Home> News Release> News Release 2007> The Sneaking Risk of Economic “Dualization” and Strategies for Averting It - Policy Management After the Upper House Elections -

Back to the previous page
News Release

The Japanese Economy in FY 2007-08: Mid-Year Revised Forecast The Sneaking Risk of Economic "Dualization" and Strategies for Averting It
- Policy Management After the Upper House Elections -

August 2, 2007


Since the beginning of 2007, Japan's economic recovery has slowed. This is due, among other factors, to production cutbacks in parts of the IT devices sector, where inventories were beginning to accumulate, and to the deceleration of the US economy. Machinery orders, considered to be a leading indicator of capital investment, have been weak, and there is little sign of consumer spending gathering momentum.

Moreover, a phenomenon has emerged that gives cause for concern in the medium-to-long term. In the small and medium enterprise sector, which last year appeared to be recovering, there is once more a growing sense of stagnation. Failure to correct the tendency to polarization in the corporate sector will lead to an increase in the number of people on low incomes and there is a danger that the resulting decline in social vitality will come to hinder economic activity. This report considers the likely course of the economy from the second half of fiscal 2007 into fiscal 2008. It also examines the polarization of the corporate sector and considers what conditions will be required to maintain Japan's economic and social vitality in the medium-to-long term.

The general trend of the world economy today can be described as "worldwide rapid economic growth against a background of high resource prices, high consumer price indexes and stable interest rates". This is the result of a process where ongoing information and telecommunications revolution has led to the emergence of China and other "newly developing superpowers", which in turn has brought rapid economic growth to resource-producing countries, ultimately leading to the establishment of a growth cycle mechanism based on interdependent relationships between the United States, China and the oil-producing countries. Within this growth cycle mechanism, there is an inseparable connection between a) the interdependent relationship between China and the United States and b) the demand for crude oil and other natural resources from China and the flow of oil money into the United States.
There are signs that the pattern of price and interest rate stability is starting to collapse, owing, among other things, to the growth of inflation gaps in the developed nations and significant wage growth in newly developing economies such as China. Nevertheless, given the persistence of worldwide deflationary pressures in the durable goods sector, where competition at a global level is fierce, and the deflationary pressures on the services sector due to the growth of outsourcing and offshoring, it is likely that the transition to inflation and rising interest rates will take some time.

In the short term, the Japanese economy is likely to remain sluggish owing to the deceleration of the US economy and continued uncertainty over of its future direction (exerting downward pressure on exports and leading to the postponement of capital investment plans), the high inventory ratio in some sectors of industry and a change in the timing of taxes on the household sector in conjunction with transfer of sources of tax revenue from central to local government. However, given the continued strength of exports to newly developing countries and resource-producing countries, the plentiful money stocks in the corporate sector, and the fact that inventories are at a historic low in many sectors, including metals and IT final goods, the economy is likely to hold firm. From early autumn, once the production adjustments recently initiated in some sectors are complete, the signs of recovery are likely to become clearer.
Under these conditions, the real economic growth rate for fiscal 2007 is likely to be between 2% and 3%, remaining within this range for a fifth consecutive year.
Looking ahead, the recovery scenario of the second half of fiscal 2007 is likely to remain in place during the first half of fiscal 2008, but in the second half of the year, from about the time of the Beijing Olympics, it is likely that there will be a slowdown in overseas demand, especially demand for investment from China, and a softening of domestic capital investment as the growth of capital investment efficiency slows. In this case, the "real growth" of the economy is also likely to see a gradual slowdown.

In the current recovery phase, which began in 2002, small and medium enterprises have tended to be left behind, and the trend has become more apparent in the last 1-2 years. Companies that were quick to adapt to globalization, population aging and other changes in the business environment have grown, while those that were slower to adapt have stagnated, giving rise to a pattern of dualization in the corporate sector. If this pattern persists, the dualization of industry into "growth sectors" which are able to harness the dynamism of globalization to achieve growth, and "stagnant sectors", which have been left behind by the current of globalization and whose performance is stagnating, is likely to go still further.
In this case, wage growth in the "growth sectors" will be limited and there will be an outflow of wealth to other countries, while the numbers of people on low incomes in the "stagnant sectors" will rise, and there is a risk that household activity will stagnate and society as a whole will suffer a loss of vitality, giving rise to a vicious circle of dualization of industrial sectors and dualization of income distribution, in which the trend of domestic stagnation and the shift of activity overseas will gather momentum.
To prevent the formation of this vicious circle, it will be necessary for all enterprises, regardless of size or industrial sector, to take autonomous action and adapt to environmental changes such as globalization and population aging. The key is a "comprehensive reform of employment systems (an integrated reform of labor markets and social security)", that will involve promoting the efficient utilization and cultivation of the skills of "human resources", which will be in short supply in an age of population decline, to support those who have difficulty in adapting to change and help them to re-enter the labor market.
These reforms should be implemented in fiscal 2007-2008, a period during which the economy is expected to recover. The reform program should center on the integrated implementation of a "strategy for the 'enhancement of productivity' " and " 'work fair' measures". By the outcome of the Upper House elections of July 29 the people of Japan have put pressure on the government to review its assumption that "sustained economic growth of itself leads to stability of standard of living". The best response to the judgment of the people is for government and opposition parties to cooperate in the implementation of a reform program aimed at revitalizing the economy and stabilizing the national standard of living.

For more information on the content of this report, please contact Hisashi Yamada, Naoko Ogata, Makoto Ishikawa , the Japan Research Institute, Limited.

Tel: 03-3288-4245·5120·4263
E-mail:yamada.hisashi@jri.co.jp, ogata.naoko@jri.co.jp, ishikawa.makoto@jri.co.jp

News Release

To view the PDF files,
you need Adobe Reader installed.
Adobe Reader downloadExternal link