Japanese economy in the South-east Asian and world context

Doc. 8043 Revised

17 April 1998

Japanese economy in the South-east Asian and world context

Report

Committee on Economic Affairs and Development

Rapporteur: Mr Walter Schwimmer, Austria, Group of the

European People’s Party

Summary

Japan urgently needs to reform its economy, public administration and educational system in the direction of greater openness and efficiency; this was the message conveyed to the Assembly's Sub-Committee on International Economic Relations (of the Committee on Economic Affairs and Development) in 1997 by Japanese authoritative sources - a message which takes on added significance in view of the current financial crisis in South-east Asia. The report examines the background to the present economic situation in Japan and also touches on problems such as a rapidly ageing population and the strains on the country's financial system. Europe, it concludes, should encourage the reform efforts of Japan, in the interest of global economic health.

I. Draft resolution

1. The Assembly welcomes the recent deepening of relations between the Council of Europe and Japan as manifested, for instance, in the latter's obtaining observer status with the organisation, in the highly constructive and long-standing participation of the Japanese Parliament in the Assembly's enlarged annual debates on the activities of OECD, and in the visit by Assembly delegations to Japan in 1997.

2. The Assembly shares the appreciation as expressed by Japanese authoritative sources during the visit carried out by the Assembly's Sub-Committee on International Economic Relations (of the Committee on Economic Affairs and Development) to Japan in 1997, that the country's future will depend critically on profound reforms in the nation's public administration, financial system, industrial structure and relations, and educational system. The Assembly fully recognises the extreme urgency of such reforms and supports them in the interest of the world community as a whole. Meanwhile, it is vital for Europe to expand its economic links with Japan in order to accelerate the process of reform and ensure maximum benefit for all parties from it.

3. The Assembly welcomes Japan's efforts to reform its economy in order to ensure more domestic competition and transparency, as well as greater foreign investment and access for imported goods and services. In this context, it recalls the support expressed in its Resolution 1101 (1996) in favour of the work of the World Trade Organisation to "implement the Uruguay Round agreements and, more generally, to maintain an open, multilateral worldwide trading system".

4. The Assembly believes that a deepening of relations between Europe and Japan are all the more called for as their economic links strengthen through increased trade and investment and as several countries in East and South-east Asia, including Japan, are undergoing serious economic strain.

5. Finally, the Assembly commends Japan on its efforts to contain the economic crisis afflicting the Republic of Korea, Thailand, Malaysia, Indonesia and other countries in the region. It believes that profound reforms are needed also in the political and economic life of these nations in the direction of greater democracy and transparency and recalls the importance for the entire world community that they are carried out urgently and resolutely. It fully supports the essential work undertaken by the International Monetary Fund and other international institutions to promote this process, in line with the recommendations put forward in the Assembly’s Resolution 1128 (1997) on the Bretton Woods institutions.

II. Explanatory Memorandum by Mr Schwimmer

Contents

I. Introduction

II. Problems and difficulties faced by Japan over the last few years

III. The potential for further closer co-operation between Europe and Japan

IV. Concluding remarks: the shadow cast by the South-east Asian financial crisis

I. INTRODUCTION

1. After a long period of isolation, the Japanese economy opened up to the world in the middle of the nineteenth century and, above all, after the end of the second world war. Its rising power during the "Thirty Glorious Years" was accompanied by a gradual search for a degree of integration into international trade, including a rapprochement with Europe. Japan now enjoys observer status in the Council of Europe and has for many years played a very active part in the annual debates of the Enlarged Parliamentary Assembly on the activities of OECD and the state of the world economy.

2. Confronted with a deep recession caused mainly by structural and financial problems which became evident in the early 1990s, and threatened by the increasing ageing of its population which may create budgetary problems and put its pensions and retirement system into deficit, Japan is now facing a period of profound change, which has already partially started. Aware of the challenges Japanese society has to meet, the European Community and, more broadly, all the member States of the Council of Europe are very alert to these problems and wish to support Japan in its process of economic restructuring.

3. The purpose of this report is to present an analysis of the present situation and problems in Japan, as well as the factors that have led to the current economic situation. It particularly takes into account the extremely fruitful exchanges of views that the Sub-Committee on International Economic Relations of the Parliamentary Assembly's Committee on Economic Affairs and Development had with its Japanese hosts during a meeting in Tokyo from 14 to 17 January 1997. The Rapporteur takes this opportunity to express his warm thanks to the Japanese Parliament and Government for their great hospitality during the visit, and welcomes the very fruitful exchanges of view the Sub-Committee had with so many representatives of political and economic life at the highest level, including the members of the Japan-Council of Europe Parliamentary Friendship League, chaired by Mr Nakayama. Without such frank and honest collaboration, this report would not have been possible.

4. Nevertheless, the Rapporteur naturally takes full responsibility for its content. Lastly, he would like to thank, for their various contributions to the report, his colleagues on the Sub-Committee for International Economic Relations with whom he undertook the visit to Japan, as well as all the members of the Committee on Economic Affairs and Development in their various readings of the draft report in early 1998. The report is also aimed at improving Europeans' knowledge of Japanese society, strengthening co-operation between Europe and Japan, particularly as regards trade and investment, and emphasising the need to take sufficiently co-ordinated action in order to provide assistance to developing countries and the countries in transition of Central and Eastern Europe, including Russia. It should be noted in this connection that Japan is one of the main contributors to the International Monetary Fund, the World Bank, the European Bank for Reconstruction and Development and the Asian Development Bank.

5. After the second world war Japan experienced unprecedented economic development and even became the leading creditor in the world. Characterised by high population density and extremely limited natural resources, "the country of the economic miracle" fought hard to create its comparative advantage, based on ability to manage scarcity, with the primary purpose of seeking efficiency and mastering technology. This "strategy of resources" enabled Japan to develop and assert itself as a world economic power.

6. Under the impetus of a common will, the Japanese people gradually mastered the sources of development. Japan made great progress with respect to technology and production techniques, innovation and quality (thus enabling it to improve productivity), as well as the collection, circulation and exploitation of information at company, country and world levels. In addition, Japan realised very early the importance of the notion of marketing and the need to set up a motivation system within companies promoting the introduction of a very strong enterprise culture. Lastly, flexibility and long-term strategies designed to conquer foreign markets and strengthen the technological, commercial and financial power of its companies were two other key factors of its success. The extremely high growth rates the Japanese economy recorded during this period, associated with a large accumulation of capital, enabled it to increase its standard of living and maximise the purchasing power of its inhabitants.

7. In September 1985, after Japan had signed the Plaza Agreements, the yen rose strongly, which resulted in extremely low interest rates. There then began a period of general euphoria. Taking advantage of the highly advantageous funding granted by the banks and non-banking financial institutions - which are 80 per cent financed by the banks, all the risks thus being transferred to the latter -, Japanese businesses, whose confidence was strengthened by great expansion (growth was indeed even higher than forecast from November 1986 until 1990) and the increasing power of their country in the world economy, made ever greater, sometimes risky investments, a large proportion of which went into the property market and abroad.

8. The wave of optimism was then rapidly transmitted to private individuals who also made sometimes excessive investments, particularly through share-buying. This stock market hysteria led to a constant rise in share prices, which was thought to be infinite, and the idea that "trees can grow sky-high" emerged, reflecting the euphoria then reigning in Japan.

9. In 1990, however, it became clear that the economy had over-heated, the result being the bursting of the financial bubble and the collapse of the stock market. There then followed a sharp fall in property and share prices; the scale of the crisis is remarkable since the Nikkei index fell from 38,915 on 31/12/1989 to 20,221 on 1/10/1990, and fell still further in 1992. This sudden drop in the value of stock market and property assets reduced the wealth of the Japanese community by almost 10 per cent.

10. Thus Japan began the 1990s with serious worries about the future of its economy. In 1991 the Japanese economy entered a phase of adjustment; there was a slow-down in the sale of durable goods and the planning of building programmes, and it was in 1992 that the economy recorded the lowest growth since 1974.

11. This crisis therefore marked the end of expectations of an upward trend, destroying the public's firm confidence in the economy and leading to a withdrawal by economic operators after a period of over-investment and over-equipment. The fall-out from the bursting of the speculative bubble was serious, particularly for Japanese public finances, which deteriorated strongly. The banks and other financial institutions were weakened and incapable of playing their role of funding the economy, tottering under a considerable mass of bad debts - corresponding to loans designed to finance the numerous investments made during the period of euphoria - which have not been collected and perhaps never will be. As for firms, they are faced with excess capacity and staff. Lastly, after the yen had steadily appreciated to reach a record rate of 80 to the dollar in April 1995 - as compared with 240 to the dollar in 1985 -, the competitiveness of Japanese products was undermined, thus penalising exports, but promoting foreign investment and imports.

12. Moreover, at the end of the cold war and the communist hold over Central Asia and part of Europe, Japan found itself facing a more unstable environment, particularly with the continuation of tensions in the Korean peninsula. Furthermore, the rapid expansion of the economies of East and South-east Asia, such as Vietnam, the Republic of Korea and China, which began their industrial development and were recording extremely high growth rates, accentuated the economic vulnerability of Japan, which imports 70 per cent of its foodstuffs and almost all its energy, making it highly dependent on trade with the region and the rest of the world.

13. Japan is now, therefore, confronted with a series of difficulties. Unlike the two oil shocks that affected the world economy in the 1970s, which Japan easily overcame, the source of the problem of the bursting of the financial bubble is endogenous and the Japanese economy is less able to recover from it. The financial crisis associated with the rise in power of the other countries and areas of the region - particularly, Malaysia, Singapore, Hong Kong and Taiwan - have thus revealed dysfunctionings and brought out a number of structural problems in Japanese society. Japanese success, which was for long based on special structural and institutional characteristics, is now being called into question. Indeed, the special characteristics which promoted Japan's considerable growth, can now be seen as rigidities and even handicaps to the recovery of the country's economy, now settled into an unprecedented recession.

II. PROBLEMS AND DIFFICULTIES FACED BY JAPAN OVER THE LAST FEW YEARS

14. Despite recourse to classic remedies such as public spending, tax reduction and the cutting of interest rates, the recession has continued and proved more serious than forecast, as it was mainly due to structural factors. In a white paper published on 26 July 1996, the Economic Planning Agency therefore called into question Japan's industrial structure, characterised by a high degree of heterogeneity as regards the efficiency of businesses. In Japan, profitable, competitive industries co-exist with others that are less so, and with yet others that are relatively inefficient, virtually absent from international markets and extremely sensitive to sudden fluctuations in exchange rates. The Government, which still controls almost half of Japan's economic activity - in particular, by setting the market entry rules and product prices -, has always encouraged these differences in productivity, promoting some sectors or branches of industry at the expense of others. Now, however, with the increasing internal and external pressures, greater freedom of enterprise and further liberalisation of trade have become essential.

15. Furthermore, the Economic Planning Agency has also challenged the "Japanese-style” economic system. Thus, structural obstacles to Japanese recovery include employment for life, which has for long contributed to the low unemployment rate, the system of the central bank promoting the setting up of close, lasting relationships between banks and businesses, the "keiretsu" system (huge networks of businesses organised round a bank, linked with each other through cross-investment and providing the exclusive link between all the stages of the commercial chain, from supplies and financing to transformation and distribution; they exercise their monopoly not only in relation to foreign companies wishing to gain access to the Japanese market, but also in relation to domestic businesses), government industrial policy giving the impression of being relatively protectionist, and an education system based on memorisation of a mass of knowledge rather than on thinking, creativity, individuality and personal research.

16. In addition, the declining rates of yield, with the increase in the number of pensioners and the ageing of the Japanese population, is likely to have a strong effect on savings and hence investment, as in the long run it will result in a slow-down in growth. Lastly, the situation has been further aggravated by the instability of political life, bureaucracy and corruption. Several of those who spoke to the Sub-Committee even said that without profound reforms in all these areas, it would be difficult for Japan to recover.

17. As Mr Shimamoto, Director of International Relations of the Employers' Council, emphasised, for all these reasons an in-depth reform, the key-word of which is deregulation, has become urgently necessary in Japan. Thus, since 1993, under the impetus of the new Japanese government headed by the leader of the Japan New Party, Morihoro Hosokawa, which succeeded the Liberal Democratic Party (LDP) that had led the country for thirty-eight years, several recovery plans - providing for the implementation of more than two thousand measures - have been drawn up. Through deregulation and economic restructuring, the new political authority endeavoured to reduce state intervention in the economy and break the "iron triangle" involving politicians, bureaucrats and businessmen. Although the LDP has again been in power since 1996, deregulation is continuing, though, without showing any significant results.

18. The main need is to promote economic expansion, intensify competition, increase Japan's role on the international economic scene, enable it to preserve industry competitive at international level and improve foreign companies' access to the Japanese market. Simplification of the various regulatory procedures and constraints, whose scale is estimated at almost two thousand laws and regulations crushing the Japanese economy, would result in a fall in retail prices, and hence a pick-up in consumption and imports - which would reduce conflicts with Japan's trading partners, in particular the United States – as well as in more stable exchange rates.

19. The success of the liberalisation programme, whose purpose is "freedom as a matter of principle, regulation in exceptional cases", is certain but, according to some people, is causing serious misgivings among part of the bureaucracy, and it will therefore be a long time before its practical effects are felt. Some progress has, however, already been made. For example, the distribution sector, characterised by its weakness in comparison with wholesalers and manufacturers and previously considered a non-tariff barrier to the entry of foreign products, has proved to be a complex, inefficient system. The multiplicity of intermediaries, the large number of small businesses, the extreme density of the system and the existence of a financial link between retailers and wholesalers have favoured the setting of very high prices. It is for this reason that, under pressure from consumers who are increasingly attentive to cost and less attracted by luxury goods, the deregulation of the system began in 1991 with the amendment of legislation on trade, the ultimate goal being the elimination of all such restrictions, such as obstacles to entry and price regulation. Consequently, small shops are now disappearing and there is a boom in the largest structures conducting diversified activities and dominated by keen competition, the effect being a fall in prices. In addition, there is improved communication between manufacturers and distributors, who refuse to put up with "suggested" prices.

20. With respect to the energy sector, greater freedom in electricity company supply and the liberalisation of imports of refined petroleum products have resulted in a fall in prices as well as increased competition in these two sectors. As for the financial sector, it has also made progress towards deregulation, in particular by the recently accepted possibility for foreign companies to manage pension funds, the yields offered by national life assurance companies being considered too low by the Japanese public. Easing of the regulation of transfrontier transactions should, furthermore, promote Japanese loans and investment abroad and thus stimulate yen sales against other currencies.

21. Deregulation should continue in Japan as it is the sole prerequisite for the return to productivity and sustained growth. Further efforts should particularly be made in the following sectors: agriculture, distribution, construction, motor vehicles, the maritime industry, air transport, the human and plant health sector, financial services and telecommunications, with a view to increasing freedom in these areas and thus promoting a fall in prices and increased competition.

22. With respect to trade, the power of Japanese industry reached its apogee in the1970s. Having concentrated its activity on high value-added and high-technology products and fostering constant integration of the new technologies thanks to considerable research and development efforts, Japan has proved remarkably competitive. The country was for long protectionist and vigorously promoted the export of its high-technology goods, importing only raw materials and intermediate products for the manufacture of goods on Japanese soil. This attitude contributed to the achievement of an extremely large trade surplus with other countries, in particular with Europe and the United States. Greater openness to the outside and fuller access to the Japanese market for foreign businesses then became necessary in order to redress the trade balance.

23. Following the dialogue with its main trading partners, particularly the United States and Europe and, through them, the World Trade Organisation (WTO), Japan now seems more aware of the role it has to play in maintaining a stable, open world trade system. Firmly committed to deregulating its structures and liberalising its trade policy, it now seems to understand more fully the need to lay less emphasis on export-driven growth and more on that driven by internal demand, on harmonising its commercial and industrial structures with international standards and on promoting imports of manufactured goods and services.

24. Thus, prompted by GATT and, more recently, by the WTO, Japan has gradually lowered customs duties which no longer constitute obstacles to trade. However, as regards non-tariff obstacles, restrictions remain, particularly in terms of testing and certification, concerning which Japan has not yet accepted all international norms and procedures, which presents serious problems for all countries trading with it. On the other hand, as Mr Takebe, Chairperson of the Committee on Trade and Industry of the House of Representatives, pointed out, the anti-trust legislation designed to combat monopolies and abuses of dominant positions has been strengthened, particularly with respect to the hold over the economy of the keiretsu which have gradually lost their power.

25. This wish to liberalise the economy favoured the reduction of Japan's trade surplus, until a new increase occurred at the end of 1997. It fell by more than a third in 1996 to its lowest level for thirteen years. Three factors have contributed to a greater balance of Japan's foreign trade: the opening of the Japanese market to foreign products facilitated by deregulation, continuing relocation - for the first time, Japan's trade surplus with Asia fell in 1996 - and the increase in the price of petroleum products with the rise of the dollar.

26. However, although Japan seems to be on the right path with respect to liberalisation of trade, so that it can no longer be accused of violating the principle of mutual non-discrimination instituted by GATT and the WTO, it still needs to combat and eliminate restrictions on Japanese exports, as well as the purchasing obligations placed on Japanese businesses, imposed unilaterally by a number of States, to which Japan has had to conform on pain of reprisals - in particular by the United States.

27. As regards foreign direct investment, Japan seems to have preferred to import foreign technology and management skills through the exploitation of licences. In addition to linguistic and cultural barriers, the predominance of traditional and opaque trade relations (including the "keiretsu" practice) has often discouraged foreign businesses wishing to penetrate the Japanese market. In addition, mergers and acquisitions of Japanese businesses by foreign companies are difficult and rare. Lastly, the principle of guaranteed employment for life does not encourage Japanese workers to join a foreign company on Japanese soil.

28. But thanks to the greater openness of the Japanese market and the genuine determination of the new Government to deregulate the economy, foreign investment in Japan should slowly increase. The long-standing scepticism in the country about the Government's will for change is no longer relevant, and foreign investors are drawing up more and more expansion plans with a view to future penetration of the Japanese market in sectors as diverse as finance, retail trade and the media.

29. Foreign direct investment from Japanese companies is now also strongly increasing, after a period of retrenchment following the bursting of the financial bubble, particularly in Asia (above all China) and the United States, as well as in Europe, particularly central and eastern Europe. As Mr Ueno, Parliamentary Deputy Minister for International Trade and Industry, remarked, in the face of a steady appreciation of the yen, after margins and foreign orders had fallen, Japanese businesses also resumed their policy of relocating production, mainly to Asia – in particular China, where, as Mr Machida, Deputy Secretary-General of the Confederation of Japanese Unions (RENGO) pointed out, wage costs are a tenth of those in Japan. Thus, for example, almost 70 per cent of colour television sets and some 30 per cent of video recorders produced by Japanese companies are manufactured abroad. On the other hand, as Mr Machida emphasised, this increased relocation is not improving the job market in Japan, which is already fragile, though better than in Europe.

30. The monetary and financial crisis that hit the Japanese economy in 1993 forced the monetary authorities to implement a more flexible policy. For this reason, short-term interest rates have been extremely low since September 1995, the Bank of Japan's intervention rate having been reduced to 0.5 per cent. Long-term rates have, furthermore, also fallen significantly, to almost 2.4 per cent in June 1997.

31. In addition, the yen, after reaching a record level of 80 to the dollar in April 1995, then fell back to reach 130 to the dollar in December 1997, which has favoured economic recovery – led particularly by exports. The increased flexibility of monetary conditions and, above all, the fall in real short-term interest rates has contributed to increasing demand in the private sector, and to a pick-up in the large manufacturing companies sector, where profits have risen, thus promoting investment.

32. One of the most serious results of the bursting of the financial "bubble" was probably the considerable number of bad debts accumulated by the financial sector, particularly by property credit companies - still called housing loan companies or "jusen" - and the other non-affiliated credit institutions. The Government has set up a plan to liquidate the "jusen", which provides for the majority of these bad debts to be absorbed by the major banks giving up their rights to the sums lent; others will be borne by the financial establishments of the agricultural sector which lent them a great deal, while the remainder will be borne by taxpayers through public funds. More recently, in December 1997, the Ministry of Finance stated that it would soon announce a broader definition of "bad debts", estimated at almost eighty billion yen, or 12 per cent of total loans.

33. The fall in interest rates in 1995 led to a significant increase in the operating profits of the banks - more than 70 per cent -, thus enabling them to reconstitute their equity capital, which had been eroded by the mass of unproductive debts. The effect of the financial crisis has therefore been mitigated as the major banks have been able to increase their provisions for bad debts and write off a considerable volume of such debts in the context of the liquidation plan for the jusen; furthermore, the fall in the interest rate enabled them to revalue a proportion of their investment portfolios, which, together with the previous phenomenon, has helped limit their losses after tax.

34. Furthermore, the financial crisis made the monetary authorities aware of the need to set up a banking system closer to market forces and mechanisms, operating according to the principles of competition. The aim is to ensure that the future banking system is more stable and more efficient, in particular by increasing transparency regarding information on banks' accounts, providing data on stock market transactions and credits, the complete consolidation of the accounts of subsidiaries and the publication of figures on the residual value of unproductive debts. Also desirable are improved profitability of the banking system, a strengthening of the insurance system for deposits, and closer monitoring of the health of banks by depositors, on the one hand, and by an independent monitoring body, on the other. The Ministry of Finance is all-powerful and its officials seem to direct banks virtually as they wish. A form of deregulation involving even, perhaps, the dismembering of the Ministry of Finance is therefore being examined and should enable the banks to act with greater autonomy and responsibility.

35. Considerable progress in this area was made in June 1997 when the Japanese Parliament passed new legislation on the Bank of Japan - whose current regulations date from the second world war - which will come into force on 1 April 1998 and is designed to adapt the bank to the new realities of the Japanese economic and financial environment. This reform, which is based on two key-words - independence and transparency -, represents a decisive step in the reconstruction of the Japanese financial system and, combined with healthy, appropriate management of financial and monetary policies by the authorities concerned, should restore the confidence of Japanese economic operators in their financial system.

36. Significant risks still remain, but if Japan continues its efforts to stabilise its banking and financial systems and actively combat excessive bureaucracy, international confidence in Japanese banks and economic stability should be restored. Lastly, aligning financial procedures with international standards should transform Tokyo into a world financial market and the yen into a benchmark currency, thus enabling Japan to strengthen its manufacturing and commercial role, its attractiveness to foreigners and hence its position in Asia compared with the United States and the dollar.

37. It nonetheless remains the case that the failures of the former Japanese system and particularly the dire consequences of the financial crisis were costly and painful. Thus, the deep recession that followed the bursting of the financial bubble led the Government to implement between 1992 and 1995 economic programmes designed to stimulate economic activity. This expansionary budgetary policy, characterised by a reduction in taxes - particularly a temporary reduction in income tax -, increased public investment, measures in favour of small and medium-sized businesses, promotion of investment by the private sector - including tax incentives and credit facilities - promotion of employment, etc., combined with more flexible monetary conditions, moderated the scale of the recession and thus facilitated recovery. It also, however, increased public deficits - to 5.1 per cent of GDP - as well as the gross public debt - to 90 per cent of GDP.

38. It was therefore essential to try to stabilise the budget, particularly with regard to a pension system which, although still in surplus, may in the medium term weigh heavily on public finances as a result of the rapid ageing of the population. This was why, in order to reduce public deficits and ensure greater stability of the social security system in the medium term, a policy of budgetary austerity was introduced in 1996, supported by further measures put in place in April 1997, providing for an increase in the tax on consumption from 3 to 5 per cent and the abolition of the temporary tax reduction. At the same time as these two types of measures, it also proved necessary to reduce some types of spending concerning support of the national pension system, public investment and subsidies to local authorities and state-owned companies. Furthermore, the Japanese authorities realised that an increase in the efficiency of the public sector and the privatisation of some financial institutions was conducive to an improvement in the country's budgetary situation.

39. It now seems that, although the expansionary budgetary policy reduced the gravity of the recession, it has not led to sustained recovery. The public deficit remains extremely high and consumer spending and company investment have fallen. For that reason one may wonder whether the fiscal austerity policy was too rapid and too sudden. It therefore seems that a great deal remains to be done as regards budgetary stabilisation in Japan, which should be a priority in the coming years.

40. With respect to the employment market situation, despite the great appreciation of the yen which marked the 1980s and despite the current crisis of the Japanese economy, unemployment has always been contained. Although at a record level (it is now about 3.5 per cent, as against 2.1 per cent in 1991), it is fairly low compared with that of the other industrialised OECD countries - with the exception of the United States and the United Kingdom. (Indeed, some members of the Committee on Economic Affairs and Development have questioned whether such low unemployment figures adequately reflect the real situation, especially the country now describes itself as being in near economic stagnation. For Europe, an unemployment rate of less than 4% would be considered very low and to risk leading to an overheating of the economy. Other members drew attention to the particularly strong work ethic in Japan, and to the strong contribution by women to the Japanese economy. These are important issues that will, however, not be dealt with in detail in the present report. )

41. As flexibility is ensured by wages and working time, employers seldom resort to redundancies in periods of economic slow-down. The system of guaranteed employment for life, combined with wages based on length of service, has proved very effective in preserving the Japanese employment market during the various external shocks that have hit the country. However, this efficiency, based on strong growth and expansion of the working population, is now seriously in question at a time when, as Mr Ueno stressed, Japan is facing a new, worrying phenomenon: the rapid ageing of the population. Indeed, it is forecast that in fifteen years’ time Japanese society will have two workers for each retired person, and this situation is expected to deteriorate still further in the longer term.

42. Thus, in addition to having damaging consequences on savings and investment and hence on Japanese competitiveness, the ageing of the population is also likely to affect public finances: by increasing health and social needs, it will probably increase Japan's already high budget deficit. In the long run, having an impact on both public and private budgets, it could lead to a serious deterioration of the trade balance and thereby compromise hopes of a return to growth.

43. It is therefore essential to review the social protection mechanism. For this purpose, the Japanese Government recently drew up a programme providing for the reform of the public pension system as well as the pension system of employees in the private sector: it is planned to double the rate of pension contributions over the next twenty years and to index retirement pensions to post-tax incomes. Lastly, the programme stresses the importance of encouraging people over the age of sixty to work in order to support the pension system and avoid shortages of manpower by increasing the number of workers proportionately to pensioners. The retirement age has therefore been raised from sixty to sixty-five and the system of taking account of the level of resources for pension purposes modified by making the ceiling on pensions more flexible.

44. Furthermore, in the long term, the evolution of the increasingly unstable economic environment requires greater worker mobility which should result in an increase in job turnover. Greater ability to adjust and adapt and improved employment flexibility are therefore indispensable if the Japanese economy is to be able to respond more flexibly to changes in the economic environment and maintain its dynamism, despite the transformation of the industrial structure. To this end, it is important to strengthen the role of the private employment agencies and temporary work agencies, and to do so in co-operation with employers and trade unions.

45. In addition, in order not to penalise workers who change jobs, the transferability of retirement pensions from one job to another should be authorised. However, as Mr Machida very wisely emphasised, this ineluctable reform of the employment market must not take place at the expense of workers and security of employment, and Japan must beware of destabilising employment and workers. For this reason, it seems essential to set up a guaranteed minimum level of protection for citizens and a transparent, equitable system of remuneration.

46. Because of the above-mentioned change in the employment market, the Japanese training system also possesses distinctive characteristics. Although the level of education in schools and other training institutes is of very high quality, the majority of the Japanese workforce has up to now enjoyed "on the job" training within the company, which generally remains the same until retirement age. Now, however, with increased instability on the employment market and as the working population becomes more mobile, the workforce's skills and competencies need to be increased, as "on the job" training is no longer satisfactory in the context of more frequent job changes.

47. Demand for supplementary training has therefore arisen. The education system must be improved in such a way as to encourage the spirit of enterprise, stimulate individual creativity and the ability to adapt to a changing work context. In addition, the quality and availability of training outside firms should be enhanced. It also seems necessary to establish a mechanism for the systematic recognition of skills on the labour market and within the education system in order to foster mobility of the labour force and promote equality of treatment among employees.

48. Furthermore, Japanese potential for innovation and creativity could be strengthened through an effort in the field of technology and basic research. Priority should also be given to further increasing the efficiency of public expenditure on science and technology. The foundations for future innovation need to be laid, above all in the face of increasing competition from the countries of South-east Asia. To this end, in July 1996 the Government drew up a five-year plan designed to improve the environment of research and development and develop basic research financed from public funds. Lastly, Japan could strengthen its participation in the information society by refining its computer software, multimedia resources, etc.

49. By causing a large number of corporate bankruptcies, the financial crisis of 1993 also exposed certain weaknesses in Japanese company management methods. Because Japanese limited-liability companies are characterised by separation of ownership and control, there is a risk that managers - whose primary goal is to ensure the perpetuation of the company - will not follow the objectives pursued by shareholders, i.e. maximisation of profits, the residue of which is redistributed among them. However, these differences of interest between managers and shareholders did not have any negative effects on the Japanese economy until the 1980s. Since the second world war, it is banks, particularly the principal ones, that have exercised control over companies in the form of shareholdings and loans. The role of the major banks is therefore fundamental since, as they are the main creditors of companies, they monitor the way in which companies are managed as well as the results of their activities; they also monitor companies’ financial health and assume responsibility for restructurings and reorganisations whenever necessary.

50. The financial deregulation of the 1980s, however, increased competition on the financial market, thus encouraging major companies to seek funding on the capital market and reduce their requests for bank loans, thus relegating banks into the background. Furthermore, the difficulties they experienced after the financial crisis of 1993, particularly as a result of the bankruptcy of the jusens, combined with the fierce competition on the financial market since deregulation, led the banks - ever present but less involved in the management of companies - to abandon their practice of bailing out companies in difficulty, and this also led them to relax their monitoring.

51. Thus, in order to supplement the principal bank system, which proved somewhat inefficient in terms of the control and surveillance of companies at the time of the financial crisis, a new, more diversified form of management seems desirable. The system of company management needs to be improved in order to make companies more independent and managers more accountable to shareholders. On the one hand, shareholders' rights should be increased: in particular, they should be provided with a better flow of information concerning company results. On the other hand, managers should pay more attention to share yields and particularly the rate of return on capital. In addition, stock market assessment of assets and the use of consolidated accounts for groups of companies seem necessary. Furthermore, financial institutions other than the banks could be involved in managing companies; thus, insurance companies and fund management companies could play a more active part in managing companies. Lastly, it is essential that new supervisory mechanisms be set up, such as a system of paying managers according to their performance, or the creation of financial holding companies - still prohibited under the anti-trust law - which would replace the principal bank in the monitoring of a company.

III. THE POTENTIAL FOR FURTHER CLOSER CO-OPERATION BETWEEN EUROPE AND JAPAN

52. The firm wish for co-operation between the European Union (EU) and Japan was formalised in July 1991 at The Hague by the signing of a joint declaration between the EU and Japan. This impetus, designed to foster the introduction of a prosperous, strong global economy based on free trade, gave rise to many initiatives aimed at promoting co-operation in fields as varied as political issues, trade, industry, science and technology, development aid and environmental problems.

53. In a situation of increasing international economic interdependence, both the EU and Japan are aware of the need to pursue a political dialogue. The prime goal of their co-operation in this area is maintaining peace, democratic stability and prosperity, as well as promoting respect for human rights at global level. It should be mentioned in this connection that a strengthening of the political partnership between the continents of Europe and Asia was envisaged at the first Asia-Europe Meeting (ASEM) in Bangkok in March 1996. Furthermore, Europe and Japan are in favour of enlarging ASEAN with a view to establishing an extended area of co-operation and peace. Several members of the Committee on Economic Affairs and Development referred to the importance of ASEAN in the future, notwithstanding the present financial crisis in the region, and to the contribution that a reformed Japanese economy could make to it.

54. Thus, as stated by Mr Komura, State Secretary for Foreign Affairs, both Japan and the EU desire the further integration of the People's Republic of China and North Korea into the international community at various levels and, in North Korea's case, at political level. This is why the two regions have an important role to play, particularly in order to promote the re-establishment of peace in the Korean peninsula and the preservation of Hong Kong's place as a financial and economic centre in the region, especially following its transition to its new status as a Special Administrative Region of China. In addition, active involvement in political, economic and democratic reconstruction in Cambodia, the former communist countries of Central and Eastern Europe and the Middle East will have positive consequences for the restoration of a prosperous and secure international environment.

55. As regards trade relations between the EU and Japan, both sides have worked to promote and facilitate exchanges of goods and investment as well as economic co-operation. Thus, as Mr Hasegawa, a member of the Keidanren (Federation of Economic Organisations) pointed out, there are fewer constraints on foreign investment. In addition, trade promotion campaigns, such as EU Gateway to Japan, designed to encourage European exports to the Japanese market, have been implemented. These efforts, associated with the rise in the price of oil, have contributed to a slight fall in Japan's trade surplus with the EU. The large imbalance which subsists in investment is resulting in frequent exchanges of views concerning the signing of a Multilateral Agreement on Investment within the framework of OECD, designed to promote multilateral capital flows. Lastly, negotiations are also taking place on the conclusion with Japan of the Bilateral Mutual Recognition Agreement for Testing and Certification of Products - particularly as regards construction and pharmaceutical products.

56. Moreover, the WTO, created in 1995 to succeed GATT, has introduced a number of regulations and principles to promote an open, free and stable trading system. Europe and Japan, two pillars of the Organisation, must therefore foster application of these regulations. There is a will for the two regions to work in close collaboration in order to increase the liberalisation of world trade and set up a multilateral trading system because, as Mr Hasegawa emphasised, free and open trade creates mutual advantages.

57. Thus, with a view to promoting universal application of the WTO regulations, a number of resolutions have been passed. We may cite as examples the acceptance of the principle of national treatment and the conclusion of the agreement on financial services providing for a significant improvement in access to the Japanese market. Lastly, it should be noted that the EU and Japan, with a view to promoting universal application of the WTO regulations, are both aware of the need to extend the multilateral trading system to China and Russia, two emerging economies with considerable trade potential.

58. Moreover, both Europe and Japan are anxious to eliminate poverty and re-establish the prosperity of peoples worldwide, and are therefore very active in the field of development aid. As the EU provides more than half of total official development aid and Japan about 20%, the need to establish close co-operation between the two aid providers has become essential in order to increase and strengthen the efficiency of such assistance. Sustained co-operation has therefore been established between the two regions, permitting improved co-ordination of actions and projects and enabling aid to be channelled towards the neediest countries.

59. Sub-Saharan Africa and South Asia are at the heart of debate and action in this sector and represent a challenge for both Europe and Japan, which are working in co-operation with regard to food security policy, human resource development, support for education and health policies, respect for human rights, environment protection and sustainable development. It should be mentioned that co-operation in this area should be constantly strengthened and that, for this purpose, significant progress and new initiatives are expected of the Second Tokyo International Conference on African Development (TICAD II ), which will be held in 1998. As regards humanitarian aid, efforts to co-operate and co-ordinate operations have also been undertaken with a view to improving efficiency. Information exchanges regarding practical aid have in particular been effected.

60. In addition, both Europe and Japan are very concerned by the difficulties encountered by the central and eastern European countries (CEECs) in transition towards a market economy. This is why they are also co-operating in the field of assistance to these states, in particular as regards support for the economic reform they have undertaken. The CEECs represent a considerable market and have great potential for economic and commercial exchange. Therefore their gradual opening up to, and integration in, the global trading system would promote their economic growth, as well as create an immense market offering great commercial potential for its possible partners - Europe and Japan, for example.

61. It is for this reason that the two regions are investing massively in the CEECs and would like more states to open their markets to exports from these nascent democracies, enabling them to become even stronger trading partners. Accordingly, Japan is in particular continuing its efforts to enable exports from Central and Eastern Europe to penetrate the Japanese market. It should also be mentioned that Japan, with the EU, is one of the countries most involved in aid to the Balkan region.

62. Japan has a crucial role to play in supporting economic development in the territories governed by the Palestinian Authority. The integration of these territories into international trade and the world economy is necessary in order to re-establish economic growth and hence greater democratic stability throughout the region.

63. Furthermore, as regards ecology, now that the problems of the deterioration of the environment and the concept of sustainable development are priority issues worldwide, Europe and Japan have a decisive role to play in restoring a healthier society for future generations. For this purpose, as the 1992 Rio Conference emphasised, common, concerted action to protect the environment is highly desirable. As Mr Ueno stressed, Japan is very active in studying climate change and possible preventive measures in this field.

64. Thus, the Third Session of the Conference of the Parties to the United Nations Framework Convention on Climate Change was held in Kyoto in December 1997. At this Session, industrialised countries, including Japan and European countries, committed themselves to reducing their emissions by the period 2008 to 2012. In order to achieve stringent emission reduction beyond the year 2000, both Japan and European countries intend to take concrete, comprehensive and effective action. As Europe is itself very involved in environment protection issues, its increased participation in Japan's initiatives and work will make it possible to strengthen the efficacy of the action taken.

65. Many other fields are the subject of initiatives and actions negotiated between the two regions. The following may be cited:

(i) co-operation in the industrial sphere designed to maintain long-term investment, promote initiatives by the industrial sector and improve relations between companies through training programmes and exchanges of industrial executives, scientists and civil servants;

(ii) co-operation in science and technology promoting large-scale science projects such as the Human Frontier Science Programme (HFSP) and the International Thermo-nuclear Experimental Reactor (ITER), as well as providing for transfers of technology and know-how - Japan being a big exporter in this field;

(iii) co-operation concerning information and communication technologies, in particular problems connected with the electronics trade;

(iv) co-operation concerning the use of energy for peaceful purposes;

(v) co-operation in the transport field;

(vi) co-operation on macro-economic issues and financial problems;

(vii) co-operation on social affairs and, in particular, social protection;

(viii) co-operation on culture and education, notably to develop university

exchange programmes;

(ix) co-operation in combating corruption, terrorism, economic crime and drugs.

66. Members of the Committee on Economic Affairs and Development in this context pointed to Japan’s strong reliance on nuclear power, with over 40 nuclear reactors in operation. Apart from safety concerns, one has a right to wonder, they said, if all of them are needed, especially in the event of a recession. They also maintained that it is important for neighbouring countries to be able to share any Japanese surpluses and know-how in this field.

67. In the future, Japan and the EU - and indeed the Europe of 40 - must strive to continue and strengthen co-operation, dialogue and the co-ordination of their actions. As co-operation is a decisive phase for deepening their relations, the two parties should in particular endeavour to develop the search for joint solutions to settle international conflicts, promote equitable access to European and Japanese markets and support the efforts made by the developing countries.

IV. CONCLUDING REMARKS: THE SHADOW CAST BY THE SOUTH-EAST ASIAN FINANCIAL CRISIS

68. As this report is being concluded (in February 1998), the South-east Asian financial crisis that erupted in the later half of 1997 has temporarily retreated from the headlines. This does not mean that it is over. As far as Japan is concerned, it is in no danger of having to appeal to the International Monetary Fund for help. Japan is the world's largest creditor nation, with around one trillion dollars more owed to it than it owes to others. The country has an enormous trade surplus and impressive foreign exchange reserves.

69. This Rapporteur, and Assembly with him, are impressed with all these achievements. Yet it would be unfair to our Japanese friends not to point out, as they themselves did so forthrightly during our visit to Japan, that the country's difficulties are caused in large measure by a relationship among bureaucrats, bankers, industry and the political establishment that could be sounder. And while this is of course an internal matter for Japan, with which it is not for a part of the world as distant as Europe to interfere, the fact remains that the economic health of the world is now critically dependent on that of Japan.

70. For one thing, our Japanese friends recognise that the country's highly regulated and largely import-resistant system has been allowed artificially to protect a large chunk of the domestically oriented part of the economy. Loans to this sector seem to have been based as much on personal relationships, corporate cross ownership and administrative indications as on competitiveness.

71. It is now possible that Japan's falling stock market, which has lost over half of its 1989 value, will cause Japanese banks to come under renewed pressure. Indeed, the Japanese government in early 1998 disclosed that its banks are saddled with 580 billion dollars in bad or tarnished debt, a figure more than double the sum disclosed only a few months earlier and underlining the fragility of the world's second largest economy. The estimate of absolutely unrecoverable debts held by banks was given as 87 billion, a figure three times as high as the estimate given three weeks earlier (although this sum represents less than 2% of the nation's 4.7 trillion dollars in outstanding loans).

72. No doubt Japanese banks have been hurt by the financial crises in south Korea and South-east Asia, where they have made many loans. In addition, the Japanese economy seems at present to be in stagnation, a development considered by many observers to be the result of a tax increase which was imposed in the spring of 1997 and which choked consumer spending. (Some members of the Committee on Economic Affairs and Development in this context pointed to the paradox of economic stagnation co-occurring with such large current account surpluses. )

73. Unlike the banks of many other nations, Japanese banks maintain much of their capital in stocks of other companies. As the value of those stocks decline, so do the capital bases of these banks themselves, forcing them to call in loans. However, calling in loans only hurts other firms, forcing some of them into bankruptcy and driving market further down, thus further weakening the banks themselves. In Japan this is known as the "death spiral".

74. It therefore seems high time for resolute action by Japan in order to open up its economy, re-ignite consumer spending and carry out all the other reforms that our Japanese hosts assured us in 1997 were around the corner. This was also the message coming out from the G-7 meeting in London in February 1998. The longer Japan refrains from such action the greater the burden falling on western markets, and in particular the United States. There is a risk that the whole east and South-east Asian region will attempt to ‘export away’ its problems to the United States and Europe.

75. There are, on the other hand, heartening signs. For one thing, the figures on bad loans of Japanese banks have become more explicit of late. The Japanese government seems more determined this time around to deregulate and to enact a tax cut. There is also hope that Prime Minister Hashimoto will present new remedies at the Asia-Europe meeting to be held at the beginning of April 1998, in the form of an economic stimulus package. (Some observers expect it to be a combination of tax cuts and public works ranging from $ 30 billion to $ 50 billion. Whether this will be enough to reignite the economy substantially is, however, uncertain.

76. Furthermore, the WTO in January 1998 published a country study of Japan, in which it commended it on its efforts over the last two years to deregulate and carry out structural reform. The process is reported to be slow but steady, and to include practically all economic activities in agriculture, industry and services (the only notable exception being rice, where protection of domestic production is still very high.) Meanwhile, the OECD in its country study of Japan published in December 1997, predicts a resumption of growth to 2.1% in 1998 and a fall in unemployment to 3.4% in December 1997 from a post-war high of 3.5% in October and November of that year.

77. We must pay tribute to the courage and determination with which Japan has undertaken a fresh series of reforms, involving extensive deregulation in many economic sectors and designed to create a healthy economy, operating more freely according to market principles, while at the same time preserving social cohesion and solidarity.

78. The new difficulties Japanese society is experiencing are, however, a cause for concern. Despite the great hopes of a sustainable economic recovery, Japan suffered in particular a further significant decline during the second quarter of 1997, its gross domestic product (GDP) falling by 2.9 per cent compared with the previous quarter. This was the largest fall recorded in twenty-three years, and the forecasts for overall growth in 1997 indicate that it will not exceed 1 per cent of GDP.

79. The current slow-down of the Japanese economy may in part be the result of the increase in the tax on consumption - or value-added tax (VAT) -, which rose from 3 to 5 per cent on 1 April 1997, reducing the disposable incomes of households and leading to a sudden collapse in domestic consumption, which had improved after the Government announced the future increase in the tax. Thus, the increase in VAT, combined with the repeal of the tax-reduction measures introduced in 1995, put such pressure on Japanese consumers that domestic consumption will probably remain moderate.

80. It is possible that the Government overestimated the confidence of the private sector as well as the solidity of Japan's economic recovery. It seems that growth was not sufficiently sustainable or firmly established to prevent the fiscal austerity measures, designed to stabilise public finances, from further undermining recovery.

81. Attention should be drawn to the fact that the Japanese economy is divided and that some sectors are more dynamic and have more growth potential than others. A distinction can be drawn between, on the one hand, the largest companies in the manufacturing sector, which are extremely competitive on the international economic scene, and, on the other, the large number of bankruptcies of small and medium-sized companies, which are still experiencing difficulties. Finally, the banking, property and construction sectors, strangled by the bad debts they inherited after the financial bubble burst, are finding it very difficult to recover, and this is weighing upon the Japanese economy as a whole.

82. Now that consumption has fallen, it can be seen that the only force behind Japanese economic growth remains exports. However, the efforts undertaken by the Japanese authorities to foster a reduction in the country's trade surplus should be noted. Furthermore, Japan is now unjustly criticised for the size of this surplus. It should be recalled in this connection that the surplus consists of two components: consumer goods and services.

83. While on the consumer goods side, the Japanese balance of payments is indeed in great surplus, on the services side, there is a serious deficit - indeed, the largest in the world, amounting to 44 per cent with the United States. Thus in the last twelve months Japan's trade surplus has been only 0.6 per cent of GDP, ie almost one-fifth of that of continental Europe which represents 3.2 per cent of its GDP.

84. The present financial crisis in Asia, which began in July 1997 and then shook Indonesia, Thailand, Hong Kong and South Korea in turn, has now begun to affect Japan, the major economic power in Asia. Following the stock market crash which shook the whole Asian region on 27 October 1997 and then reached the United States and Europe, fears about the health of the Japanese financial system have been accentuated.

85. The yen has weakened considerably against the American and German currencies to fall below its lowest level for five years against the dollar in December 1997, namely 130 yen to the dollar. Thus, since the beginning of the crisis in July 1997 the yen has lost almost 10 per cent of its value against the dollar and the Tokyo stock market has fallen by 20 per cent.

86. Because of this fall in the Tokyo market, a large number of financial institutions have found it technically impossible to honour their payments, the solvency ratios of Japanese banks having deteriorated considerably. The accounting system of Japanese banks has played a major role in the problems they are now experiencing. It has allowed them to include in their equity capital a proportion of the potential capital gains of their stock market portfolios.

87. This arrangement worked for a long time, enabling the banks to absorb bad debts. However, an accounting technique of this kind can no longer work effectively when the stock market ceases to be favourable. In November 1997, when the Nikkei fell below 16,000 points - whereas it had reached 39,000 points in November 1989 -, more than half the major Japanese banks recorded losses, and this situation is unlikely to improve in 1998.

88. It is in particular to be feared that the liquidation of the most prestigious Japanese financial institution, the broker Yamaichi, will mark the beginning of a long series of bankruptcies among the country's banks. It seems that the market’s forces - extremely nervous and losing confidence in its financial system - have started to bring about a stabilisation of the Japanese banking sector. In addition, the ending of the "convoy" practice, which consisted in the healthy banks supporting those in difficulty in order to guarantee the survival of the whole Japanese financial system, is gradually producing two groups of banks: on the one hand, those with sufficient provisions; on the other, those falling behind.

89. One can only hope that the whole region will manage to avoid widespread bankruptcy in Asia and that Japan, in particular, will be able to overcome the crisis in its banking system threatened by the collapse of some of its greatest financial institutions, a phenomenon which could have a knock-on effect in Europe and the United States and thus weaken the world financial system.

90. Japan is now confronting an extremely difficult situation: the low level of consumption, the crisis in its financial system and the increasing riskiness of investments in Japan are all handicaps that the Japanese economy must overcome. In addition, these handicaps are accentuated by the slow-down in economic growth in South-east Asia which, following the monetary and stock market crisis which resulted in the fall in currencies in the region, has reduced the competitiveness of Japanese businesses in the region.

91. Several possible solutions seem to be available to Japan to enable it to foster a pick-up in its economic activity. The first resides in the budgetary weapon, which has, however, to a great extent already been used to protect depositors from bank failures and promote the re-establishment of the stability of the financial system. The Bank of Japan thus released 800 billion yen to cover the withdrawals by Yamaichi depositors. Then the risk of a further deterioration of state finances re-emerged and a further increase in the public debt (already 90 per cent of Japanese GDP), despite serious efforts to stabilise the budget. Lack of confidence is all the more justified as the memory of the rescue of the jusens - certainly successful, but at the price of 630 billion yen from the budget - is still present is people's minds.

92. Another means that could have fostered a pick-up in Japanese economic activity is the use of the monetary lever, consisting of a reduction in interest rates. However, as the Japanese discount rate is already at a record low of 0.5 per cent, this solution is hardly realistic.

93. The fragility of the Japanese financial system, associated with a low yield on Japanese assets - the Japanese discount rate being, as we have seen, 0.5 per cent, while American investments offer a return of over 5 per cent -, has resulted, as already mentioned, in a significant fall in the Japanese currency. This reduction therefore seemed inevitable for financial reasons; moreover, a further depreciation of the yen would also meet economic needs by re-establishing the competitiveness of Japanese businesses in the region. This ultimate solution could lead to an improvement in Japan's economic situation. However, the trade conflict with the United States could be revived, as Japan's trade surplus with the United States might increase following a further depreciation of the Japanese currency.

94. Even so, if one considers that the rest of Asia absorbs 40 per cent of Japanese exports and that the financial crisis in the region is likely to cause a reduction in demand for imports by these countries, thus reducing the volume of Japanese exports to Asia, and given that recovery is under way in the United States and that Japanese industry is more competitive than ever, in particular following company restructuring after the speculative bubble burst, Japanese exports to the continents of America and Europe are likely to expand further and hence those continents’ trade balance with Japan may be expected to deteriorate still more.

95. Furthermore, it should not be forgotten that Japan is the biggest creditor in the world and the main financier of the United States payments deficits; Japanese investors, in particular, hold 10 per cent of the volume of American Treasury issues. Therefore, if these investors decided to sell their American stocks in order to remain liquid, an increase in United States interest rates would probably follow - although there would no doubt be other foreign buyers -, thus possibly slowing down economic expansion and causing the American stock market to fall. It should be noted that this risk weighs on all countries of the world, including Europe, which explains the nervousness reigning on all international financial markets. Moreover, the deregulation of Japanese structures, which is still an essential part of the Japanese Government's economic reform, should be actively continued over the next few years.

96. The Rapporteur welcomes the organisation - as Mr Narasaki mentioned in the Enlarged Assembly’s annual debate on OECD and the world economy, during which Japanese parliamentarians eloquently expressed their views on world economic problems - of a Japanese-style financial "big bang" phased over several years (which should begin in 1998 and be completed by the year 2001), providing for the establishment of an efficient financial system and capital market, fostering foreign competition as well as greater autonomy of operators in relation to the Ministry of Finance.

97. We must also encourage the Japanese Government to be sufficiently firm in preparing the "big bang" and, in particular, to carry out a radical restructuring of its economy so as to enable it, above all its financial sector, to recover.

98. The Government's resolve to undertake administrative reform in order to build a free and fair market economy is to be welcomed. So is the progress made with a view to completing the liberalisation and restructuring of industry, which, combined with the deregulation of the financial sector, should restore the confidence of households and private-sector investors and thus encourage them to increase their domestic consumption, which will ultimately help to ensure stable and sustainable Japanese economic growth led more by domestic demand - including demand for imported goods – than by exports. Lastly, the Assembly hopes that Japan will succeed in adapting its great tradition of social welfare to the new, increasingly open world in order to preserve a number of basic values dear to the country, such as social welfare, human rights, freedom of expression and preservation of the environment.

99. As regards trade relations between Europe and Japan, it should be emphasised that, although they are improving as a result of the increase in the European Union's surplus in terms of services and the reduction in its deficit in terms of goods, there is still a significant imbalance between the two regions with regard to foreign direct investment. The special characteristics of the way in which the Japanese business world operates, which means that it takes longer for a company to become firmly established on the Japanese market than in Europe, combined with financial instability and the present weakness of the Japanese economy, are undoubtedly serious handicaps to the establishment of European companies, but it must be observed that too often European companies choose to set up 100 per cent subsidiaries, whereas American companies, for example, choose to work with local partners.

100. The Rapporteur therefore stresses the decisive role of foreign direct investment in the process of world economic integration for businesses wishing to maintain their international competitiveness. This is indeed, an effective means of rationalising the production process and penetrating foreign markets. For this reason, Japan should be encouraged in its policy of openness towards foreign, in particular European, investors, who should intensify their efforts to establish their presence in Japan, which can then serve as a springboard for conquering the rapidly growing emergent Asian economies.

101. For this purpose, European businessmen wishing to gain access to the Japanese market could forge closer links with local firms through the creation of joint companies or joint ventures, for example. This need for active co-operation with Japanese partners is all the more urgent as there is relative disinvestment in the EU on the part of Japan, which now prefers to focus on the newly industrialised countries of Asia and on China.

102 Lastly, rapprochement with Japan should make it possible to increase Europe's weight with respect to other regional co-operation organisations, such as Asia-Pacific Economic Co-operation (APEC), comprising the United States, Japan and the other countries of Asia, and the Association of South-east Asian Nations (ASEAN). In the face of the expansion and rapid growth of the countries of emerging Asia, particularly South-east Asia, which, according to the most recent Prospects for World Economic Growth published by the International Monetary Fund in September 1997, still have great growth potential, despite the monetary crisis that has shaken the region, causing a slowdown in growth and an increase in unemployment, the whole of Europe has an interest in co-operating and working with the whole region.

103. As Japan and the United States are indeed already the main trading partners of the region, it is indispensable for Europe to link up not only with Japan but with the whole region if it is to become integrated into the global economy and take advantage of globalisation and Asian prosperity, which should return once the crisis is over.

104. In conclusion, the Rapporteur therefore hopes that the already intense and productive relations that exist between the wider Europe and Japan, of which the Enlarged Parliamentary Assembly’s annual debates on OECD and the world economy are an example (in particular because of strong Japanese participation), will continue to be strengthened in the future. Lastly, with a view to going beyond the Europe-Japan relationship, the Assembly, agreeing with the remarks of Mr Takebe, stresses the need to improve economic relations at global level - including between the United States, Europe and Japan - which should be approached from a global standpoint and managed by the international community as a whole according to the principles laid down by the WTO.

Reporting committee: Committee on Economic Affairs and Development

Budgetary implications for the Assembly: none

Reference to committee: Doc. 7773 and Reference No. 2183 of 25 April 1997 .

Draft resolution unanimously adopted by the committee on 24 February 1998.

Members of the committee: Mrs Degn (Chairperson), MM. Elo, Bloetzer, Valleix (Vice-Chairmen), Aliko, Andreoli, Barsony, Behrendt, Billing, Mrs Blattmann, MM. Bonet Casas, Brunhart, Mrs Calner, M. Cunliffe, MM. Cusimano (Alternate: Turini), Dumitrescu, Mrs Durrieu, MM. Eyskens, Figel, Frey, Mrs Freyberg, Mrs Frimannsdottir, Mr Galváo Lucas, Mrs Gatterer, MM. Gonzalez Laxe, Lord Grenfell, MM. Gusenbauer, Gylys, Kacin, Kiratlioglu, Kirilov, Kittis, Koucky, Kutznetsov (Alternate: Averchev), Lambergs, Leers, Liapis, Merkushov (Alternate: Gamanyuk), Mitterrand (Alternate: Le Grand), Muravschi, Nothomb, Obuljen, Pereira Coelho (Alternate: Pocas Santos), Poppe, Puche, Rigo, Rippinger (Alternate: Regenwetter), Rutskoy (Alternate: Oorzhak), Sceberras Trigona, Shokhin (Alternate: Shuba), Siebert, Mrs Squarcialupi, Mrs Stepova, Mrs Stoyanova, MM Sungur, Szalay, Telgmaa, Townend, Tripunovski, Upton (Alternate: Connor), Vasile, Verivakis (Alternate: Koulouris), Mrs Verspaget (Alternate: Blaauw), MM. Wielowieyski, Yavorivsky.

N.B. The names of those members present at the meeting are printed in italics.

Secretaries of the committee: MM Torbiörn, Bertozzi and Ms Ramanauskaite.