RISING TO CHALLENGES

Mar 26

Jesper Koll on progress since March 11 and the ROAD beyond Covid-19

By C Bryan Jones

The months following the triple disasters of March 11, 2011, brought great uncertainty and speculation. Now known as the Great East Japan Earthquake and Tsunami and the Fukushima Daiichi nuclear disaster, these tragedies forced us to rethink many aspects of business and policy.

In the May 2011 issue of The ACCJ Journal, economist Jesper Koll, then the Japan director of research at JP Morgan, penned an article entitled “From Disaster to a New Japan: Detailing the Economic Path Recovery for Post-Tohoku Earthquake Japan.” In the story, he asked whether the disasters would accelerate, delay, or possibly reverse the deep fundamental trends that had been shaping Japan’s economy over the prior decade.

To mark the 10th anniversary of that fateful day, I sat down with Koll, who is now senior advisor at hedged equity fund Wisdom Tree Japan, to find out how his predictions played out and whether the coronavirus pandemic might bring the same sort of transformations.

How do you feel things have evolved since March 11?

Glancing over the article a decade later, the bottom line is that, while I was optimistic then, I wish I’d been even more optimistic. I actually believe the disaster was a gigantic catalyst for the rise of a new Japan.

Some of the predictions did come true. The stock market bottomed out six or seven months after the disasters at about 8,000 on the Nikkei. It has since roared back to 30,000. And this rise in the stock market has been accompanied by a powerful upturn in earnings.

If you look at corporate earnings per share (EPS), at the end of 2011 the average value stood at about 30; by end-2018 it had surged from 30 to 125. So, Japan’s market recovery is not a bubble blown up by Bank of Japan liquidity, but based on solid fundamentals.

Did corporate Japan actually restructure and change?

I believe the answer is absolutely, yes. There’s real substance behind what has happened in corporate Japan since 2011, and I do think that it was clearly the March disasters that were the catalyst.

An added factor were the floods in Thailand, which happened soon after March 11. A lot of industries—particularly automotive and parts—were very dependent on Thailand. The two disasters compounded, and corporate leaders were left with no choice but to rebuild and restructure in both Japan and Asia.

We often forget that 2011 was really the first time that worries about supply chains, and the need for supply chains to be diversified, came through; and the destruction in Japan and in Asia allowed leaders to make drastic changes in probably a much more decisive way than under “business as usual” conditions.

The results are impressive: 10 years ago, at the time of the earthquake, about 50 percent of the profits from Japanese corporations came either from exports or offshore production. Over the past 10 years, that has grown to 63 percent. You’ve seen the drive particularly into Asia–Pacific and the People’s Republic of China, with corporate Japan becoming more global in general, more Asian in particular.

Would that have happened without the earthquake? I think absolutely, yes—simply because China and Asia are growth markets. Was the earthquake a catalyst to accelerate that trend? Again, the answer is absolutely, yes.

How have disasters influenced government?

The worry that I raised in the 2011 article is that the earthquake would become a trigger for bigger government rather than smaller government. And I believe, whether we like it or not, that unfortunately that has been borne out.

Clearly, there is a need for the government as a helping hand, a need for the government as a support mechanism. There’s absolutely no question about that. But I do think that, in terms of rules and regulations, certainly the major bureaucracies—particularly the Ministry of Economy, Trade and Industry (METI)—have felt empowered by the earthquake to work harder for the common good. In fact, this move towards big government is currently being turbocharged, not just by Covid-19 but, more importantly, by the growing concern over national security, vis-à-vis the People’s Republic of China.

“If there’s one thing that we know about Japan, it’s that rising to challenges is what makes Japan great."

I’m always optimistic about Japan—and I think it’s absolutely right to be so—but the worry is that the helping hand from the government starts to be overextended and begins to stifle and strangle the innovation potential of the private sector. Unfortunately, I think that the worry that we raised 10 years ago still stands, and probably has grown because of Covid-19 and the intensifying national security debate.

It’s interesting, because nobody talked about national security right after March 11. This was a home disaster, this was an act of God, and we have to gaman suru (persevere), support the victims, and let entrepreneurs and business leaders do the rebuilding. Now, 10 years later, the role of the government has grown substantially and so has its interference in private business and investment decisions—whether it’s those of Japanese companies or global multinationals.

Obviously, the national security aspect is of fundamental importance; but unlike the United States, were the National Security Council and the Pentagon drive the agenda, in Japan it is METI and the Ministry of Finance that spearhead policy initiative. The risks are high that, in the name of national security, other agenda items actually drive economic policy. And this is something that we need to worry about over the next decade.

Might Covid-19 cause more restructuring?

Yes, and this is very interesting. The tsunami forced incredible human tragedies and suffering in a huge area; but for industry the impact was actually limited to a few specific sectors, such as car parts, electronic components, and, of course, utilities. Less than 10 percent of Japan’s productive capital was affected.

In contrast, the Covid-19 crisis is much broader, because it affects everybody and all aspects of the economy. It affects you whether you’re a small drugstore, a little flower shop, a hairdresser, a big accounting firm, a financial corporation, a car maker, or any other type of business. Nobody can hide from the pandemic.

For Japan, I see the Covid-19 crisis as a broad-based catalyst to break up old work habits. That, to me, is actually the most interesting dynamic going on over the past year. All of a sudden, the corporate culture in every company—whether it’s a small or medium-sized enterprise or a large corporation—has changed. The deep-rooted Japanese work culture—the social pressure to be in the office, the rigid communications protocols and decision-making procedures—all of a sudden all these had to change, had to be re-invented. Now the 55-year-old bucho (general manager) needs to invent new ways to keep his staff motivated while on a Zoom call; and, quite frankly, the 55-year-old probably didn’t know what a Zoom call was until the crisis began. All of a sudden, all the outdated procedures and rules and norms of how business is supposed to be done are changing. It’s a huge challenge and a once-in-a-lifetime opportunity.

But if there’s one thing that we know about Japan, it’s that rising to challenges is what makes Japan great. I firmly believe that Japan actually never wastes a good crisis.

I’m very, very bullish that Japan will be much stronger in the post-Covid 19 world; and even more so than after the tsunami disaster, this time the strength will come from genuine restricting in all sectors of the economy, especially the services and non-manufacturing ones, not just the manufacturers.

Might border closures pull manufacturing back home?

Absolutely not. Just look at the data. METI, in the name of national security, is trying to encourage people to close shop in China and come back to Japan; but nobody’s doing it. And why would you? It just does not make any sense. Anybody who manufactures things must be as close to the end-customer or consumer as possible. So, I think that there’s a narrative, from the national security perspective, that people like to spin. But for all intents and purposes, again, your growth is abroad.

I’m the bullish guy on Japan, and I forecast, over the next 10 years, an average one-and-a-half-percent growth in gross domestic product. If you’re the bearish guy on China, that growth is four percent. If you’re bearish on India, it’s about three percent. So, even if you use the bearish baseline assumptions for non-Japan, there is absolutely no question where the growth is. And to succeed in them, it is imperative to be as close to your buyers and customers as possible.

Also, Japanese business leaders are fully aware of the single most important megatrend driving global opportunities: the growth of the middle class in Asia. There is a wonderful statistic from the International Monetary Fund that predicts, over the next five years, that 92 percent of global growth will come from the rise of the Asian middle class. And I don’t serve the Asian middle class by manufacturing in Kagoshima. Sorry to be very blunt about it.

Right now there is a big narrative that supply chains must be diversified. But if you talk to tech companies, they say: “Excuse me, my supply chain is diversified. What are you talking about?” That’s one of the lessons, ironically, of the coronavirus pandemic. Everybody talks about a crisis of capitalism, but it’s not in the supply chains. Maybe there are a couple of screws missing for a specific windshield wiper model, or some electronic components delayed by a week or so. I get all that, but the overall flexibility and dynamism of the global supply chain over the past 12 months has been absolutely astounding.

I realize that this goes counter a little bit to some of the ways in which METI and the government would like to spin the narrative, but it’s like food self-sufficiency. Japan produces 40 percent of its food; the rest is imported. It’s just the nature of the game. It’s impossible to get Japan to food self-sufficiency. So, actually, the most constructive way to raise Japanese national income, and the purchasing power of her people, would be to speed up food-product import liberalization.

And that applies to many other areas, correct?

Exactly. You’ve obviously got the whole energy debate, the environmental debate, and other debates that are coming to the fore. I think it’s relevant to the rebuilding of Fukushima.

Ten years ago, the sort of guidelines related to environmental friendliness—for environmental, social, and corporate governance (ESG) considerations—were much, much looser than they are today. To rebuild something today, to make an investment, the pressures to be ESG compliant have obviously gone up quite tremendously.

This is not only in terms of the oversight and constraints by the government, from added rules and regulations, but increasingly from investors. It’s not just the government that promotes ESG, it’s also the investment community. From that perspective, I think the overall freedom to rebuild has certainly come down. I very much believe there is a lot of good in the ESG and STI guidelines to promote more sustainable development; but it is also certain that, for you and me, as businesspeople and entrepreneurs, rebuilding Tohoku after the tsunami was a little easier than rebuilding will be after Covid-19.