Innovation, entrepreneurialism and venture capital are at the heart of a set of think-tank proposals to promote recovery in the Japanese economy.
The proposals come from the Asian Shadow Financial Regulatory Committee, a group of independent experts on economic policy issues relevant to financial markets and the financial industry of the Asia-Pacific region. Typically, the committee tries to translate concepts drawn from academic literature into concrete policy recommendations.
The committee said development of the venture capital markets in Japan were an important part of the Abenomics strategy to stimulate long-term growth, citing a VentureXpert survey of investment by venture capital firms as a percentage of GDP, in which Japan ranked 35th out of 37 countries surveyed, well below China (11th), Korea (14th) and behind many other Asian countries.
It said large companies lacked investment opportunities, small companies were not emerging in significant numbers, and savings were going into financial institutions that traditionally did not fund risky new businesses.
The committee blamed these shortcomings, among others, for Japan experiencing two decades of low growth, saying: “It is vital for Japan to find a path to higher sustainable growth through encouraging new start-ups. Factors that have contributed to this situation include inflexible labour markets in which large corporations cannot afford to hire more young people, diverting many of them to work in areas such as the service industry, primarily on contract.”
It added: “The burst of the asset bubble at the end of the 1980s exacerbated the situation, leading to a loss of appetite for risk-taking due to poor equity returns. This also resulted in the exodus of some foreign financial institutions from Japan.”
The committee compared Japan with the US, which it said had a more favourable immigration policy, resulting in many immigrant entrepreneurs, whereas in Japan “few foreign entrepreneurs set up business”. It also blames the Japanese government for protecting ailing companies, which allows them “to compete at a lower cost, crowding out new business”.
The experts said some parts of the Japanese economy, such as the agricultural and medical sectors, were not efficient due to government regulations, barriers to entry and subsidies. Business practices, such as restrictive association membership, often frustrated new entrants.
“These factors combined discourage enterprise and entrepreneurship, leading to reluctance to take risk and an inadequate accumulation of skills to create business. Japan continues to lose its competitive advantage in the established industries as firms in countries such as Korea and China have caught up. At the same time Japan has not been as successful as the US has been in new industries.”
The committee said the US had produced many world-leading companies, such as Apple, Google and Amazon, over the past two decades, and an important driving force for US success had been its venture capital (VC) industry.
“For Japan to revive its global competitiveness, it will be important to have a vibrant VC industry. The VC industry in Japan has been affected by both demand-side and supply-side issues.
“On the demand side, issues include insufficient incentives for generating and commercializing innovative ideas, too much regulation in certain industries, overprotection of existing companies which crowds out new entrants, for-profit incorporation in certain industries, such as agriculture and medical, is not permitted, strict immigration laws that discourage new immigrants to Japan.
“On the supply side, the major issues are as follows. Despite ample savings and financial resources, there is a lack of financial intermediaries with the VC management skills to harness these funds. This holds back the effective use of funds for investment in new ventures, especially those requiring seed capital and mezzanine investment.
“There is also a high level of risk-aversion by financial institutions that discourages VC investment. Further, VCs prefer investing in up-the-value-chain companies in which skilled labour can be adjusted in a flexible manner.”
The commitee made a number of policy proposals to remedy demand-side and supply-side shortcomings.
On the demand side:
1 Encourage the growth of new ideas by encouraging interaction between academics and industry, for example, by allowing faculty members to serve on the board of private companies, particularly start-ups, and inviting industry leaders to serve on the advisory boards of universities, schools and departments.
2 Opening up of those areas in the economy that currently face restrictions, stop protecting ailing companies and allow for-profit incorporation in all sectors, especially the agricultural and medical sectors.
3 Give strong incentives to encourage commercialisation of academic findings when reviewing applications for government funding. The funded projects should be continuously monitored by the government.
4 Review immigration laws to encourage skilles foreign workers to move to Japan and qualified foreign students to study and work in Japan for a minimum of two years, as is common practice in other countries.
On the supply side:
1 The government should invest in foreign and local VCs operating and investing in Japan, and should be willing to take a lower return than the VC partners.
2 Incentivise banks to supply funding to start-ups through investment bank arms with policies such as tax incentives.
3 Reform the labour market to allow more flexibility in the hiring and laying-off of staffi n new start-ups.
