Japan's Economy: Monthly Outlook (Jan 2018)

◆There are three factors which have historically led to wage deflation in Japan. These are: (1) Intensification of international competition, (2) Existence of potential slack, and (3) Stagnant labor productivity. As for factor (1), although certain preconditions must be met, including maintaining the current exchange rate and continuation of wage increases in China, Japan is now nearing the point where it may be able to overcome this issue. The same is true for factor (2). We are now beginning to see signs that a resolution may not be far. These include the unemployment rate nearing the same level as the natural rate of unemployment, and improvements in quality of employment such as the trend toward hiring regular employees. Achieving sustainable wage increases in the future depends on improvements in productivity.

◆Arguments surrounding the question of what works best in improving productivity are complicated. Labor productivity is determined by two factors: the capital accumulation and total factor productivity. The pace of capital accumulation depends on the rate of increase in total factor productivity. Therefore, it follows that the essential element is the improvement of total factor productivity, requiring education and training, as well as progress in employment mobility. Efforts toward the first factor mentioned above are underway, but there is little notable progress occurring on the second factor. From the long-term viewpoint, this problem could hinder the achievement of sustainable wage increases.

◆It must be admitted that there is a global trend that is hindering the increase of wages, but which Japan cannot handle on its own. One example is the “race to the bottom”, the result of which is the continuous decline in labor’s share. In parallel with progress in globalization, many governments, mostly in the advanced nations, have continued to carry out a kind of mercantilist competition, keeping personnel expenses under control by cutting exchange rates, and then keeping the cost of capital down by cutting corporate taxes and taxes on capital investment. At the same time, value-added tax (or consumption tax) is raised. In exchange for improving corporate earnings, this policy causes a loss in real income for households. Eventually this could lead to the deterioration of the labor environment and social programs, or what is known as the “race to the bottom”. It is hoped that there will be international cooperation in the future to discuss this issue so that a rebalance of policies can take place.