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White Paper on International Economy and Trade 2012 (Part 1) Extending the Frontiers of Growth through Global Linkages | Policy Planning and Research Office Trade Policy Bureau Ministry of Economy, Trade and Industry [Date of Issue: 28/September/2012 No.0211-0862]

Date of Issue: 28/September/2012

White Paper on International Economy and Trade 2012 (Part 1)
Extending the Frontiers of Growth through Global Linkages

Policy Planning and Research Office
Trade Policy Bureau
Ministry of Economy, Trade and Industry

The first White Paper on International Economy and Trade was released on 15 August 1949, and has since appeared on an annual basis. This year’s report is the 64th in the series.
This year’s White Paper analyzes the difficult trade conditions which Japan has recently experienced, with high resource prices boosting import prices even as the strong yen and increasingly fierce competition with emerging economies pull down export prices. To bolster profitability, the report suggests strengthening competitiveness in areas other than price by, for example, boosting brand value. Observing that offshore expansion by Japanese firms has spread to services and other non-manufacturing industries as well as to middle-ranked and small and medium enterprises, the report draws on international comparisons with countries such as Germany to underscore the importance of further efforts to seize growth opportunities offshore.

1.1 World economy struggles with uncertainty and a sluggish recovery
The report begins by overviewing the world economy. After bottoming out in spring 2009, the world economy as a whole was enjoying a gradual recovery, but in 2011, the worsening European debt crisis and the US economic slowdown saw it stall once more. In 2012, while fears of a rapid economic decline might have eased, the world economy remains unstable and underpinned by government policy measures.

The economic growth rates of the emerging economies, on the other hand, while slowing, remain around eight times those of the developed countries (as at the second quarter of 2011). The strong growth of China and other emerging economies has lifted their share of world GDP to 35.3 percent compared to the 64.7 percent share of the developed world. With the developed economies slowing down and the EU in particular, which accounts for 25.4 percent of world real GDP, again sliding into recession, China’s presence has increased still further, with the world now looking to China to support the global economy (Fig. 1).

1.2 Debt crisis deepens European economic turmoil
The European economy was gradually recovering from the slump caused by the 2008 global economic crisis, but as the European debt crisis became increasingly apparent, market sentiment worsened, while fiscal constraint measures introduced by governments to get their finances back in shape depressed demand, pushing the European economy solidly into a stall.

The German economy, however, has remained relatively robust compared to the other major European nations, with unemployment, for example, at the lowest rate since unification. The European economy accordingly appears to be polarizing.

One of the key factors behind Germany’s competitiveness has been its success in keeping labor costs from rising. Looking at unit labor costs—the index for the average cost of labor per unit of output—where in most countries these have gone up two to four times since 2000, in Germany they have remained much the same. The Schroeder administration, which came to power in 1998, accelerated labor market reform after its reelection in 2002. A string of reforms were instituted to strengthen labor market flexibility, including reduction of the unemployment benefit payment period and the partial introduction of fixed-term employment. This has kept labor costs down particularly in the manufacturing industry, boosting Germany’s export competitiveness (Fig. 2).

Germany’s increased export competitiveness is also apparent in its current account balance. Looking at the current accounts of the major EU countries, where Germany recorded a deficit in the 1990s, it moved back into the black in the 2000s, and that surplus continued to expand through to 2007. France and Italy, by contrast, have fallen into deficit and Spain’s deficit continued to soar through to 2007. In recent years, Germany’s current account surplus has continued to almost balance out the current account deficits of the other three countries together (Fig. 3).

1.3 US economy continues to grow but prospects uncertain
The US economic recovery lost momentum in 2011 due to factors including soaring crude oil prices and the supply chain disruption caused by the Great East Japan Earthquake, but picked up again later in the year.

In 2012 too, economic indicators suggest a moderate overall recovery, including signs of improvement in the labor and housing markets, but consumption has yet to really recover. Risk factors include an ongoing high unemployment rate, sluggish housing prices, spillover from the European debt crisis, slower growth in the emerging economies and a concomitant drop in external demand, and skyrocketing gasoline prices. Fiscal and monetary policies will remain vital in underpinning the economy (Fig. 4).

1.4 Chinese economic growth remains high but loses momentum
In 2011, curbing inflation was earmarked as a top priority in Chinese economic policy, with the government instituting austerity measures. At the same time, the impact of the European debt crisis saw exports to Europe slow as of midyear, and economic growth lost pace particularly on the coast with its high export ratio. In 2012, the government identified stable and rapid economic development as its top priority, emphasizing more domestic demand, and particularly consumption demand. Immediate risks include soaring housing prices, local government debts, and the slowdown in exports accompanying the European debt crisis.

1.5 Other Asian economies
The Asian economies sustained a gradual recovery into 2011, but skyrocketing resource prices and rising domestic commodity prices, the fiscal austerity introduced to counter these trends, and the slowdown in exports in response to the worsening European debt crisis saw the pace of recovery slow as of midyear.

The Korean economy too experienced an export slowdown to Europe in particular as of midyear as the European debt crisis reignited. Around fall, European financial institutions and other overseas investors started to become increasingly risk averse, resulting in funds being pulled out of Korea and other Asian countries. As a result, the won plummeted and foreign reserves shrank, with Korea experiencing a marked economic slowdown. Some areas have recently shown signs of improvement, but overall the economy remains stalled.

2.1 Trade conditions facing Japan in 2011
The report next analyzes the trade environment which Japan faced last year. The year 2011 was marked by a series of historical events that impacted heavily on Japan’s trade environment. Damage from the Great East Japan Earthquake in March interrupted the global supply chains which Japanese companies had developed, impacting not only on Japan but around the world. Yen appreciation continued into summer, with the yen reaching a record high against the dollar at the end of October. As of summer, the European debt crisis worsened and the world economy slowed, pushing down Japanese exports. The massive floods in Thailand in October caused extensive damage to Japanese companies with operations there, as well as to their supply chains. Japan’s 2011 trade balance also slipped into the red for the first time in 31 years on a calendar year basis. Amidst all this, the specter of industrial hollowing-out again reared its head.

2.2 Japan’s trade and investment structure and changes in this
Japan’s trade structure changed dramatically in the 2000s. The offshore expansion of Japanese firms deepened Japan’s integration into global production networks centered on Asia, with trade in intermediate goods growing substantially in terms of both exports and imports. As result, where exports had previously generally stood at around 10 percent of GDP, they expanded to around 15 percent. The old “full-set” industrial structure changed too, with both the supply of intermediate goods through imports and external demand-led production becoming increasingly important for domestic production. Compared to Germany, however, the extent to which Japan has integrated into global production networks remains limited.

The floods in Thailand and the March disaster highlighted the way in which Japanese companies’ supply chains have spread as well as the links between Japan’s economy and East Asian production networks. The subsequent rapid repair of these supply chains has brought production in the various affected areas back to their original levels, but some companies appear to be reviewing their procurement sources with a view to risk diversification. According to METI’s emergency survey on the state of supply chain recovery from the Thai flood damage, only a minority of companies said that if their suppliers recovered, they would stop buying from their alternative sources and again procure everything from their old suppliers (Fig. 5). The December 2011 survey report by the Japan Bank for International Cooperation on the overseas expansion of Japanese manufacturing businesses, however, suggested that Thailand had generally maintained its appeal as an investment destination for Japanese firms because of the way in which its industrial clusters and wide-ranging FTA network position it as an export base to third markets (Fig. 6). However, the need for Thailand to improve its business environment, including flood control measures, remains compelling.

2.3 Structural issues highlighted by first trade deficit in 31 years and historically high yen

The harshness of Japan’s trade environment in 2011 was epitomized by Japan’s first trade deficit in 31 years. Around half of the problem was the rise in import prices, with falling export volumes and climbing import volumes accounting for the remaining half (Fig. 7). More specifically, the main reason for the trade deficit was that the destabilization of the political situation in the Middle East as of the end of 2010 sent crude oil prices soaring, despite which imports of LNG as an alternative fuel increased. Additional factors included supply constraints as a result of the Great East Japan Earthquake, an historically strong yen, and falling export volumes due to, among other things, the slowdown in the world economy (Fig. 8).

Historically high yen appreciation in 2011 was one factor behind concern about Japan’s industrial hollowing-out. During the recent yen appreciation period, import prices lifted steeply because of soaring resource prices, and were not accompanied by an improvement in terms of trade. The rising yen together with deteriorating terms of trade appears to have had a huge negative impact on the profitability of Japan’s export firms (Fig. 9). Because the deterioration in terms of trade has been even worse in Korea, the price of exports from Korea has plunged. As a result, increasingly intense rivalry arising from the emergence of Korea and other East Asian countries is forcing Japanese export firms to deal with fierce price competition. In Germany, by contrast, both export and import prices have remained stable, with no major slump in the profitability of export companies. One reason may be German firms’ strategy of not becoming embroiled in price competition but instead using brand or technology differentiation to secure good export prices. This might be one element in strengthening the profitability of individual companies, as well as in creating a robust economic structure which is not as vulnerable to steep rises in resource prices and exchange volatility.

(original article : Japanese)

(For the Japanese version of this article)

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