Japan's New Regional Reality, by Saori N. Katada (introduction)

JAPAN’ S NEW REGIONAL REALIT Y Geoeconomic Strategy in the Asia-Pacific

SAORI N. KATADA

Introduction

J

apan is back,” proclaimed Prime Minister Shinzō Abe in a speech in Washington, D.C., in February 2013, as he promised a more active Japan in the realms of economic and foreign policy. The Japan that has returned, however, is not the same Japan that used to engage in trade conflicts with the United States twenty-odd years ago, and this new Japan influences the Asia-Pacific region in ways that are quite different from the past. In this book I argue that the Japanese government has, for the two decades since the 1990s, shifted its regional geoeconomic strategy from one based on neomercantilism (promoting the country’s industries) to a more liberal one that aims to set rules and establish institutions for the region’s public good.

The new realities of both regional and domestic dynamics have motivated this shift. Regionally, the rise of China and the growing economic conflict between the United States and China in the twenty-first century have created an economic environment where Japan can gain more regional influence by siding with the United States in support of a U.S.-led liberal regional order in Asia. Domestically, the country’s political economy has been transformed, particularly with the increased distance between the Japanese government and globalized businesses since the bubble economy burst in the early 1990s. The changes in the leading political parties, the administrative and economic reforms, and the globalization of Japanese businesses all represent powerful elements of this transformation. These are “

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also signs that the nature of the Japanese state has changed: although the country still pursues economic growth, its big businesses are now globalized and no longer rely on the government’s direct support to operate competitively. What today’s Japanese globalized businesses would welcome, rather, are measures that help to “level the playing field,” such as economic rules protective of property rights and open access to global markets and business opportunities, as well as stable legal, political, and financial environments in which to operate.

To sustain its relevance in the economic realm, the Japanese government has shifted its regional strategy in support of these necessities and toward obtaining a strategic upper hand against its rival, China, as the leader in regional economic governance. In turn, these strategies have led Japan to become much more supportive of U.S.-led neoliberal policies, as evidenced by the Japanese government’s decision to join the Trans-Pacific Partnership (TPP) negotiations in 2013. As this strategy is implemented, however, domestic politics and institutional structures have influenced policy making differently in various economic issue areas. Japan’s transformational path is an example of how institutions and their path dependence heavily influence the state’s adjustment to the external challenges.

Geoeconomics of the Asia-Pacific Geoeconomics examines the use of economic instruments by governments in pursuit of national goals as they cultivate economic and political advantages in economic growth, competitiveness, and sustainability.1 There has been a revival in geoeconomics as a way to understand international relations as China’s economic and political challenges become major concerns for the status quo powers of the United States and its allies. Couched in this line of investigation, this study examines Japan’s regional geoeconomic strategy and focuses on the shifts that have taken place since the mid-1990s.

As elaborated in chapter 1, a country’s regional geoeconomic strategy determines its strategic direction in pursuit of national goals and establishes the framework in which concrete foreign economic policy decision making takes place.

The politico- economic conditions surrounding Japan and the AsiaPacific have dramatically changed in the quarter-century since the early

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1990s. After being hailed as a miracle economy and feared for the dominance of its currency around the world, Japan began to stagnate after its economic bubble burst. Despite multiple efforts to stimulate the economy, including the round of Abenomics from 2013 through 2019 (the time of this writing), however, the country has yet to revive a sufficient level of economic growth—the primary objective of this massive policy stimulus.

Meanwhile, the changing dynamics between the United States and China have dominated the geopolitical and geoeconomic landscape of the AsiaPacific. The U.S. presence in Asia in both military and economic realms remains significant even after the end of the Cold War, but the ebb and flow of U.S. commitment to the region has raised concerns among its traditional allies, such as Japan.2 At the same time, other important events such as the War on Terror and the global financial crisis (2008–2009) have vastly undermined the U.S. economic presence in the region. Nonetheless, as observed in the International Monetary Fund’s (IMF) influence at the time of the Asian financial crisis (1997–1998) and China’s accession to the World Trade Organization (WTO) in 2001, the influence of U.S.-led multilateral institutions continued to loom large in the region. Most recently and despite this dominance, there are signs of the United States pulling back again. After the U.S. rebalancing strategy under the Barack Obama administration failed to gain traction and achieve economic leadership, incoming president Donald Trump pulled the United States out of the now-defunct, region-wide free trade and investment agreement known as the TPP. A striking feature of the region during this period has been the dynamic growth of many Asian economies, particularly that of China. Despite a temporary shock from the Asian financial crisis in the late 1990s, the region’s economic growth and dynamic transformation continued (figure 0.1). China’s entry into the WTO spurred its economic growth, and the country’s confidence continued to grow after the global financial crisis in the late 2000s. By 2010 China had overtaken Japan as the world’s second largest economy (and hence the largest economy in Asia) in terms of nominal gross domestic product (GDP) (chapter 3). China also began to “go global” in the twenty-first century.3 With a massive accumulation of foreign exchange reserves and increasing excess capacity, China has begun to invest outward and extend loans and currency swaps to countries around the world.4 Now one can easily see China’s swelling presence in the region, from infrastructure investment and economic cooperation to regional institution building.

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25,000

USD billions

20,000

15,000

10,000

5,000

2018

2016

2014

2012

2010

2008

2006

2004

2002

2000

1998

1996

1994

1992

1990

0

Year U.S. India

Eurozone ASEAN-6

China S. Korea

Japan

Figure 0.1 GDP of Major Regions and Countries, 1990–2018. ASEAN- 6 includes Indonesia, Malaysia, the Philippines, Singapore, Thailand, and Vietnam.

Source: IMF, “World Economic Outlook: GDP, Current Prices, Billions of U.S. Dollars,” https://www. imf .org /external /datamapper / NGDPD@WEO/OEMDC /ADVEC / WEOWORLD.

Furthermore, China’s aggressive stance when dealing with regional maritime disputes, most notably in the South and East China Seas, has distressed many countries in the region, including Japan.

It was in this domestic and regional context that the Japanese government began to adopt a new, more liberal regional geoeconomic strategy.

The intent was to gain advantages in Asia’s regional economic competition in the midst of expanding Chinese influence and the increasingly precarious commitment from the United States. The region’s growth and stability are vital for Japan’s long-term prosperity and security, and thus the government strives to maintain its influence in the region while engaging (with the hope of prevailing over) China. To this end, Japan’s regional geoeconomic strategy has been an essential component of regional economic integration and development in East Asia.

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Japan’s State-Led Liberal Strategy and Its Implementation Geoeconomic dynamics have imposed external pressure on the Japanese government to adopt what I call a “state-led liberal strategy.” As will be discussed extensively in chapter 1, this strategy aims for a high level of economic rule setting in the region. The government has also become increasingly interested in formal rules and regional institution building in all economic issue areas, ranging from trade to investment to financial affairs. Such a strategy is the best way for Japan, with its relatively large economy (second in the world until 2010, and third largest after the United States and China since then), to take advantage of its current position, both geographically and economically, in the face of the U.S.- China rivalry.

Japan can use its strategy to shift the balance between the two great powers and can also cast the deciding vote to shape the regional economic order.

At the same time, this strategy is the inevitable outcome of Japan’s economic maturity. As will be discussed in chapter 1, Japan continues to pursue economic growth, but in recent decades the country has had to look to the nearby regional economy in search of profitable investment opportunities and new manufacturing bases. The Japanese government, therefore, pursues the regional geoeconomic strategy in order to establish advantageous conditions for Japanese business operations in East Asia. In the process, it has had to face the challenges of a “disembedded” state, as Japanese businesses are no longer under the direct guidance of the state, and economic resources at the government’s disposal are limited. Furthermore, the fragmented structure of the bureaucracy, which lacks the glue previously provided by businesses, has made it difficult for the government to pursue coherent policies under this new liberal economic strategy.

As such, Japanese foreign economic policy is moving into uncharted territory. While Japan is arguably a unique case, it is also a harbinger of what’s to come for many more interventionist states in the region and beyond. On the one hand, not many countries have Japan’s economic size, which allows it to single-handedly influence the system, and none of the larger countries that have adopted a developmentalist strategy have achieved the level of economic maturity that Japan has. Additionally, Japan faces rapid demographic aging and holds a precarious but influential position between the United States and China. No other country seems to operate

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under these same conditions. On the other hand, Japan is the forerunner of what is possibly in the works for many so-called developmental states that have achieved high levels of economic development. From South Korea to Taiwan to Indonesia to China, the importance of economic growth continues to agonize political leaders and government elites. As these countries reach their economic plateau where marginal return on investment stagnates, their governments are plagued with the problem of excess savings and capacity, which must be utilized effectively in order to secure further economic growth. Some of the worrisome signs are already visible in China’s Belt- and- Road Initiative (BRI), as the Chinese leadership is in a tremendous rush to broaden the country’s economic reach to expand external markets and investment sites for growth. So far China has taken a mercantilist approach in most areas, but there are signs that the country, in the long run, would also be interested in its own version of “liberal world order” to open other markets once it is at the top of the global economic pecking order. Meanwhile, all states that outgrow developmentalism will experience its persistence in the forms of institutional rigidity, vested interests, and developmental norms.

Book Outline Chapter 1 lays out the main argument of this book. It first defines the concept of regional geoeconomic strategy. After reviewing the discussion on Japan’s foreign policy characteristics in both historical and comparative terms, the chapter analyzes the shift of the Japanese government’s regional geoeconomic strategy from one that is bilateral, informal, and based on embedded mercantilism to one that is based on a regional and formal approach and on global and liberal standards.

Chapter 2 discusses foreign economic policy, with particular interest in the systemic and domestic divide in comparative and international political economy. Debates over the transition of a developmental state as well as the variety of capitalism are important parts of the literature on this discussion. The chapter concludes with a discussion on the source of Japan’s new state-led liberal regional strategy.

Chapter 3 focuses on the changing geoeconomic environment in the Asia-Pacific, with an emphasis on the rivalry between the United States and China following the global financial crisis. This rivalry has become [ 6 ] I N T RO D U C T I O N

critically important in the backdrop of Japan’s regional strategy. As the Japanese economy struggles and loses importance within the region, Japan has ironically gained a strategic advantage given the precarious power balance between China and the United States.

Chapter 4 is dedicated to Japan’s economic transformation. It first considers the triangle of legislators, bureaucracy, and big businesses and then turns to government-business relations. It is important to point out that the nature of these relationships has shifted over time and has undermined the neomercantilist connection between the two components.

In chapters 5 through 7, I analyze three economic issue areas of the Japanese government’s regional geoeconomic strategy. Chapter 5 focuses on trade and investment. Under the stagnant progress in liberalization and rule setting through the WTO and other multilateral efforts, the number of preferential trade agreements and bilateral investment treaties has multiplied in the past quarter-century. The Japanese government’s approach to regional trade started in 1989 with establishment of Asia-Pacific Economic Cooperation (APEC), although its policy toward APEC included many of the old-style principles of economic governance, such as a visible reluctance to engage in formal agreements and an animus toward aggressive liberalization. As APEC’s liberalization process stalled in 1997–1998 and the region was hit by the Asian financial crisis, the Japanese government began to turn to free trade agreements (FTAs). The government’s motivation, choice of early FTA partners, and participation in negotiations for a trilateral investment agreement with China and South Korea all indicate a gradual shift in Japan’s trade and investment strategy toward formalization and liberal rule-based arrangements. The competition to establish regionwide FTAs, which began in the late 2000s, continues to this day. The chapter examines the TPP negotiations, of which the Japanese government became the twelfth and last negotiating party to join in July 2013. With the basic agreement concluded in October 2015, the TPP would have been the rule-setter for the region’s trade and investment relations. After President Trump withdrew the United States from the agreement in 2017, the Japanese government managed to push forward with regional trade and investment rulemaking through the conclusion of the TPP-11.

On the topic of regional monetary and financial affairs, the subject of chapter 6, the Asian financial crisis unquestionably had the strongest impact in shaping Japan’s regional strategy. Until then, the government’s regional efforts were very limited and half-hearted, and there was little interest in I N T RO D U C T I O N

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institution building in Asia. This political atmosphere completely shifted in the aftermath of the Asian financial crisis as the Japanese government took an active lead in proposing an Asian Monetary Fund (which did not materialize) and then in supporting the Chiang Mai Initiative (CMI). The latter has led to a well- defined institution with the ASEAN+3 membership and establishment of the ASEAN+3 Macroeconomic Research Office (AMRO), which serves as its research headquarters. Meanwhile, other monetary and financial efforts progressed, though more informally. The Asian Bond Fund— supported by the Executives’ Meeting of East AsiaPacific Central Banks (EMEAP) and technical assistance led by the Japanese government—has helped to expand bond markets in Asia tenfold in fifteen years. After many attempts across five years beginning in 1999 to increase the use of the Japanese yen gained little support from Japanese businesses, the government finally gave up. This dynamic of Japan’s difficulties in managing the market continues as China tries to expand the use of its currency—the renminbi (RMB)—in the region. The lack of business interest in Japan fueled the Japanese government’s reluctance to support Chinese government efforts.

Chapter 7 analyzes the Japanese government’s regional strategy in foreign aid and developmental support. The institutions to extend foreign aid have long been in place for Japan, and bilateral arrangements continue to dominate in this area, with the exception of Japan’s active engagement with the Asian Development Bank. Japan’s traditional “economic cooperation” symbolized the mercantilist nature of Japanese aid. While Japan operated as an aid superpower in the 1990s under changing global development norms, the government was pressured to untie its aid procurement from its domestic sources and divert resources from economic infrastructure to the social sector. As the Japanese aid budget was gradually reduced in the 2000s, the government produced a sharper articulation of the country’s development and foreign aid objectives, including human security and legal system development in Asia. Meanwhile, private-sector involvement in Japanese developmental assistance has continued, with a different structure.

Recently the public-private partnership, instead of tied aid, has become the dominant modality, but the Japanese government has generally had a difficult time expanding that modality. The BRI and Asian Infrastructure Investment Bank (AIIB) initiatives proposed under Chinese leadership introduced other challenges to Japan’s regional strategy from 2013. With the participation of fifty-seven founding members around the world, the [ 8 ] I N T RO D U C T I O N

AIIB was inaugurated in January 2016, but neither Japan nor the United States has joined. Japan continues to use liberal policy diffusion to its advantage, concomitantly, as it strengthens national financial instruments for Japanese businesses to gain advantage against the spread of BRI projects, a sign of a possible reverse course.

The conclusion wraps up the study with an overview of the pattern of Japan’s new regional geoeconomic strategy in three issue areas and a discussion of implications for state-led liberal strategy to diffuse high standards and rules. The contrast of three issue areas provides insights into the importance of domestic institutions. The book concludes by speculating on the impact of Japan’s new regional geoeconomic strategy on economic regionalism and regional governance in the Asia-Pacific.

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Since the mid-1990s, Japanese policy has shifted to a new liberal strategy emphasizing regional institution building and rule setting. Japan’s New Regional Reality offers a comprehensive analysis of Japan’s geoeconomic strategy that reveals the country’s role in shaping regional economic order in the Asia-Pacific. Saori N. Katada explains Japanese foreign economic policy in light of both international and domestic dynamics.

“This book provides a much-needed analysis of changes in Japan’s regional economic strategy. In giving agency to the Japanese state, Katada makes a major contribution to our understanding not just of contemporary Japan, but of the region as a whole and the potential shape of the world order to come.”

—Saadia Pekkanen, editor of Asian Designs: Governance in the Contemporary World Order “At a time when the future of Asia is narrowly seen through the prism of U.S.-China great power competition, Katada persuasively demonstrates that Japan’s quiet transformation— less mercantilist, more champion of liberalism—will shape the regional order. Her command of the nuanced evolution of Japan’s foreign economic policy across diverse tracks— trade and investment, finance, and development aid—is unparalleled. Essential reading for anyone interested in Asian geoeconomics.”

—Mireya Solís, author of Dilemmas of a Trading Nation: Japan and the United States in the Evolving Asia-Pacific Order “This important book provides a convincing account of the remarkable shift by Japan to lead regional initiatives for liberal economic policy. Katada melds theory and empirical tests to explain how state-led liberalism arose to replace mercantilist industrial policies with a new era of Japanese foreign economic policy. Looking inside domestic decision-making processes and reflecting on the challenge of China’s growing strength, the book offers a comprehensive synthesis.”

—Christina L. Davis, author of Why Adjudicate?: Enforcing Trade Rules in the WTO SAORI N. KATADA is professor of international relations at the University of Southern California. She is the author of Banking on Stability: Japan and the Cross-Pacific Dynamics of International Financial Crisis Management (2001) and coauthor of The BRICS and Collective Financial Statecraft (2017) and Taming Japan’s Deflation: The Debate Over Unconventional Monetary Policy (2018), among other works.

C O N T E M P O R A RY A S IA I N T H E WO R L D P R I N T E D I N T H E U. S . A .

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