Economic Growth Bound by Regulations and Rules

President and CRO, RIETI

Since the 1980s, many countries have deregulated entry and pricing in industries such as telecommunications, transportation, and energy. However, social regulations such as safety, labor, environmental, and consumer protection regulations have increased even faster than such deregulation. In the United States, federal regulations have increased at an annual rate of 3.5%.

This is the same case with Japan. According to the Ministry of Internal Affairs and Communications, the number of licenses and permits has increased by nearly 50% since 2000. Remarkable increases were seen at the Financial Services Agency, the Ministry of Health, Labour and Welfare, and the Ministry of the Environment. In many cases, new regulations are introduced in response to societal incidents or scandals, increasing the cost and time required to deal with each regulation. Many companies cite labor and environmental regulations as featuring high compliance costs. These regulations far exceed business license regulations. In addition to legal regulations, there is much administrative guidance which includes guidelines that must be followed and requests that require action. There are also industry- and company-specific internal rules.

This year's Basic Policy on Economic and Fiscal Management and Reform calls for the realization of sustainable growth through reskilling, the acceleration of green transformation (GX) and digital transformation (DX), and the promotion of science, technology, and innovation. This policy itself is theoretically correct, since innovation and human capital investment are the main drivers of productivity growth. However, in growth strategies, policies that eliminate or mitigate factors that reduce productivity tend to be overlooked.

The negative impact of government regulations on productivity has been confirmed by many studies in Japan and other countries. Several U.S. studies estimate that increased social regulation has cut annual economic growth by 1-2 percentage points.

In our day-to-day work, we spend a lot of time complying with regulations and rules. It is easy to imagine that much of the work of the operations management department of a head office involves document preparation and reporting. However, manufacturing and services workplaces also have various regulatory compliance tasks such as inspection and qualified personnel assignment. The time spent attending training sessions on personal information protection and harassment prevention for regulatory compliance also have similar impacts on productivity.

According to a survey I conducted of Japanese workers, about 20% of their working hours are devoted to compliance tasks on average. Although there are large differences among workers, the percentage is high for industries such as finance and insurance, medical care and welfare, and for full-time employees of large companies and high-wage workers.

If compliance working hours are halved, the productivity of the economy as a whole will increase by about 8%. Given the current productivity growth rate of Japan at about 0.5%, the 8% increase is equivalent to productivity growth over more than a decade. Data obtained from surveys of Japanese companies are similar. Even if the impact of each regulation or rule is minimal, the accumulation of a multitude of small impacts can greatly reduce growth.

Since the purpose of social regulations is to realize values other than economic growth, such as safety and security, evaluating them only through an economic lens is naturally inappropriate. In particular, when serious accidents and incidents attract attention, it is difficult to make a case for caution in tightening regulations. However, the reality is that there is a trade-off between these social values and economic growth. It is necessary to (1) establish and implement regulations and rules that take cost-effectiveness into account and (2) improve the efficiency of compliance operations through digitalization and other means.

>> Original text in Japanese
* Translated by RIETI.

September 14, 2023 - Published in Nihon Keizai Shimbun's "Economist 360° Perspective"

November 14, 2023

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