OECD ECONOMIC SURVEYS D it B ,A II ) 3 ,U I D 3 ? D il 3 B 0 3 3 a J B 5D-D?3Tt^71D;J 3 3 3 D 1 V 3 I D ? 21 3 11 7 JAPAN D 3 3 ,A 3 1 3 .V7 I D 3 3 3 B 3 3 ? I 3 3 7 ) 3 3 17 3 3 3 H 3 I 3 ? P I ?J 1 3 7 I B 3 3 3 ?.l I 3 3 3 3 JULY 1974 BASIC STATISTICS OF JAPAN THE LAND Area(I 000sq. km) 77.4 Majorcities,October 1973estimates Cultivatedagriculturalland (1 000 inahitants) (1000sq. km 1972) 57 Tokyo(Ku area only) 8739 Forest(1 000sq. km 1970) 253 Osaka 2842 Denselyinhabiteddistricts1 Yokohama 2495 (1000sq. km 1970) 6.4 Nagoya 2075 Kyoto 1435 Kobe 1 339 Sapporo 1 131 THE PEOPLE Peptt*«t<flr;October 19^3estimate Labourforceinpercentoftotal (1000) 108710 population, 1973 Numlyr«^personsriefsqT'krTLljh1973 292 Percentagedistribution ofemployed Percentage*of" pcfpuiation living in persons: denselyinhabûedjdirfacfcjn'^lftTO*'. 53.5 Agriculture, forestry and fishery 12.5 Ntet^n^ltltc^nopulfiliiôoni'ncrease Manufacturing and construction 36.3 (ptr 1T0O000 iinnhhaabbiittaannttss 1968-73) 14.2 Other 51.2 fa, TV- fRODUCTION * OrtMrf'ffJllUflaTpToclucrin 1973 Growthofrealfixedinvestment 112554 1968-73 average (annual rate, per ' rowiho realGNP, 1968-1973 cent) 12.7 average (annual rate, per- cent) 9.7 Grossvalueofagriculturalproduction Gross fixed investment in 1973 (per in 1972(billionyen) 5023 cent ofGNP) 37.0 Growih ofproduction in manufac turing(permanday) 1968-73 annual rate,percent THE GOVERNMENT Publicconsumptionin1973 CompositionofParliament(percent) (inpercent ofGNP) Currentpublicrevenuein FY 1972 House of Houseof (inpercent ofGNP) Repre Counci Government employees in per cent of sentatives lors totalemployment, 1973 LiberalDemocraticParty 57 50 Outstandinglong-termcentralbondsin Socialist Party 24 25 percentofcurrentreceipts(FY 1972) 55.9 Komeito(CleanGovern ment Party) 6 10 Communist Parly 8 8 DemocraticSocialistParty 4 4 Other 1 3 Last Election: Dec.1972 June 1974 Next Flection: June1977 FOREIGN TRADE AND PAYMENTS (1973, million US dollars) Commodityexports,fob 36264 Percentagedistribution Commodityimports,fob 32576 Exports Imports Servicesnet -3510 Transfersnet -314 OECD countries 49.7 49.7 Current balance -136 ofwhich:NorthAmerica 28.6 29.5 Long-termcapital -9750 South EastAsia 24.2 20.7 Basicbalance -9886 Other 26.1 29.6 Exports ofgoods and services in per centofGNP 10.8 Crude materials and fuels Imports ofgoods and services in per (S1TC2,3,4) 2.2 53.8 centofGNP 10.7 Semi-manufacturedgoods (5.6) 34.7 16.7 Machineryandtransport equipment(7) 49.3 8.2 Other(0. 1,8,9) 13.8 21.3 CURRENCY Monetary unit : Yen Currency unit ; a)CentralrateestablishedinDecember1971: 0.003247 dollarperyen b) Since 14th February, 1973 :floating Spotrateon 12thJuly, 1974: 0.003451 1 Ryukyu islands werereturned on 15 May, 1972. Theirpopulation was955 thousands and GNP was 370 million in FY 1972. Production figures for 1972 do not include, however, those of Ryukyu islands. 2 Areas whose population density exceeds 4000 persons per sq. km. Note An internationalcomparison ofcertain basicstatistics isgiven in an annex table. OECD ECONOMIC SURVEYS Archives- r^férences ' DOCUMENT PRÊTÉ - WETOUW BUREAU 610 JAPAN ORGANISATION FORECONOMIC CO-OPERATION AND DEVELOPMENT The Organisation for Economic Co-operation and Development {OECD) wasset up under a Convention sign¬ ed in Paris on 14th December, 1960, which provides that the OECD shall promote policies designed: to achieve the highest sustainable economic growth and employment and a rising standard of living in Member countries, while maintaining financial stability, and thus to contribute to the development of the world economy; to contribute to sound economic expansion in Member as well as non-member countries in the process of economic development; to contribute to the expansion of world trade on a multilateral, non-discriminatory basis in accord¬ ance with international obligations. The Members of OECD are Australia, Austria, Bel¬ gium, Canada, Denmark, Finland, France, the Federal Republic of Germany, Greece, Iceland, Ireland, Italy, Japan, Luxembourg, the Netherlands, Norway, Portugal, Spain, Sweden, Switzerland, Turkey, the United Kingdom and the United States. The Socialist Federal Republic of Yugoslavia is asso¬ ciated in certain work of the OECD, particularly that of the Economic and Development Review Committee. The annual review of Japan bytheOECDEconomicandDevelopmentReviewCommittee took place on 28th June, 1974. © Organisation for Economic Co-operation and Development, 1974. Queries concerning permissions or translation rights should be addressed to : Director ofInformation OECD 2, rue André-Pascal, 75775 PARIS CEDEX 16, France CONTENTS Introduction 5 I The problem of inflation 5 The price rise 5 Strong demand pressures 11 Cost factors 22 Other factors 27 II Economic policy 30 Fiscal policy 30 Monetary policy 32 Other policy measures 35 III Balance of payments 38 Overall developments and policies 38 Foreign trade 41 Current invisibles and capital movements 46 IV Prospects and policy issues 51 The present stance of policy 51 Short-term prospects 53 Policy issues and conclusions 56 Technical annex 61 TABLES Text: 1 Price developments 6 2 Consumer prices 9 3 Wholesale prices 10 4 Estimated contributions to the rise in Wholesale prices 10 5 Demand and output 12 6 Inventory accumulation 20 7 Import prices 25 8 Wage costs in periods of recovery 25 9 Prices and wages 27 10 Public finance 31 1 1 Factors affecting money supply 34 12a Balance of payments 39 12b Balance of payments 40 13 Trade balance 42 14 Changes in the trade balance 43 OECD Economic Surveys 15 Volume growth of exports by major industries 46 16 Volume growth of imports by major groupsof commodities 48 17 Long-term capital movements 49 18 Short-term capital movements (net) 49 19 External assets and liabilities 50 20 Demand and output forecasts 55 Statistical annex : A Gross national product and expenditure 69 B Gross national product and expenditure 70 C Net domestic product at factorcost by industry of origin 71 D Income and expenditure of households at private non-profit institutions 72 E-l Central government budget 73 E-2 Local government budget 74 F Interest rates and money supply 75 G Financial position of the economy 76 H Foreign trade by commodities 77 I Foreign trade by area 78 J Balance of payments 79 K Total exports and exports to US 80 DIAGRAMS 1 Prices inperiods of recovery 7 2 GNP growth and private domestic demand 14 3 Indicators of demand pressures 16 4 Business surveys 18 5 Inventory-GNP ratio in periods of recovery 19 6 Demand, supply and prices in industry 22 7 Acceleration of inflation after the oil crisis 24 8 Longer-term trends in wages 26 9 Price expectation of entrepreneurs 28 10 Money supply and GNP 29 I I Indicators of monetary policy 36 12 Nominal and real interest rates 37 13 Exports and export prices 44 14 Imports, industrial production and stockbuilding 47 Japan INTRODUCTION Inflation gathered considerable momentum in 1973 fed by strong demand pressures and rising import prices. The oil crisis has further exacerbated the situation by creating additional supply bottlenecks, accelerating the rise in import prices and stimulating inflationary expectations; it has also aggravated the balance of payments situation, which had already been deteriorating since the spring of 1973. The increase in prices has reached unprecedented and clearly intolerable rates. Checking inflation has become the most important and pressing policy objective of the authorities and restrictive demand management policies have been progressively strengthened since the spring of 1973. Restrictive demand management and the administrative guidelines on private investment issued in September and reinforced after the outbreak of the oil crisis, have begun to produce their intended effects. Domestic demand slowed down considerably in the first half of 1974, and signs of an easing of demand pressures have become more and more apparent in recent months. Although the rise in wholesale prices has decelerated in recent months inflation is likely to remain a serious problem over the year ahead, especially at the consumers' level as cost-push factors are likely to maintain upward pressures on prices despite the slack that has developed. Part I of the Survey examines the factors behind the upsurge in prices and attempts to distinguish the impact of import prices and domestic conditions. Part II deals with the stance of policy and its impact during the period under review. Balance of payments developments, including a tentative assessment of the effect of revaluation and domestic demand conditions on last year's export performance, are reviewed in Part III. Part IV describes the present outlook for the year ahead and discusses certain problems of economic policy. I THE PROBLEM OF INFLATION The Price Rise 2The deterioration of the price performance since mid-1972 started at the wholesale level but quickly spread to the consumers' level. As in most other Member countries, the current inflation is unprecedented in many ways: for its magnitude, length and resilience. The year-to-year increase in consumer prices averaged 11.7 per cent in 1973 and reached 24.5 per cent in the first quarter of 1974, compared with an average annual increase of 5.9 per cent in the 1961-1971 period. In the case of wholesale prices, the acceleration is even more striking: from an annual average of less than 1 per cent1 in 1961-1971 to 15.9 per cent in 1973 and 35.5 per cent in the first quarter of 1974. In no other recovery period 1 However, the annual average rate of increase in the latter half of the sixties had risen to 2.0 per cent. OECD Economic Surveys Table 1 PriceDevelopments Percentagechanges overthecorrespondingperiod ofthepreviousyear 1965 to 1972 1974 1971 1972 1973 Aver¬ age Q3 Q4 Qi Q2 Q3 Q4 Qi Wholesaleprices 1.7 0.8 15.9 0.3 3.0 9.3 12.4 17.3 24.0 35.5 Consumerprices 5.6 4.5 11.7 4.5 4.5 7.1 10.5 12.8 16.4 24.5 Import prices1 1.2 4.3 21.0 6.5 2.7 12.5 14.8 25.5 30.9 60.4 Exportprices1 1.5 2.9 9.0 3.5 1.3 2.0 5.1 9.8 19.2 33.3 GNPdeflator 4.7 5.0 12.1 5.0 5.6 7.1 10.0 12.7 18.3 25.7 1 Inyen;priceindexoftheBankofJapan. Source:BankofJapan,EconomicStatisticsMonthly. in the 1960's did the above-average increase in wholesale prices last for so long and prove so insensitive to policy action. The price upsurge since mid-1972 does not only reflect domestic economic developments and structures but also has been mainly influenced by world economic and financial developments. Inflation is a major problem confronting all Member governments, but recently the rate has been higher in Japan than in most other Member countries, reversing its favourable relative performance in the 1960's2. Several features characterize the acceleration of prices since mid-1972. Firstly, the exceptional role played by import prices, which in turn explains in part why wholesale prices have increased faster than consumer prices. Secondly, inflation quickly became a generalized phenomenon, with all price indices rising very rapidly, thereby generating strong inflationary expectations which, in turn, exacerbated the situation, particularly in the first quarter of 1973 and again at the end of the year, after the outbreak of the oil crisis. Thirdly, inflationary pressures were aggravated by the emergence of supply bottlenecks, initially due to a shift in the composition of domestic demand in favour of consumption, housing and public investment, and later to other factors, partly linked with the world-wide shortages of certain commodities. The temporary reduction in oil supplies following the October embargo further added to the problem by constraining the growth of output and by creating expectations for similar actions in respect of other basic materials. The following two paragraphs will briefly review price developments at the consumer and wholesale levels. They will be followed by an attempt to identify the main factors behind the current inflation and to quantify their impact. Changes in consumer prices in Japan reflect largely the influence of wholesale prices (with a variable lag), wage costs and consumers' demand. On average, they have been mainly cost-determined because of the large weight in the consumer price index of products of small firms with low productivity growth, and of services. Consumer prices have also been sensitive to changes in perishable food prices, such as vegetable and fruits, which are affected to a great extent by weather condi¬ tions3. The weight of imported goods is small, though of course manufactured goods such as clothing and fuel are greatly affected by changes in prices of imported 2 Japan's past favourable relative price performance is clearly shown in OECD, Econo¬ mic Survey of Japan, June 1971, p. 23. 3 Small firms' products have a weight of 24 per cent in the total index. When manu¬ factured products only are considered, the weight of small enterprises is 51 per cent, compared with 21 per cent in the wholesale price index. Food products have a weight of 40.9 per cent, one of the highest among major OECD countries, and seasonal food (including fresh fish) one of almost 10 per cent. The weight of services is 32.1 per cent. Japan Diagram 1 Prices in periods of recovery Trough = 100 150 1971-74 140 WHOLESALE PRICES 130 120 .110 1965-68 140 100 1962-65 1971-74 130 CONSUMER PRICES 120 1962-65 110 137.7 130 1971-74 100 120 DOMESTIC DEMAND DEFLATOR (seasonallyadjusted) 1962-65 110 1965-68 100 IV M 111 1962 1963 1964 1965 IV. II ill M III 1965 1966 1967 1968 il m 1971 1972 11997733 1974 Sources: EPA, Annual Report on Business Cycle Indicators; BOJ, Economic Statistics Monthly. raw materials. On average, consumer prices rose only moderately in 1972, but began to accelerate in the first quarter of 1973 reflecting the pick-up in money wages and, with a lag, the acceleration in wholesale prices. From there on, consumer prices continued to accelerate (see Tables 1 and 2). Initially, the accele¬ ration was mainly due to a few products, such as meat, fresh vegetables and clothing, but towards the end of the year and in 1974 almost all products were OECD Economic Surveys registering increases well into double figures4. As expected, the prices of products of small enterprises rose much faster than average, the year-to-year increase accelerating from 12.2 per cent at the end of March to 30.3 per cent in December. But prices of products of large enterprises also began to increase rapidly in the spring, and by January 1974 were 20.6 per cent higher than a year earlier. Secre¬ tariat estimates based on the consumer price equation of the EPA medium-term macro-economic model5 suggest that, until the end of 1973, most of the increase in consumer prices was due to changes in wage costs and wholesale prices. But there appears to be a large estimating error for the last months of 1973 and the first quarter of 1974 indicating that other factors also played an important role. Consumers' expenditures at current prices accelerated considerably in this period, probably also reflecting increased inflationary expectations and speculative pur¬ chases. The lag between the increase in wholesale prices and consumer prices became smaller as consumers speeded up their purchases in anticipation of further price increases6. Wholesale prices have in the past increased much less than consumer prices, fluctuating cyclically largely in response to variations in demand pressures7. They began to accelerate in mid-1972 in parallel with the recovery of domestic demand, the increase being initially concentrated in a few products. The large expansion of public investment and housing construction put particularly strong pressures on capacity of construction related industries8. Moreover, increases in import prices of certain raw materials (first lumber and later wool, cotton and soya beans) were an important factor behind the acceleration in late 1972. However, the price increase in wholesale prices became generalized in the first months of 1973 and gathered momentum in the second half of the year and into 1974. The sharp acceleration of import prices of raw materials in general and especially oil since October 1973, clearly played a key role in the exceptional upsurge in December and in the first quarter of 1974, but other factors were also responsible. Table 4 represents an attempt to estimate the contribution of various factors to the recent increase in wholesaleprices compared with earlierperiods of inflation9. Though the figures must be interpreted with caution, some important features of the current inflationary process are clearly borne out. A striking feature is the length of the present inflation, partly due to the continuous and persistent increase in import prices. Moreover, demand pressures were clearly important in explain- 4 The year-to-year increase in January 1974 reached 24.1 per cent for fresh fish, 27 per cent for meat, 31.6 per cent for milk and eggs, 54.7 per cent for fresh vegetables, the prices of which remained stable in the two previous years, 45.2 per cent for fuel and 33.9 per cent for clothing, to name just some important products. By major groups, agricultural products posted an increase of 25.2 per cent, industrial products are of 29.1 per cent, and services less than 10 per cent, largely because the prices of government controlled public services remained virtually unchanged. 5 The equation explains the year-to-year percentage change in consumer prices by changes in wage earnings, overall productivity (GNP divided by employment), government controlled prices and the lagged (six months) effects of wholesale prices. 6 The lag is generally short in the case of smaller enterprises' products, with most of the effects exhausted after two quarters. It is, however, much longer (three-to-four-quarters) in the case of products of larger enterprises. (See EPA Economic Survey of Japan, 1972- 1973, pp. 126-127). There is also evidence that on average the lag has become smaller after 1969, particularly in 1973. 7 As shown in Table 3, industrial materials have a large weight in the wholesale price index. Their prices have been rather stable in the past and have closely followed changes in demand. The weight of directly imported goods is only 9 per cent, though this clearly under-estimates their effects since most of the semi-finished products have a large import content. 8 Mostly ceramics, cement, lumber, fabricated metals, and iron and steel. 9 It is, of course, not easy to quantify the impact of each factor. In its latest «Econo¬ mic Survey of Japan» the EPA tried to estimate this by a regression equation using level data. The interpretation of statistical results is, however, difficult given the presence of a trend in