MW-16 -- RELUCTANT ENTREPRENEURS

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J@pan Inc Magazine Presents:
M O N E Y W A T C H
Weekly Financial Commentary from Tokyo
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Issue No. 16
Tuesday, February 18, 2003
Tokyo

==============================EVENT==================================
Attend a free seminar on cost reduction strategies especially for
non-Japanese companies on February 28, 2003 at the ANA Hotel in
Akasaka from 3-5PM (followed by a cocktail party).
Organized by J@pan Inc and the Ibaragi Prefectural Government, the
seminar will include case studies on reducing business costs in Japan
and incentives for relocating outside of the capital.
For more information or to register in advance, please send an email
to events@japaninc.com.
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Viewpoint: RELUCTANT ENTREPRENEURS

The Bottom Line:

o Developing new businesses to create demand is becoming an
important issue as Japan tries to work its way out of the
Heisei Malaise. For a while during the IT bubble, it did
appear that Japan had found its meal ticket out of the
malaise -- the "diginet" economy. Alas, it was not to be.

o Post IT bubble, Japan's three stock exchanges for emerging
companies are hurting. The market capitalization of companies
listed on these markets came to 7.67 billion yen at the end of
2002, down 28 percent and the lowest since 1983, when there
was only Jasdaq. Of the 100 emerging companies that listed
last year, 87 have market capitalization below 10 billion yen.
There is much discussion about the structural impediments to
emerging companies in Japan, but stock markets for emerging
companies will not do well unless there is a steady stream
of promising new companies lining up to list their shares.

o As the result of long-unaddressed structural problems at the
heart of the Heisei Malaise, Japan is now seeing a decline in
research and development and innovation that, along with the
various structural impediments to entrepreneurial activity in
Japan, is seriously limiting Japan's ability to incubate
innovative firms and to create a much-needed cushion to absorb
an accelerating loss of "old Japan" jobs.

o Moreover, the government continues to assume that the growing
loss of jobs from the "hollowing out" of manufacturing will
eventually be absorbed in the service sector over the next
five to 10 years. This may not necessarily be true. As
Business Week's Asia edition has recently pointed out, there
is now a second wave of "globalization" under way, where
white-collar service jobs such as in IC chip design, software
writing, accounting and financial analysis in the developed
economies are also being lost to newly developing nations like
India, China, Israel, Russia and the Philippines.

o Consequently, the growing ranks of jobless in Japan,
particularly among new graduates and older workers, may find
themselves becoming reluctant entrepreneurs in trying to
create the jobs that Japan's government and struggling
ex-national corporate champions are no longer able to create
in Japan.

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RELUCTANT ENTREPRENEURS
Venture Capital Markets Continue to Struggle
Developing new businesses to create demand is becoming an important
issue for Japan's stagnated domestic economy. For a while during the
IT bubble, it appeared that Japan had found its meal ticket out of the
malaise -- the "diginet" economy. But post IT bubble, stock markets
for startups are fighting to survive all over the world. The
tech-heavy Nasdaq abruptly withdrew from Japan earlier this year as
part of a revised global strategy after seeing a rapid fall in the
number of new listings on its over-the-counter market at home. The
Frankfurt bourse shut its NeuerMarkt for emerging German companies,
launched in 1997.

In addition to Nasdaq's withdrawal, similar markets in Japan face
dwindling trading volumes and a decline in the number of firms going
public. The Osaka Securities Exchange, which had jointly operated
Nasdaq Japan with the US partner, recently launched its own exchange
for startups, called "Hercules." The newborn stock exchange and two
other major domestic markets for emerging firms -- the Jasdaq
over-the-counter market and the Tokyo Stock Exchange's Mothers --
had only 100 new listings combined this year, down 32 percent from a
year ago. The market capitalization of companies listed on these
markets came to 7.67 billion yen at the end of 2002, down 28 percent
and the lowest since 1983, when there was only the Jasdaq. Of the 100
emerging companies that listed last year, 87 have market
capitalization below 10 billion yen.

There is evidence that individuals actively trading over the Internet
do support the IPOs of such companies, but only as short-term trades.
Last year's survey by the Nikkei of these markets showed that 35
percent of the IPOs in 2001 had stock prices below their issuing
price, while 68 percent had stock prices lower than their issue price
at the end of 2002.

In terms of policy, it is imperative to revitalize these stock markets
to ensure that innovative startups have a place to raise capital.
These markets have to resolve numerous problems in order to make
themselves more attractive both to startups and to investors. On a
long-term basis, taxation and other basic policies have to be changed
to encourage a spirit of entrepreneurship. Given the significant costs
of systems investment and the importance of raising brand recognition,
another crucial step for these markets, including regional markets,
would be to consolidate into a new market like Euronext, which was
created through the merger of five European markets.

But this is a largely "chicken and egg" discussion, as stock markets
for emerging companies will not do well unless there is a steady
stream of promising new companies lining up to list their shares.

Fading Innovation
Technological innovation, often by venture capital startups, is one
factor given for the adaptive nature of the US economy. When
structural change in Japanese industry took place in the past,
new-growth sectors absorbed young workers fresh from universities and
elsewhere. But Japan is now seeing a decline in research and
development and innovation that, along with the various structural
impediments to entrepreneurial activity in Japan, is seriously
limiting Japan's ability to incubate innovative firms.

Japan is struggling to stem a decline in its research and development
that could have serious longer-term implications for its economy.
Researchers Lee Branstetter and Yoshiaki Nakamura, in a new paper for
the National Bureau of Economic Research (NBER), point out that "when
normal growth resumes in Japan, the maximum sustainable rate will
depend in part on the ability of Japanese firms to develop and deploy
new technology. But Japan's innovative capacity is growing at a slower
rate than in past decades, and this will limit Japan's future growth
potential.

After a decade of convergence with the US in the 1980s on patent
output and R&D spending, Japan again fell back in the 1990s, with the
exception of research productivity in electronics, which in the 1990s
continued to grow in line with the trends of the 1980s. The apparent
reasons for the deterioration reflect the broader malaise that has
afflicted Japan's economy since the early 1990s. After Japan lost its
lead as the global low-cost producer of standardized products to
Taiwan, South Korea and now China, R&D had to change focus.

No Creative Destruction
The NBER report echoes views from organizations such as the OECD that
stress innovation as a crucial ingredient of productivity growth, but
innovation has slowed to a crawl in Japan. Indeed, a report earlier
this month from the World Bank criticized Japan's failure to translate
heavy investment in research into economic growth because of a range
of institutional weaknesses.

Japan's poor record in incubating innovative firms was also
underscored by the results of last year's Global Entrepreneurship
Monitor, which ranked Japan at the bottom of 37 countries it surveyed.
The survey identifies the transformation of technological advances
into marketable products as a key aspect of entrepreneurship and
found that for every 1,000 workers in Japan, only 18 were either
involved in starting up a business or had done so in the previous 42
months.

In the NBER report, Branstetter and Nakamura compare Japan with South
Korea, whose consumer electronics are increasingly the style-setters
across Asia. After the financial crisis, several South Korean firms
spun off their R&D divisions as high-tech startups, ensuring that top
staff remained engaged in research. By contrast, "The fraying but
still extant Japanese corporate commitment to lifetime employment has
kept many researchers employed in their original companies, but not
always in a research function."

Japan's shortcomings are evident not just in software and
biotechnology, where the US enjoyed a surge in innovation in the
1990s, but in areas of traditional strength. For example, Japan is
falling further behind the US in the number of IT technology patents
granted in the US, while it remains far ahead of Germany. The Japanese
government is spending more on graduate research and is removing
barriers to startup firms, and more companies are forging R&D
alliances with US firms. As the economy remains stuck in its
structural malaise, however, many firms have been forced to trim R&D
spending and to reassign researchers. The longer the malaise lasts,
the more likely it is that these cutbacks could have a lasting
negative effect on Japan's research productivity.

Globalization Part II
The February 3, 2003, Asian edition of Business Week highlighted the
new global job shift that is under way. In the 1980s, "globalization"
opened with a massive migration of manufacturing from industrialized
countries to Third World nations -- a migration that accelerates to
this day. Now we are seeing a second huge shift, this time in
services, with white-collar professional jobs following the
blue-collar migratory routes to Asia and elsewhere. This adjustment
is expected to be painful for middle-class Americans and Europeans who
will see their jobs in software writing, chip design, architecture and
accounting move to India, China, Israel, Russia and the Philippines.
This is likely to prove more than just a cyclical phenomenon. The
Internet, digitalization and the spread of white-collar skills abroad
probably will make the shift of services a permanent feature of
economic life. While the winds of deflation blowing out of China in
low-cost manufacturing are being felt around the world, the much
larger service sector in developed economies has heretofore been able
to retain much more pricing power. However, this growing shift of
services to low-cost countries could change that.

The "hollowing out" of Japanese industry continues to accelerate. The
closure of manufacturing plants has hit service companies directly or
indirectly and has reduced employment opportunities for younger people
in particular. Local construction companies are also being hit by cuts
in public works. The ranks of Japan's unemployed is currently around
3.4 million, of which 1.5 million have lost their jobs involuntarily
because of bankruptcy, restructuring and mandatory retirement. The
unemployment rate in younger workers (15-24 years old) is well over
12 percent, while unemployed white-collar workers with college
educations are seeing unemployment of under 2 percent.

A study group at the Ministry of Health, Labor and Welfare estimates
that about 19 million permanent employees will have to change jobs in
five years as a result of structural changes in domestic demand. This
means that during the next five years, an average of 3.8 million
permanent employees, up 25 percent, or 760,000, from 2000, will have
to change their jobs each year. The study group believes these job
changes will be necessary for the core of Japan's industrial structure
to shift from manufacturing to services industries such as the
medical, social welfare and information sectors. The group expects
total employment to reach 64.3 million people in 2006, up 170,000 from
2001. However, employment in the manufacturing sector will decline by
700,000 over the next five years as manufacturers increasingly shift
production overseas.

In contrast, the estimate says employment in the service sector will
likely increase by 1.2 million during the period. Of the estimated 3.8
million people who will have to change jobs each year from 2002 to
2006, 2 million will have to find work in industries outside the ones
to which they now belong. The remaining 1.8 million are expected to
find jobs in the same industries where they currently work. But these
projections do not take into account the global migration of service
jobs, particularly in the IT sector. A look in the IT departments of
foreign investment banks in Tokyo already shows that this trend is
beginning. IT jobs in these firms are increasingly going to IT
specialists from emerging market nations. Moreover, while setting up a
call center in India or the Philippines to service Japanese customers
would be more difficult, software writing, chip design, accounting,
financial analysis and other specialized service jobs where language
is not as crucial could just as easily be done by Japanese companies
in India, China, Israel, Russia and the Philippines.

Thus, as hollowing out continues to reduce the ranks of those employed
in manufacturing, this could be followed over the next five years by a
new hollowing out of service sector jobs, meaning that the estimated
3.8 million people the Labor Ministry says will have to change jobs
each year from 2002 to 2006 could increasingly find that there are no
good job opportunities in the service sector as well.

Forced Entrepreneurism?
A growing number of Japanese universities are setting up incubation
facilities to promote launching of university-based startups. Some
5.4 percent of 683 public and private universities polled say they
have already opened such facilities. Waseda University leads in terms
of new startup companies with 21, followed by Keio University with 15.
But Keisuke Kaneko, editor-in-chief of the University of Tokyo
Newspaper, says, "Essentially, we (new graduates) are less willing to
take risks. Given that we have not experienced major setbacks in life,
we prefer not to challenge ourselves to change." He adds, "On the
whole, we have remained conservative, particularly when choosing a
career. A large majority of us would rather enter a large traditional
organization, instead of starting a business of our own, for example."

This mindset exists even among the newest students. According to a
survey compiled by the newspaper, only 3.1 percent of 3,182 students
enrolled in April 2002 answered that they want to be an entrepreneur
upon completion of their undergraduate or graduate studies. The
percentage of those wishing to be a part of a larger organization
either as a business elite or as a government official reached 10.6
percent and 9.9 percent, respectively, the survey reported. Thus
Japan's best and brightest tend to be conservative, sheltering in safe
harbors, especially when planning their careers.

On the other end of the employment spectrum are the older workers
being displaced by the restructuring of Japan. Despite the tough
economic environment, there is now a wider variety of jobs available
to middle-aged and older jobseekers, including work at nonprofit
organizations and temporary staffing agencies. There is, for example,
the Soho Support Association for Senior Entrepreneurs in Mitaka. The
association was launched in 1999 and currently has about 250 members.
It offers PC classes to middle-aged and older people as well as
home-visit services for PC technical support. The Employment and Human
Resources Development Organization of Japan began offering courses for
would-be nonprofit-organization entrepreneurs in 10 prefectures this
fiscal year. During the two-month course, welfare and child-care
groups give lectures covering the establishment and operation of an
NPO. The organization says about 330 people so far have taken part in
the program.

In Sapporo, older jobless people in June formed the "Senior Masters
Network," also designed to help the unemployed become entrepreneurs.
Some older people are also joining consumer cooperatives for seniors,
which are steadily growing nationwide, with 23 operating as of the
end of June. These co-ops offer catering and nursing-care services to
the aged. Orga was founded with 15 people ranging in age from 48
to 74 from a broad variety of industries, such as textiles, foods and
electric machinery. Employees who propose businesses that draw on
their experiences are tasked with making a profit from their ideas.
Orga aims to earn about 100 million yen in revenue in the first year.
More and more employment agencies are also hiring middle-aged and
older workers. Mystar Park is a placement firm composed of older
people. It currently employs about 15 engineers who used to work at
manufacturers of electric machinery, semiconductors and precision
equipment. Orix plans to employ about 1,000 people in their 50s and
60s over the next three years through its staffing service subsidiary,
Orix Human Resources.

-- Darrel Whitten

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STAFF
Written by Darrel Whitten info@asianbusinesswatch.com

Edited by J@pan Inc staff (editors@japaninc.com)

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