Japan's governance problem

John Plender, columnist in the FT, has a column (subscription only) in Wednesday's edition talking about the "accountability gap" in Japanese corporate governance.

He wrote:

...There is a corporate governance vacuum. Before the economic bubble burst in the early 1990s, the postwar model of capitalism known as “Japan Inc” incorporated governance disciplines based on a main bank that monitored corporate performance, removed underperforming managers and choreographed turnrounds at ailing companies. This relationship system was buttressed by cross-shareholdings, which also had the effect of protecting companies from hostile takeovers. Lifetime employment was the norm in large corporations and the state provided a guiding hand. Boards rarely had outside directors and were largely ceremonial.

Since Japan’s banking crisis, main bank cross-shareholdings have been run down and the lifetime employment system has eroded. Now that the country is no longer in catch-up mode and the economy has matured, the state’s guiding role has become less effective. In some parts of industry and commerce there has been a greater focus on profits rather than market share, though not to the point where aggregate returns have risen to anywhere near US levels. Dividend pay-out ratios remain low even in mature industries.

I think there is great wisdom in Plender's analysis, but, at the same time, I think it's important to look beyond the Japanese corporate environment to Japanese society at large.

In recent months, Japanese newspapers have reported massive governance failures in every sector of Japanese life. The Abe Cabinet has been riddled with reports of corruption from ministers -- most recently Matsuoka Toshikatsu -- and poor management of the policy agenda. The opposition, too, has had its problems, most notably the improprieties of former Upper House Vice President Tsunoda (discussed here), DPJ President Ozawa's shady real estate development scheme, and now reports that DPJ member Nakai Hiroshi misreported funds in a manner similar to Matsuoka.

Of course, the long-standing relationships between bureaucracy and industry, via amakudari and bid-rigging, persist, even as authorities try to limit these practices.

Meanwhile, in recent months there have been reports of major cover ups across Japanese society: food (Fujiya), baseball (the Seibu Lions), securities (Nikko Cordial), and nuclear power (Tohoku Electric Power).

The problem is not that cover ups and inappropriate relationships between public and private sectors exist; no country is free of corruption and the misuse of power. What's different in Japan, however, is the lack of mechanisms to ferret out wrongdoing, to deter others from doing the same, and to create the impression that laws are not, in fact, made to be broken. In Japan, it seems that only real crime is getting caught; interestingly in all of the above-mentioned scandals, it seems that the illegal practices for which the guilty party is under fire are widespread in the industry concerned.

Japan is woefully lacking in the kinds of institutions and actors dedicated to exposing these misdeeds. Inspectors general, ombudsmen, NGOs, activist shareholders, and even investigative journalists backed by large media organizations: Japan is woefully lacking all of these means of keeping large, powerful institutions honest and accountable, and exposing their failures to the light of public scrutiny. (See Transparency International's excellent report on Japan's National Integrity Systems -- available for download here.)

Accordingly, for all the reports of Japan's economic recovery and greater assertiveness abroad, the foundations of the state are weak and crumbling. In this atmosphere of massive, persistent institutional failures, the Abe Cabinet's push to restructure the postwar institutions -- especially the constitution -- looks misplaced. Under Abe, Japan, flush with cash for the first time in a while, has decided to install a new kitchen and refurbish the facade, rather than focus on the crumbling foundation, the institutions of Japanese society whose persistent cover ups, fraud, and outright criminality have gravely damaged public trust and raise serious concerns about the ability of Japan to remain prosperous and growing in light of Japan's demographic problems and the changing regional and global environment.