in selected locations.

In terms of GDP shares, how are the activities distributed globally? The North American Free Trade Agreement (NAFTA), European Union (EU), and East Asia combined began to see increased GDP shares beginning in 1980, and reached 80% in 1985. Starting in 2000, however, the combined percentage of GDP shares began to decline because of lowering transportation costs.

In East Asia, one major change which has had a large impact on Japan is the breakdown of GDP shares inside East Asia. In 1986, Japan accounted for 70% of the GDP share within East Asia, which lasted for approximately a decade. However, as transportation costs continued to decline and Japan did not adapt to the new global system, Japan's GDP share started to fall. As Japan's share declined, China started to grow, and, in 2009, Japan and China shared the same percentage of GDP in East Asia.

Asia is referred to as the world's factory, and, in terms of intermediate goods, there is a large level of movement within Asia. However, in terms of consumption goods, movement is very limited within Asia. This is reflected in the large imbalance between East Asia's exports to the United States, and U.S. exports to East Asia. Looking at the U.S. trade deficit with East Asia and China, this large trade imbalance was considered to be one of the main causes of the world financial crisis.

A huge amount of intermediate goods passes through the East Asia region. One example is the automotive industry, which is one of the largest industries in the world. When looking at the volume of automobile production by region, for many years, Europe was number one, followed by NAFTA, and then Japan + Korea. However, in 2013, China surpassed Europe, reflecting its massive and continually growing market. With 22.5 million cars manufactured in China, this accounts for 26% of total world production.

There is an advanced global supply chain supporting the automobile industry, which means that there is also a high level of vulnerability given its interconnected nature. Assembling one car requires 20,000 to 30,000 parts. These parts and components are manufactured in limited areas and then moved from production to delivery through a very dense network. This is one of the characteristics of the automobile industry, and it utilizes a just-in-time procurement system to minimize inventory. Under normal conditions, this is an extremely efficient process, however, if a local disaster occurs, this system can be very vulnerable. After the collapse of Lehman Brothers in 2008-2009, Japan saw a 50% reduction in total domestic production volume and a similar drop in production following the Great East Japan Earthquake. Similarly, automobile production suffered from the 2011 Thailand floods, resulting in the Association of Southeast Asian Nations (ASEAN) region suffering as a whole.

Disasters can also take the form of political conflicts or disputes. When we compare the impact of natural disasters and international conflicts in automobiles sales in China for Japanese automakers, we see that the Senkaku conflict had a very strong negative impact on sales in the country for an extended period of time. Such disputes can have repercussions worldwide and must be avoided. Global cooperation is simply indispensable.

Next, about the future of Asia. According to forecasts by the Asian Development Bank (ADB), in 2050, Asia will likely account for 52% of global GDP, up from 30% today. While this is a very optimistic economic growth scenario, it's not guaranteed. Asia is utilizing a huge wage disparity to create this extensive supply chain, but this will have to change eventually, and a new system must be created in Asia. An advanced production network must be built as well as financial markets, real estate asset markets, and other high quality markets. Another important matter is creating innovation networks, as knowledge production becomes increasingly important globally. International cooperation is simply indispensable in this regard.

Now, I would like to focus on the brain power network in Asia. As a whole, especially in developed countries and big cities in developing countries, innovation is becoming a core economic activity, and Japan is expected to be a leader in this area. Therefore, Japan must adapt itself to this new system. However, in the past 20 years, this has not occurred and is one of the biggest causes of stagnation. Japan needs to adapt itself to this brain power society in order to enjoy growth.

Japan can be proud of the volume of patent applications it creates, which had been the largest in the world until 2011. However, in Asia as a whole, while innovation activities in Japan, South Korea, and China have been very active, inter-regional cooperation has been poor. Diversity is also crucial as seen for example in Silicon Valley, and this is a lesson that Japan and Asia should learn from. A well-established network is crucial.

How should we understand the third arrow of Abenomics—the growth strategy? What should the approach be? The population is declining. For the Japanese economy to enjoy growth, productivity improvement is key, and there must be innovation involving the full participation of all of the people. In Japan, the population share of elderly people over 65 years old will continue to increase, and will be about 40% in 2060. There is an opportunity for Japan to be a leader in innovative elderly societies. Redefining those who qualify as elderly, such as changing the demarcation line to 65, will be required. Senior citizens are not only a major human resource as workers and managers, but also major consumers of new products and industries such as housing, goods and services, medical, nursing services, medical nursing equipment, robots, lifetime education, and so forth. More growth can be achieved if all persons are engaged in an innovative manner.

Another perspective of the growth strategy is the idea that "small and creative" is beautiful. Rankings of Japanese per capita GDP in the Organisation for Economic Co-operation and Development (OECD) over a roughly 40-year period show that while Japan was once second or third in the world, it has fallen since to 19th as of 2008. The current top 10 ranked countries are dominated by Northern European countries with relatively small populations compared to that of Japan. This indicates that population size is not essential to achieve economic growth in a brain power society. Education is more important. The top 10 countries in the rankings have sizable elderly populations as in Japan, but spend a higher proportion of GDP on education. Multinational firms are concentrated on knowledge-intensive activities (HQ-management, R&D, design), and workers receive relatively high wages.

Finally, regional and global integration is essential. Japan must conclude economic partnerships such as the TPP, as well as similar agreements within Asia. The trilateral relationship between Japan, China, and South Korea is not particularly strong at the moment, and if these three countries do not get along with one another, Asia as a whole will not fare well. However, if we can collaborate and cooperate with one another, we all can enjoy higher growth together.

Panel Discussion

Presentation 1: "Lessons from Japan's Secular Stagnation"

FUKAO Kyoji (Program Director and Faculty Fellow, RIETI / Director, Institute of Economic Research, Hitotsubashi University):
Japan is a pioneer in long term stagnation. What lessons can other countries draw from Japan? In many advanced countries, productivity increase in the long-term has been decelerating, resulting in lower investment, a shortage of demand, and recessions. Non-conventional financial policies can be utilized to keep the interest rate low, but may result in a bubble. However, industry sector productivity datasets are more advanced and detailed now than in the past, providing us with a helpful tool going forward.

Looking at Japan's current economic situation, through massive stimulus measures and active fiscal policies, Japan appears to be escaping from deflation. However, low IT investment and labor market rigidity in Japan remain, and the government's growth strategy must address these issues. Government policies should promote intangible investment, entrepreneurs and startups, mergers and acquisitions (M&As), and the restructuring of the labor market such as wage increases. In terms of adopting certain policies, assessments must be completed to determine how much productivity gain Japan can expect.

What are the lessons from Japan's secular stagnation? First, low real interest rates will not sufficiently solve fundamental problems and, combined with a positive inflation rate and full employment, could lead to new bubbles. Therefore, for growth to be sustainable, raising the rate of return on capital through productivity growth is necessary. Second, the productivity growth slowdown has not been caused by the drying up of innovation, but by structural factors of the economy, many issues of which could be fixed through better policies. Third, government expenditure must be used in a more efficient manner and public investment utilized to enhance productivity growth. Fourth, large corporations did not actively invest domestically, and used surplus funds for debt repayment and the accumulation of liquid assets. Fifth, countries such as Germany and China enjoy low real exchange rates and huge current account surpluses, which negatively affect other economies such as that of Japan. This imbalance requires a fundamental reform of the international monetary system. Lastly, the exit policies from non-conventional policies; Japan might be the first country to experience the failure of having an exit, and should avoid that risk.

Presentation 2: "The Prospects for East Asian and Chinese Economics"

Lawrence J. LAU (Ralph and Claire Landau Professor of Economics, The Chinese University of Hong Kong):
The center of gravity of the world economy is shifting. In 1970, East Asia including Japan comprised only 10% of world GDP. In 2012, East Asia accounted for 25% of world GDP, and this distribution will continue to shift toward this region. In terms of the distribution of total international trade in goods and services, East Asia is also growing while the United States and Western Europe are shrinking.

One noticeable development is the rise in intra-East Asian trade. Thirty years ago, most trade moved from East Asia to the West, but today 50% of exports and 50% of imports are intra-East Asian. That means that the East Asian countries have become markets rather than simply manufacturing centers. Another development is the partial de-coupling of the Chinese and East Asian economies from the rest of the world. The growth rate of the real GDP of the Chinese economy has been relatively stable compared to those of the other East Asian countries despite similar fluctuations in their rates of growth of exports and imports.

What are some advantages of the East Asian economies? First, a high saving rate means that there will be less reliance on foreign capital. Second, the principal sources of economic growth of East Asian economies going forward will be intangible inputs such as human capital and R&D capital, which are due to grow.

Regarding the future prospects of the Chinese economy, it is important to understand that growth has been underpinned by a high rate of investment enabled by a consistently high national savings rate of approximately 45% over the last 10 years. There's also an unlimited supply of surplus labor with room for improvement, such as through extending the Chinese retirement age. The one-child policy is also in the process of being ended.

A hard landing in China is not likely, since output in China is not constrained by supply, but by demand. The public debt to GDP ratio in China is roughly below 40%, which is manageable. Finally, shadow banking is a problem that the Chinese government is paying attention to and will hopefully manage.

Presentation 3: "Growth Strategy after the World Financial Crisis"

KIYOTAKI Nobuhiro (Professor, Princeton University):
I will speak about financial frictions and economic growth, particularly in the context of recovery from the recent recession. During the financial crisis, Japan had many problems including a shortage of liquidity, the substantial loss of equity of banks, and a sharp drop in macro stability.

Robert Mundell's assignment rule argues that we must assign the strongest policy to each issue. Regarding liquidity shortage, the strongest policy is various measures of liquidity provisions. For bank capital shortages, insolvent banks should be restructured and equity should be injected into solvent banks with insufficient equity. To achieve macro stability, monetary and fiscal policies are considered to be the most effective means. However, given the interconnected natures of these issues, it is important to think not just about the strongest policy, but how other policies can be used simultaneously and in conjunction with one another.

Recovery after the crisis depends on the balance sheet conditions, real rigidity, and the trend growth of the economy. Output, working capital investment, and stock prices come back relatively quickly within several years. However, credit, fixed capital investment, and real estate prices are areas closely related to financial systems, and thus take a long time to recover.

The balance sheet of non-financial businesses includes financial assets, working capital, and tangible and intangible capital. When a recession occurs, illiquid assets such as fixed capital are not easily reduced, and so liquid assets such as working capital investment are cut. Over time, fixed capital starts de-accumulating, and the economy returns to a more balanced position on a smaller scale of both liquid and illiquid assets. In the recovery phase, business first increases liquid assets before increasing fixed capital.

This is also true for employment. During the recovery phase, permanent employment doesn't increase so easily, and only temporary employment is increased initially. Only after the recovery is underway does permanent employment starts to return. That's why recovery typically comes first in output, working capital, or stock prices, while recovery is slower in fixed capital investment, permanent employment, and real estate values.

One of the long term consequences of the financial crisis is that public debt becomes unsustainable, which can then lead to further financial crises. Another dangerous consequence is reduced investment in intangible capital by businesses such as R&D and human capital, which can lead to slower growth and long recession periods following a financial crisis.

Presentation 4: "Competitiveness Today: A New View"

Marcel TIMMER (Professor of Economic Growth and Development, University of Groningen):
We require a new way of looking at trade and competition. The old view on competitiveness is based on products. The value of exports from a country is seen as an indicator of the competitive strength of an economy, however, with international production fragmentation and different activities taking place in different countries, cross-exports as an indicator of competiveness is losing its value rapidly. Rather than focus on the gross output value of products, we should look at the value added which is taking place in various regions in the world. It's no longer about what you sell, but what activities you do in the global production of a good or a service, and countries and firms can specialize in different activities along the pre-production and post-production phases of the global value chain.

One way to determine what activities countries perform in these value chains is to design a conceptual framework to analyze this value added perspective, and have data. A conceptual framework requires tracing back to all of the different stages of production which are needed to produce a certain product. By decomposing the output value of the products, the value added in the country itself and the value added from another country can be determined.

This conceptual framework will require two specific types of data. One is input/output tables which provide not only the flow of goods and services within an economy, but also across economies. Second, data are required on the intermediary inputs which are being used, both domestically produced and imported, as well as data on the production factors which are needed in production. This allows the analysis of competitiveness in a completely new way.

International production fragmentation is a trend found in most global value chains, and the share of value added coming from outside the economy is rapidly increasing. Looking from the value added view at this trade of intermediate goods, the global foreign value added shares of countries are increasing. A trend to watch is globalization rather than regionalization.

This new perspective of trade has an impact on the way trade policies, social policies, and industrial policies are viewed, and it also has implications for our statistical systems because we need these new measures of competitiveness.

Presentation 5: "Strategies to Revive Global Growth: A Scenario Analysis"

Bart van ARK (Executive Vice President and Chief Economist, The Conference Board):
What are some of the important strategies that we need to look at going forward in order to revive global growth? The diagnosis can be summarized into 10 major trends; five short-term and five medium-to long term.

Regarding the short-term trends, the mature economies are currently recovering from the world financial crisis, but the Japanese and European economies will remain fairly moderate for the next several years. There is also a significant slowing down in emerging markets largely because of structural problems and an elevated risk of financial crisis in China. Finally, political issues and tension will continue to be a major challenge going forward.

In terms of medium and long term trends, over the next 10 years, there will be a significant slowdown in the global economy largely driven by emerging markets. What trends are causing this? First, demographics in the mature economies, such as aging populations in Japan and in Europe, is going to be a major factor of slower growth. Another important element is the continuing global demand shift taking place toward rising middle classes. However, the most important aspect of slower growth in emerging markets is the fact that these economies are becoming richer. Finally, globalization is slowing down due to narrow trade agreements, major environmental challenges requiring international coordination, and substantial imbalances in the energy market in terms of increased demand for emerging markets.

What are the important implications for economic policy? A closely related investment agenda and productivity agenda will be required. A lack of investment in hard buildings and machinery must be increased. Investment must happen in the intangibles part of the economy—human capital, innovative property, R&D and non R&D, marketing and branding, and overall investment in economic competencies. Fiscal consolidation must be avoided and the creation of new and innovative firms and entrepreneurships encouraged.

The productivity agenda will need to focus on reforms in product, labor, and capital markets. These reforms will ensure that the most productive resources go to those areas which will yield the highest returns. To do so, global, regional, and economic integration must be accelerated and transparency increased.


MIYAGAWA Tsutomu (Faculty Fellow, RIETI / Professor, Faculty of Economics, Gakushuin University):
What type of monetary policies should be promoted in the United States?

During the crisis, the focus was on the spread between returns on risky and illiquid assets and those of safe and liquid assets. After the crisis, the focus was on reducing the spread between long and short term interest rates. This philosophy of quantitative easing has both advantages and side effects on the other countries. But, as long as a flexible exchange rate is maintained, the other nations must look after themselves.

The U.S. Federal Reserve Board's (FRB) tapering policy will affect the entire world. Japan has its own managerial policy, and one important point is the return of investment. In Japan, investment in tangible properties was high despite the drop in the rate of return and the low productivity. However, investment in information and communications technology (ICT), R&D, and assets other than tangibles—that is the area that has to be emphasized further, and, in particular, the SMEs will have to invest more in intangibles. While the advanced economies' growth is decelerating, there are many investment opportunities in other countries, and therefore reestablishing the international monetary system is another key point.

Professor van Ark, what do you think about the policy for promoting intangible investment?

In the United States, there are many weaknesses in terms of financing small, new, innovative enterprises. Currently, there is a very slow emergence of new firms in the United States, which is very unusual. One of the reasons for this is the lack of funding for these new firms, which can be considered risky from a bank's point of view. Global economies are driven by a wide range of innovative firms, and so that's the area where we need to see new and original innovation in the financing world to fund these new firms with capital.

In East Asia, it's particularly difficult to have breakthrough innovation. First, people do not challenge established authorities very easily. The other problem is that, in East Asia, there's very low tolerance for failure. These cultural disadvantages must be overcome.

Do you have any comments on the role of marketing, services, and new types of trade?

In Europe, small businesses are very liquidity constrained, and profitable investments are not getting the finance needed.

Prof. Lau, do you have any comments on Prof. van Ark's view of growth and volatility in China?

I believe growth in China will be way above 4%, with 7% potentially achievable. There will not be much volatility as the Chinese economy is almost immune to external events, and Chinese growth will be based on investment in public infrastructure investment and public consumption for the next 5-10 years, meaning education, health care, environmental control, and environmental preservation and restoration.

The Chinese economy has already slowed down significantly, and the growth rate will continue to decrease as the economy begins to transform gradually from an investment, export, low-cost driven economy to one with higher wages, more consumer power, purchasing power, and, ultimately, more consumption. Regarding investment, the Chinese government is extremely confusing about its strategic policies, and China's transition is a very difficult process. China is a country which multinational businesses feel is one of the most difficult business environments to operate in, even though growth is still very fast.

Can the participants elaborate on non-performing loans in China?

I am not very familiar with non-performing loans in China, but the shadow banking system is large, and the accounting system is difficult to follow.

Non-performing loans in China are massive and rapidly increasing. The Chinese government has been bailing them out up until now, but it's a sign of the huge amount of volatility.

I do not agree. The important area which the Chinese government focuses on is unemployment and not GDP growth. People claim that China needs to grow at 8%, otherwise there would be chaos, but 8% growth from 10 years ago is equivalent to 4% growth today in real terms. Otherwise, the Chinese economy has shifted from being based mostly on manufacturing to service sectors in which there is more employment per unit GDP than in the manufacturing sector.

Professor Timmer, can you discuss new views on trade and explain the policies corresponding to the structural change?

Policies geared to particular sectors in the economy are not very effective and should focus on products or value chains instead. With regard to trade policies, because of these increasing value chains, there are substantial interdependencies between countries and regions. Therefore, declining tariffs through trade agreements are very important. Within Europe, for example, there is a free market for goods, but there are still many prohibitions in trade and services.

To what extent will fragmentation continue? Transportation and communication costs will continue to decline, but there are other elements which also determine fragmentation. One of them is vulnerability and to what extent multinational firms are concerned about increasing vulnerabilities. Another is cheap labor, and whether there will be other pockets of cheap labor in the world economy. If so, fragmentation will continue, and, if not, fragmentation might reverse.

There is also the idea that manufacturing activities offshored can return, but these production activities which come back will be highly capital intensive, which is why workers need to be re-skilled and reeducated, with a kind of safety net installed.

Many Japanese economists expected the depreciation of the yen induced by Abenomics to lead to a trade balance surplus, but this expectation was not fulfilled. Prof. Fukao, do you have any comments?

From the viewpoint of real effective exchange rate, the yen is already very cheap. But we have a trade deficit, and the current account surplus is almost zero. Through our low productivity growth in the manufacturing sector and our foreign direct investment (FDI) and expansion of production in other Asian countries, the global value chain has changed, and Japan is losing its competitiveness. KLEMS data would be ideal as further analysis is necessary.

I think there's a very encouraging sign that the TPP recognizes the importance of global value chains. The TPP is also really deeply looking into things such as government procurement, labor laws, intellectual property, etc., I wonder if the TPP can ever be successful without China as a part of it.

Please discuss policies for enhancing innovation and productivity growth.

In the case of Japan, intangible and ICT investment, as well as investment in SMEs and startups, is low. Japan must also change its statistical system. In terms of policy making, the Japanese government does not make policy based on empirical reliable data, and its findings are not challenged.

If East Asian countries could maintain a system of stable relative parities among exchange rates, it could help promote intra-East Asian trade to an even larger extent.

Regarding policies for growth, promoting R&D as well as human capital is crucial. Unfortunately, many companies are hesitating to hire younger people on a permanent basis, both in Japan and in European countries such as Italy or Spain. Alleviating this issue is an important element for promoting growth.

When we talk about innovation policies at three levels of policy, we must think about the various roles. First, at the international level, the role is to open global markets such as through trade agreements which we discussed earlier, which recognize the complexity of today's global value chain and trade system. Second, at the national level, it is important to focus on product, labor, and capital markets and good technology policy, in order to make sure that the resources in the economy can be used most productively. Third, at the regional level is where government, business, and education systems are working together to create real innovation policies, and that is where innovation policy is most successful in the pure term of the word.

Q&A Session

Q1: Prof. Lau, what is your forecast for Chinese patent growth globally?

The number of Chinese patents is only about 6,000 per year, and, while it has increased rapidly, it is still far below that of Japan and the United States.

Q2: Prof. van Ark, can you elaborate on U.S.-Japan trade negotiations?

I am not a fan of bilateral trade negotiations, and multilateral trade agreements are the most optimal type. Far reaching regional trade agreements are the second best option.

Q3: Prof. Fukao, can you elaborate on the Japanese yen's appreciation or depreciation toward the Tokyo Olympics in 2020?

It is a difficult prediction that depends on the investment saving balance. If savings continues to be high, investment remains low and productivity does not improve, then we will need a cheaper yen.

Q4: Can panelists comment on social and income equality in relation to growth and the crisis?

Concerning social inequalities, if we try to maintain the minimum standard of living, the cost will not be overbearing. At the same time, the welfare gain will be substantial.

Q5: Regulations could be changed to mandate reporting by companies and governments to gather data related to productivity. What are your thoughts on this?

I believe the OECD gathered and held discussions on this topic but concluded that incorporating this data in the business account would be difficult.

Q6: In your presentation you demonstrated the dynamics regarding liquid assets and liquidity assets. Good Japanese companies have liquid assets but should invest more. What prevents Japanese companies from doing this?

One reason is uncertainty about the future. It is not easy to reduce fixed assets and permanent employees once companies invest in or hire permanent workers, thus they become hesitant to invest in fixed assets and hire permanent workers.

Q7: There are fewer people today who are on a lifelong employment track. What is the impact of this changing practice?

With the changing labor market, everyone should push themselves proactively, and universities and other educational systems should be revised to reflect this change.

Q8: How would you define natural capital?

Europe 2020 has explicit points regarding energy inefficiency; decreasing carbon dioxide emissions, increasing the use of renewables, and a social target of trying to end poverty and social exclusion.

Q9: How does "environment" fit in with the KLEMS discussion?

If we manage natural resources well and combine them with intangibles, there will be an optimal outcome for the environment.


The long term view is that human resources and innovation must be stimulated globally. In the case of Japan, policies and fundamental structures of business and government will have to be restructured and adapted in line with this changing world.