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Asian Trade and the Hollowing Out of Japanese Industry

Kazuhiko Yokota
Associate Professor, Faculty of Commerce, Waseda University

World trade and Asian trade

World trade has been expanding and driving economic growth in many countries over the past several decades. The trade value of the world as a whole increased more than eight-fold from 1980 to 2007, to approximately 14 trillion dollars. Asia, however, experienced a sixteen-fold increase in exports and a twelve-fold increase in imports, and when it comes to regional trade, no less than a twenty-fold increase during the same period. As a result, over this period of nearly thirty years, Asia has been called "the growth center of the world."

This Asian trade reveals an interesting fact. Figure 1 shows the global trend in exports of finished consumer goods and parts and components. Consumer goods are products that are ultimately used by consumers, such as food, clothing, finished vehicles, and consumer electronics, precision, and toys. Parts and components are goods which are not purchased by consumers directly, but which are further processed to make finished goods. Global trade of both consumer goods and parts and components is on the increase, but consumer goods exports exceed parts and components exports over the entire period. On the other hand, Figure 2 shows the trend in exports of consumer goods and parts and components within Asia. Clearly, parts and components exports exceeded consumer goods exports in 1995 and have been rapidly increasing since then in this region. Japan is the largest exporter of parts and components, and the top importing country is China. Electronics equipment and parts and components are the most actively traded goods.

Source: Research Institute of Economy, Trade and Industry databasehttp://rieti.imari.co.jp/

Source: Research Institute of Economy, Trade and Industry databasehttp://rieti.imari.co.jp/

Homework for International Economics

International economics has traditionally focused its interest on trade of finished goods. Going forward, however, it must explore the background and impact of the increased parts and components trade and the reason why the parts and components trade is so active in Asia. The parts and components trade has expanded especially in Asia, probably because more and more business enterprises from Japan, Korea and Taiwan have extended their operations overseas, leading to increased transactions between their home countries and other Asian countries. In fact, while the amount of foreign direct investment is steadily increasing worldwide, its growth is much more rapid in Asia than in the rest of the world (Figure 3). One reason for this expansion is that the international division of labor for products manufactured with divisible production processes evolved into technology- and capital-intensive processes in the developed home countries and labor-intensive processes in developing countries. Other likely reasons include diversified forms of business-to-business transactions and technological progress for general-purpose parts and components. In addition, various free trade agreements (FTAs) and economic partnership agreements (EPAs) were a major trigger for enterprises to take optimal production strategies all around Asia.

Source: United Nations Conference on Trade and Development (UNCTAD) data
Note: The scale for the global foreign direct investment stock is on the left axis and on the right axis for Asia. From 1980 to 2006, while the global foreign direct investment stock increased twenty-two-fold, the Asian foreign direct investment balance expanded thirty-four-fold.

Practical issue - the hollowing out of Japanese industry

Now let us consider a practical issue caused by the changing Asian trade structure. If the change in the Asian trade structure were the result of shifting Japanese production bases - especially assembly plants - abroad, production in Japan would have shrunk and production factors that had been required for production (capital and labor) would have become idle resources, potentially resulting in the so-called hollowing out of industry.

In fact, despite increased Japanese direct investment in other Asian countries and transfer of Japanese production bases overseas, Japan continues to export parts and components to other Asian countries, and the exports are expanding year after year. This means that parts and components production in Japan is growing as foreign direct investment increases, contrary to conventional expectations. It seems that because there are still many parts and components which can only be produced with Japanese technology, Japan is preserving that very technology. Moreover, though the hollowing out of industry has caused great concern several times in the past, it has not actually led to a serious situation, because drains resulting from business enterprises moving overseas only account for a small portion of the economy as a whole and new growth industries have also emerged at the same time.

But is there cause for concern over the hollowing out of industry over the longer term? Will parts and components as well as finished goods be produced overseas and re-exported to Japan in many fields someday? That is more likely in many industries in the future as developing countries catch up. For example, more and more electronics products which do not require advanced technology are no longer produced in Japan, but instead they are totally produced overseas to be brought back to Japan. Increasingly, factories in Japan only play the role of mother factories, which develop and experimentally manufacture products.

How should we prepare for the changing industrial structure?

The hollowing out of industry is insignificant if resources such as capital and labor are smoothly transferred from declining industries to growing ones. Such an adjustment, however, usually takes time and costs. For instance, workers may need dedicated training or education to adjust themselves to new growth industries. The first thing to consider regarding the hollowing out of industry is that the adjustment has to take place as smoothly as possible. And its fundamental solution is to enhance Japan's technological strength and product development capability. This is true not only for manufacturing, but for a wide range of new industrial fields that must also be pioneered, including marketing technologies and new services. The government will need to assist specific fields that it prioritizes and expand its safety net, and education will become even more important for the individual.

However, it should be noted that the transfer of business enterprises overseas is not an inherently bad development. Propping up declining businesses or industries is expensive, and from a global perspective, the transfer of production bases creates a more efficient production system as a whole. Restrictions on trade or direct investment would have the negative effect, and considering the aging population and declining birthrate inJapan, the transfer of enterprise product bases overseas may be an inevitable trend. It is important that both the government and individuals prepare early to build an optimal economic structure with production and consumption suited to Japan amid the more integrated world economy.

Kazuhiko Yokota
Associate Professor, Faculty of Commerce, Waseda University

Brief biography:

Professor Yokota was born in Tokyo in 1963. He graduated from the School of Commerce at Waseda University and earned a master's degree in economics at Waseda University as well as a doctoral degree in economics at the University of Colorado. He worked at the Institute of Developing Economies as a researcher and the International Center for the Study of East Asian Development as a research associate professor before assuming his current position in April 2009. Professor Yokota specializes in international economics, development economics, and multinational business studies.

Recent publications:

"Modeling FDI-induced Technology Spillovers," forthcoming (2010), International Trade Journal. (co-authored)
"A Decomposition of Factors Influencing Horizontal and Vertical FDI: A Separate Analysis," forthcoming (2010), Eastern Economic Journal. (co-authored)
"Extending the Learning-by-Exporting Hypothesis: Introducing a Credit Constraint," (2009), International Advances in Economic Research, Vol. 15, No. 2, 169-177. (co-authored)
"Lewis Growth Model and China's Industrialization," (2008), Asian Economic Journal, Vol. 22, No. 4, 359-396. (co-authored)