Assessing Japan's Growth Strategy: The need for comprehensive measures to promote investment

MIYAGAWA Tsutomu
Faculty Fellow, RIETI

Can the new growth strategy, like the monetary policy, come up with measures of a "different dimension"? That is what the market is expecting from the growth strategy. Although Prime Minister Shinzo Abe himself endeavored to publicize the key points before the official announcement and titled his approach the "Strategy for the Reconstruction of Japan" to suggest an unprecedented sense of crisis, the market's assessment is currently unfavorable. Why has the Strategy for the Reconstruction of Japan, despite the unusual degree of attention it has garnered, been perceived as a disappointment? This column will discuss the issue, focusing on measures to promote investment.

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A major characteristic of this growth strategy is that it is regarded not as an isolated economic policy but instead as one of the three pillars of economic policy comprising "Abenomics." As is well known, the first and second arrows in the quiver of Abenomics—an expansive monetary policy and a flexible fiscal policy—are designed to revitalize the economy in terms of aggregate demand, but the growth strategy is to bolster the supply side.

Pursuing a policy that integrates demand and supply means that the aggregate demand-side measures undertaken first, especially monetary measures, serve to smoothen the implementation of aggregate supply-side measures. Private-sector capital investment, which is one of the key gross domestic product (GDP) demand items and contributes to greater international competitiveness, will be the trigger to the switchover in policy focus from aggregate demand to aggregate supply.

It is likely because policymakers drew a scenario of encouraging increased capital investment through yen depreciation, higher stock prices, and lower real interest rates via unprecedented monetary easing that they made invigoration of capital investment a top priority in the "Plan for Restoring Japanese Industry," one of the three pillars of the growth strategy. This scenario itself is not mistaken. Indeed, massive monetary easing did succeed for a time in returning exchange rates and stock prices to their levels before the collapse of Lehman Brothers, setting the stage for increasing capital investment.

However, the subsequent turmoil in the foreign exchange and stock markets points to the limitations of this demand-side policy to stimulate capital investment. The growth strategy has set a target of boosting private-sector capital investment to a total of 70 trillion yen in three years, but this numerical target is actually causing some of this turmoil.

Nominal private-sector capital investment came to 63 trillion yen in fiscal 2012. Therefore, if a 2% price inflation could be sustained for three years through massive monetary easing and the consumption tax rate is raised by 3% in the next fiscal year, capital investment would reach 69 trillion yen even without additional policy measures. If capital investment were to increase only by the amount of the rises in prices and the consumption tax, however, no real enhancement of production capabilities would be achieved, and this capital investment would essentially make no contribution to economic growth.

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The policy incoherence of demand-side policies not helping to bolster the supply side is not just a computational issue. A more serious problem is that the only ideas being considered regarding the kinds of assets to be accumulated in seeking to boost competitiveness by jump-starting investment date back to before Japan's "two lost decades." The word "investment" generally brings to mind the tangible assets of buildings and machinery. Since the information technology (IT) revolution, however, it has become a well-established view that productivity has not improved and economic growth is not achieved solely through investment in tangible assets.

The "New Sources of Growth" report recently published by the Organisation for Economic Co-operation and Development (OECD) notes that knowledge-based assets—software, research and development (R&D), marketing, and human resources development—have contributed more to improved productivity than have tangible assets. Since the turn of the century, investment in knowledge-based assets has even surpassed that in tangible assets in the United States.

Through its Japan Industrial Productivity Database project, RIETI releases industry-specific figures for investment in knowledge-based assets (intangible assets by RIETI's definition) conforming to the criteria used in the OECD report. According to this, investment during the first decade of the 21st century averaged 40 trillion yen annually, with investment in tangible assets accounting for about 60% of that.

RIETI's analyses reveal that investment in knowledge-based assets has helped substantially improve productivity in IT-related industries, and that this value is reflected in stock prices. IT-related industries include not only companies that produce IT equipment but also information & communications companies, retailers, financial services firms, and others making intensive use of IT equipment. These IT-related industries have managed to achieve an average growth rate of over 2% even during the two lost decades.

In view of this, real economic growth at the government's target rate of 2% could be successfully achieved by supporting the growth of IT-related industries and promoting networking and informatization in other industries. Following this growth scenario, the accumulation of knowledge-based assets would be more effective than that of tangible assets.

Indeed, many of the items listed in the growth strategy (improving human resources capabilities, promoting innovation, nurturing new companies, and networking medical facilities) necessitate accumulating knowledge-based assets, but very little attention is being paid to "investment" in this strategy. There is also a mismatch here in trying to bring about a new industrial structure through specific policies based on ideas of an old order. The topic of employment innovation previously in the limelight might be termed another typical mismatch in seeking to build new employment systems while relying on outdated views of the labor market.

A policy more consistent with the direction of the Japanese economy indicated in the growth strategy and based on outside-the-box thinking would be one of stimulating investment in a more comprehensive fashion to cover both tangible and knowledge-based assets.

In current national economic accounting, private-sector capital investment includes investment in software and certain other knowledge-based assets, and total investment in tangible and knowledge-based assets is just short of 100 trillion yen. If a 6% increase in investment, inclusive of the target price inflation rate of 2%, can be sustained for seven years from fiscal 2014, total investment across the economy as a whole in 2020 would reach 150 trillion yen. While Japan might not follow in the United States' footsteps and see knowledge-based asset investment surpass tangible asset investment, it should consider striving to boost investment in knowledge-based assets to equal that in tangible assets within that 150 trillion yen.

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As investment in knowledge-based assets is more dependent on companies' internal returns than investment in tangible assets, stimulating the former will require cuts in corporate tax rates. For the time being, though, the policies contained in the Strategy for the Reconstruction of Japan should be steadily implemented, and steps resembling tax cuts on investments in tangible assets should be taken with respect to personnel expenses in international and research divisions to encourage human resources development, the most important aspect of knowledge-based assets.

Over the longer term, greater disclosure of knowledge-based assets in corporate accounting, as suggested in the OECD report, would be desirable. Even if measures to nurture new companies and grant tax benefits for knowledge-based assets are adopted, no progress will be seen until this change in accounting information is made. International economic accounting is said to serve as a performance report on the macroeconomy, and, in recent years, it has been steadily turning toward the inclusion of knowledge-based assets in order to assess accurately those knowledge-based assets contributing to the performance of the economy as a whole. Consequently, assessments of knowledge-based assets should be undertaken at the corporate level as well.

This autumn, the government will reportedly reconsider its policies on stimulating capital investment with a particular focus on tax system revision. It is hoped that the revised strategy will put new wine in new bottles.

>> Original text in Japanese

* Translated by RIETI.

June 20, 2013 Nihon Keizai Shimbun

July 29, 2013

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