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STATE MEDIATION OFGLOBAL FINANCIAL FORCES :

DIFFERENT PATHS OF STRUCTURAL 1REFORMS IN JAPAN AND SOUTH KOREA

1

Yves TiberghienUniversity of British Columbia

This article compares the process of corporate structural reforms in Japan and South Korea in the late 1990s and raises two questions. Why have state-led economies such as Japan and South Korea engaged in politically costly corporate structural reforms in the late 1990s? What explains the variation in the reform process between Japan and South Korea?

I argue that the process of structural reforms in state-led economies has been the result of state mediation of global financial forces. The rise of portfolio capital inflows increases the pressure for domestic reforms, a change that is common to Japan and Korea in the late 1990s. However, the actual success of structural reforms depends on the ability of the elite bureaucracy to mediate among between global investors, domestic interest groups and the general public. In contrast to Korea, Japan exhibits a low level of bureaucratic control over the legislative agenda and a situation of tripolar deadlock. The evidence presented here includes quantitative data, government documents, and legislative records as well as information gathered from over 100 interviews with bureaucrats, politicians, business leaders, labor leaders, and other actors in the two countries.

Journal of East Asian Studies 2002, 2(2):103-141

104 Yves Tiberghien

Key Words : structural reforms, corporate restructuring, Japan, South Korea, globalization, capital flows, bureaucratic control, legislative agenda.

INTRODUCTION

In the past five years, there has been a drastic acceleration of corporate restructuring through unprecedented mergers and acquisitions, internal reorganization, and labor reduction around the world. Surprisingly, this trend has been particularly strong in such state-led economies as Japan and South Korea, both of which had long been able to cushion the pressure for change. In fact, in both state-led economies, the state has been encouraging corporate restructuring through active reforms. In Korea, the government has supported the process with one of the world’s fastest and most far-reaching reform drives, turning against the conglomerates it had nurtured for decades. The president went as far as summoning up top executives of the largest corporations into his office and forcing them to agree to a full metamorphosis. Meanwhile, in Japan, after a decade of hesitation and despite fear and opposition by the majority of the population, the government has sponsored a series of new laws to encourage corporate restructuring. The Industrial Revitalization Law of August 1999 gives tax breaks to corporations that engage in labor reductions and other restructuring activities.

Of course, the speed, nature, and reach of structural reforms in South Korea and Japan are very different. While Korea has pursued intense and far-reaching reforms since January 1998, Japan has produced only limited reforms followed by counter-moves and periods of paralysis. Interestingly, Korean structural reforms are distinctive not only because of their speed and intensity but also because of their peculiar dual-track characteristic. The Korean government pursued at the same time mainstream corporate governance reforms and direct state intervention in corporate restructuring.

105STATE MEDIATION OF GLOBAL FINANCIAL FORCES

The Japanese structural reform path since the beginning of the economic crisis in 1992-1993, on the other hand, has been much more hesitant and circuitous. The Hashimoto government (1996-1998) and the Obuchi government (1998-2000) did manage to pass important structural reforms that began an in-depth transformation of the Japanese system. For example, Prime Minister Hashimoto initiated a financial “Big Bang,”　which completed the protracted process of financial deregulation initiated in 1984. Hashimoto also completed significant administrative reforms, accounting reforms, and deregulation reforms. The Obuchi government passed far-reaching financial revitalization reforms in the fall of 1998 and significant corporate governance reforms in 1999. It also passed the aforementioned Industrial Revitalization Law in August 1999.

However, the subsequent Mori and Koizumi cabinets (at the time of writing) did not follow up on this program of structural reforms, despite the emphatic rhetoric. As a result, the reforms of 1996-1999 have proved insufficient to turn the economy around. Most economic experts agree that the Japanese government has repeatedly shunned from the most necessary reforms. As of 2002, two non-reforms particularly stand out: the unwillingness of the government to deal once and for all with the mountain of bad debts accumulated in banks; and its inability to fundamentally reform Japanese corporate governance, given the enduring bank-corporation nexus. Other significant non-reforms include pensions and public finance (postal savings, the Fiscal and Investment Loan Program). The Japanese political system appears unable to deliver the necessary measures for an economic turnaround. Overall, the process of structural reforms in Japan in the late 1990s appears slow and unsuccessful, although the political system permitted a series of significant reforms in 1996-1999.

This article focuses on two key questions. Why have Japan and South Korea engaged in corporate structural reforms in the late 1990s when these reforms seem to undermine the post-war social contract? What explains the variation in the reform process between the two

106 Yves Tiberghien

countries that have long displayed a similar pattern in regard to the role of the state in the economy?

While this article concentrates on corporate structural reforms, the argument could be extended to other types of structural reforms. Corporate structural reforms are measures taken by the state to modernize corporate governance, facilitate the process of corporate restructuring, and make the industrial structure more flexible. They aim at increasing the competitiveness of the economy and ensuring long-term growth. In most cases, structural reforms are discrete and are not the object of electoral debates. Although they often consist of technical measures, their cumulative effect amounts to a major transformation of the post-1945 social contract.2

In contrast to predominant approaches that look at either purely international factors or domestic interest groups, I argue that the process of structural reforms in state-led economies such as Japan and South Korea has been the result of state mediation of global financial forces. The rise of global financial flows and the intrusion of global investors onto the domestic chessboard provide the impetus for change. However, elite bureaucrats and reformist politicians mediate these forces. Their ability to finesse the political constraints is determined by the degree of bureaucratic control over the legislative agenda.

In particular, I focus on one dimension of financial globalization: equity inflows (foreign purchases of domestic stocks). Once financial portfolio flows have reached a sufficiently high level to put a large proportion of the domestic stock market under the control of foreign investors, political actors are forced to incorporate the demands of foreign investors in their decision process. At a given trigger point of portfolio capital flows in relation to the size of the economy, the costs of going against the interests of foreign investors become so great that domestic politicians shift their strategies toward the pursuit of structural reforms. At that level, political incorporation of the reform agenda is occurring.

The poor reform capacity of Japanese political institutions after 1995


is caused by a tripolar deadlock among global investors, domestic interest groups, and voters. The large increase in foreign equity inflows after 1995 and the growing presence of foreign investors on the domestic political chessboard have provided the incentives for reform. The elite bureaucracy, namely the Ministry of International Trade and Industry (MITI), has taken the lead in pushing for structural reforms that match the demands of foreign investors. However, the elite bureaucracy and the reformist politicians have been hindered in their reform capacity by the low degree of bureaucratic control over the domestic agenda. This limited control stems from bureaucratic divisions (Ministry of Finance-MITI rivalry) and from the inability of the Cabinet to set the legislative agenda. As a result, the state has proven mostly unable to mediate between the new incentives of globalization, the interests of entrenched vested groups, and the preferences of voters. The outcome of this tripolar deadlock has been a peculiar zigzagging walk, a process that included a few periods of significant reforms followed by long periods of political standoff between the various sides. These features stand in great contrast with the case of South Korea, which has been more successful in implementing far-reaching structural reforms.3

The article proceeds in three steps. Section I presents a framework on how financial globalization changes the incentives of domestic policy-makers with respect to corporate structural reforms. It introduces the concept of tripolar deadlock and emphasizes the role of the state bureaucracy in mediating the deadlock. Section II gives an overview of structural reforms in Japan and provides general evidence as well as a precise case study on the impact of financial globalization. Section III turns to South Korea and contrasts its rapid progress in structural reforms with the slower path in Japan.

108 Yves Tiberghien

FINANCIAL GLOBALIZATION, TRIPOLAR DEADLOCK, AND THE MEDIATING STATE

Assum ptions of this Study: Financial Liberalization and Elite Bureaucracy

I base my argument of state mediation of globally induced structural reforms on the two following assumptions. First, financial liberalization has occurred. The two countries under study have liberalized both their capital account and their domestic financial industry, at least to a large degree. This assumption is an obvious one for all member countries of the Organization for Economic Cooperation and Development (OECD) in the 1990s, although it restricts the timing of the paper. It places the analysis in the second stage of domestic battles over globalization, the stage of second-degree structural reforms in the wake of financial deregulation.4 An interesting thing is what happens next. Financial deregulation sets the stage for an increase in capital flows. It ushers a new period where financial markets gain in importance. This is the stage of the process that is under study here.

Second, there exists an elite economic bureaucracy that had historically played a role in the economic development process and is structured to operate with a long-term time frame.5 Two elements set this elite bureaucratic corps apart from the rest of the bureaucracy and from bureaucracies in other systems: socialization and incentives. In Japan and South Korea, members of the elite corps are trained in a single and ultra-competitive institution, where they enter at a very young age. The training includes a strong identity-formation as the national elite and a strong message of service to the nation. The behavior of the elite bureaucracy also responds to institutional incentives. The most important and distinct incentive is the long-term time frame. Elite bureaucrats belong to the elite corps for their entire life and cannot be fired nor downgraded. Their status is guaranteed. This feature spurs


bureaucrats to see political events as repeated games with a long shadow of the future. It also motivates them to work for long-term growth and modernization.

The Pressures of Financial G lobalization on the State

Financial Globalization transforms the political game of structural reforms by introducing a new actor on the political economic scene: global investors. The trends of financial deregulation and technological change have greatly reduced transaction costs and led to a massive increase in global capital flows. Changes in global finance have made direct financing increasingly efficient and attractive, relative to bank-led financing. The 1990s have seen the emergence of global norms of corporate governance, norms that serve as focal points for global investors. In this context, the competitiveness of national economies and their potential for long-term growth increasingly depend on the ability to obtain cheap sources of funding for corporations, thereby attract global capital flows.

Capital flows, i.e., Foreign Direct Investment (FDI), used to be overwhelmingly stable industrial investments. In the late 1990s, capital flows have become increasingly liquid and volatile, principally portfolio flows with a growing portion of derivative investments. For example, in the case of G10 developed economies, FDI flows remained superior portfolio investments until 1982. By 1997, however, gross capital flows among G10 countries were overwhelmingly portfolio flows by a ratio of 10 to 4. The ratio has increased since then. More to the point, portfolio flows themselves contain an increased proportion of equity investments and these tend to change hands more and more rapidly.6 Domestic governments and international organizations cannot simply keep up with the changing nature and growing quantity of financial exchanges.

The emergence of global investors onto the domestic political chessboard and the increase in global financial flows provide the

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incentives for reform. Capital flows constitute a force for change and their level determines the intensity of reforms.

The initial strategy of politicians toward structural reforms consists of attempts to block reforms and preserve the status quo. In so doing, political actors seek both to protect their particularistic support groups (typically, domestic industries) and to avoid any public cost (such as unemployment, deflation, or bankruptcies) that could accompany reforms. This is the default position. However, things change once capital flows have been deregulated and the domestic finance industry has been liberalized. If foreign investors have reached a sufficiently high level of participation in domestic financial markets, possibly in response to previous bouts of pro-investor reforms of former governments, their reaction will matter. A negative assessment of government policies by foreign investors can cause a major drop in the stock market, e.g., 20-30 percent plunge during the Mori and Koizumi terms.

Why would, in turn, politicians care for the level of the stock market? A domestic collapse in the stock market, especially if it is a much larger relative drop than the neighboring stock markets, can have three types of political impact. First, politicians are aware that long-term competitiveness and long-term growth are critical to their chances in future elections. Increasingly, long-term growth and competitiveness are tied to the availability of cheap financial capital in the economy. When the stock market dips significantly and remains low for a long period of time, corporations have a harder time issuing shares. In addition, bank lending is increasingly tied to corporate ratings and ratings are highly correlated with stock levels. As a result, a durably depressed stock market increases the cost of capital in the economy and has a negative impact on long-term growth.

A depressed stock market can also have a secondary immediate effect and create a sense of urgency. For example in Japan, banks own large portfolios of corporate stocks and the latent profits on these investments are included in their capital. In turn, bank lending is proportional to the level of their capital, according to the Cook ratio (the so-called BIS


rules). Therefore, when the stock market is depressed, bank capital shrinks and the level of bank lending to the economy collapses, accelerating the process of deflation. This phenomenon immediately makes the level of the stock market a political problem.

Third, the level of the stock market has also increasingly become a proxy for government effectiveness. Not only investors but also the general public tend to correlate a low level of the stock market with bad government policy. In early 2001 in Japan, two key figures were quoted to assess the political effectiveness of the Mori administration: the support rate of Prime Minister Mori in opinion polls and the low levels of the stock market.

The key factor in the political incorporation process is the trigger level of capital flows. A good proxy to evaluate this trigger level is the share of the total stock market value owned by foreign investors. The hypothesis of this study is that a 10-15 percent total market ownership in a relatively non-fluid stock market (that is, with a high proportion of long-term investors and cross-shareholding) is sufficient to give control over price movements to foreign investors. Given that foreign investors are active buyers and sellers, that independent domestic investors (non-institutional, non-financial investors) tend to take their cues from foreign investors, and that domestic institutional investors tend to hold onto their shares, their effective impact on stock market price formation is two to three times their actual share of the market value.7 In the spring of 2001, this multiplier effect appeared clearly in Japan.

Foreign investors will play a crucial role in any long-term rally in Japanese equities. Although the majority of Japanese shares are domestically held, foreign investors are behind up to half the trade on the Tokyo Stock Exchange (The Financial Times, May 8, 2001:1).

A very high level― above 30 percent― indicates that a significant number of large corporations are actually owned and controlled by foreign investors. A high level― above 15 percent― indicates a

112 Yves Tiberghien

situation in which corporations are still in majority controlled by domestic shareholders, but where foreign investors control maybe half of stock transactions (and thus the stock price formation). At that level, foreign investors have a very high impact through the exit threat. A level between 10 and 15 percent probably constitutes a transition level, where the impact of foreign investors is significant but not yet critical. Finally, a level below 10 percent is not yet politically significant. Figure 1 presents a comparative analysis of the level of foreign ownership of the domestic stock market in Korea and Japan.

This, of course, is merely an indicator. Other elements are important in setting the timing for the political shift toward reforms. Politicians are more likely to incorporate the reform agenda once alternatives have failed, especially Keynesian policies. As a result, political actors are

FIGURE 1 Share of Foreign Investors in Domestic StocCapitalization - Comparison between South Korea and

0

5

10

15

20

25

30

35

1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

KoreaJapan

Sources: For Japan: Tokyo Stock Exchange; for Korea: Korea Stock Exchange, Ministry of Finance and Economy, and the authors estimates.

Figure 1 Share of Foreign Investors in Domestic Stock Market Capitalization - Comparison South Korea and Japan

Korea

Japan


more likely to respond to pressures from foreign investors if the country is in a situation of public deficit and if foreign investors own a large proportion of the public debt. This secondary mechanism imposes a hard budget constraint on the government and precludes its leaders from seeking Keynesian alternatives to structural reforms.

Em ergence of a Tripolar Deadlock

Once financial portfolio flows have reached a sufficiently high level to put a large proportion of the domestic stock market under the control of foreign investors, political actors are forced to incorporate the demands of foreign investors in their decision process. Political leaders must increasingly balance the interests and pressures at the same time from voters, particularistic interest groups, and foreign investors, leading to the situation of tripolar deadlock. This puts political leaders in a particularly difficult situation when the three audiences diverge in their interests and requests. The result is likely to be a mix of reforms and counter-reforms. The state must proactively support an industrial mutation in order to attract international portfolio capital and enhance national competitiveness, while also defending the weak against the excesses of global capitalism.

Prior to 1990, economic policy in Japan and South Korea could be seen as an exercise in balancing between the general public interest and the interests of powerful interesting groups. In Japan, the state balanced between two poles of the Japanese political economy: a large manufacturing pole and a domestic sheltered pole that heavily depended on the state’s protection. The state mediated this bipolar standoff without much interference from the global economy. Given the expanding pie of the high-growth period, it was possible to continue particularistic policies for selected interest groups without greatly affecting the public good and without losing the support of the median Japanese voter.8 In Korea, the state balanced the interests of the chaebol and those of the public at large.

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In Japan, the situation changed dramatically in the early 1990s. As a result of the collapse of the bubble, the state was faced with new problems such as bad debts and banking crisis and saw its resources dwindle, leading to repeated budget deficits. As a result of financial deregulation between 1984 and 1999, the state lost many of its direct tools of economic management. Most importantly, financial globalization transformed the political game in Japan beginning in the mid-1990s by changing the incentives of the government. Once it becomes clear to the government that the continuing competitiveness of industry and stable long-term growth become dependent on the availability of cheap direct financing through the stock market and that the stock markets movements are increasingly determined by the decisions of foreign investors, the game of economic management is changed. Equity investors become an important new constituency and the former bipolar dilemma turns into a tripolar conflict. In Japan, the state proved ill-equipped to mediate this new tripolar deadlock because of institutional features that limit the degree of unified bureaucratic control over the legislative agenda.

State M ediation : the Degree of Bureaucratic Control over the Legislative Agenda

The capacity of the state to mediate the tripolar deadlock hinges on the degree of bureaucratic control over the legislative agenda. Other things being equal, when the elite economic bureaucracy is unipolar and has a high degree of control over the legislative agenda, structural reforms are likely to occur rapidly and include direct state interventions into the industrial structure. A weaker bureaucracy or a bureaucracy that must count on weak cabinet control of the parliamentary agenda is only able to implement indirect reforms through institutional innovations. Both the actual powers of the bureaucracy and the degree of control of the executive (Cabinet or President) over the parliamentary process determine the level of bureaucratic control.


Table 1 Compared Structure of the Elite Economic Bureaucracy in Japan and Korea

JAPAN KOREAOverview FRAGMENTED

-Multiple agencies, internal fragmentation within minis-tries-Bipolar until 1998, multi-polar since then

PARTIALLY UNIFIED-MOFE as leader-Domination by President (little room for maneuver)

Core Actors 1) MOF: Ministry of Finance․Budget․Tax, Customs Tariffs․FILP (Trust Fund)․Bonds․International Finance․Financial Supervision and planning until (1998-2001)2) METI (former MITI):Ministry of Economy, Trade, and Industry․E c o n o m i c & I n d u s t r i a l Policy․Trade․Manufacturing Industries․Sub-agencies: energy, pat-ent office, SMEs

1) MOFE: Ministry of Finance and Economy․Tax & Customs․Overall Economic Policy․Economic Information․Treasury․Financial Policy․International Finance․Economic Cooperation․Welfare and Consumer Policy2) MOCIE: Ministry of Com-merce, Industry, and Energy:․Trade․Industrial Policy․Energy and Resources․Competition Policy

Recent New Actors

BOJ (Bank of Japan)

FSA (Financial Service Agen-cy)Ministry for Economic and Fiscal Policy

Ministry for Administrative & Regulatory Reforms

FSC: Financial Supervisory Commission (April 1, 1998): ․Financial supervision․Possesses initiatives to reform financial institutions and the chaebol(BUT: MOFE is responsible for the drawing-up of supervision- related bills)

Sources: Korea: http://www.mofe.go.kr/mofe/eng/e_org_staff/html/e_os_index.htm (MOFE), http://www.fsc.go.kr/english/ english.htm (FSC), http://www. mocie.go.kr/eng/introduction/function/function1.shtml (MOCIE),

Japan : http://www.mof.go.jp/english/index.htm, http://www.meti.go.jp/

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A unified elite economic bureaucracy facilitates structural reforms by allowing the constitution of unique reform blueprints. A fragmented elite bureaucracy generates competing reform visions and dilutes the bureaucratic agenda-setting power in the reform process. It is also more likely to generate piecemeal and disconnected reforms. A bipolar elite bureaucratic structure is least likely to generate effective reforms, whereas a multipolar elite bureaucracy may generate strong pro-reform bureaucratic coalitions.

Japan’s elite bureaucracy has traditionally been dominated by the rivalry between MITI and MOF. In contrast to that situation, the Korean situation reveals a relatively united bureaucratic front, as presented in Table 1 below.

Second, the speed and reach of reforms are also dependent on the degree of unified bureaucratic control over the legislative agenda. This can be obtained through direct means, e.g., through the ability to control amendments, as in the French case. In most cases, however, the bureaucracy must rely upon the leadership of the Cabinet. Ceteris paribus, a cabinet that holds direct control over the legislative agenda is more likely to push for rapid and direct structural reforms.

More precisely, the process of structural reforms is facilitated when the political leadership is institutionally empowered with both a non-particularistic legitimacy and control over the legislative agenda. This can be obtained either through a parliamentary system coupled with a strong party leadership or through a presidential system that includes either a weak president together with a strong unified party system or a strong president in a system with weak parties.

The combination of the regime type, party system and intra-party dynamics can lead to three types of reform situations. The first one is rapid and imbalanced reforms. A presidential system with a strong president relative to the legislature and to the parties is likely to orchestrate rapid structural reforms with a higher reliance on direct state-led reforms than on indirect reforms. The second one is a situation of reform paralysis or minimal disconnected reforms. This situation


happens in a parliamentary system when there is no legitimate leadership, due to multiple-party fragmentation or intra-party fragmentation. It can also happen when the central party leadership does not control the legislative gates. In a presidential system, such a situation occurs when a strong president faces a strong party leadership of the opposite camp in the legislature. An assembly system likewise falls in this category. Third, a parliamentary system with a unified party leadership and agenda-setting power is likely to lead to coherent and gradual structural reforms. Given the external origin of structural reforms, partisanship is not the determining domestic variable.

The cases of Japan and Korea reveal different reform paths. The Korean path is a president-led reform path. The president has the national legitimacy and the agenda-setting power to proceed with reforms. In normal times, his domination of the majority party and the relative weak opposition parties ensure that there is virtually only one veto player. However, if the opposition party controls the assembly, gridlock can occur. This situation happened once in during the 1988-1990 period, when the majority party led by Roh Tae Woo gained only 125 seats out of the 299 total and found itself in the minority. During 20 months, the executive seemed adrift and unable to pass important bills (Oh 1999:111). A solution only came in January 1990, with the merger of two opposition parties led by Kim Young-Sam and Kim Jong-Pil with the government party. The potential gridlock situation in Korea is particularly intense because the 1987 constitution made the naming of the prime minister by the president conditional on confirmation by the assembly (Shugart and Carey 1992:162). French-style cohabitation can thus occur with graver consequences, given the larger powers in the hands of the president. A weaker reform process can also occur when the president must rely on a coalition and when he has difficulties controlling it. This situation has occurred following the parliamentary elections of 2000.

The Japanese reform path is a party-dominated path. The Japanese constitution is remarkably short on the legislative process. Article 72

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does say that “the Prime Minister submits bills to the Diet”　but does not give him/her power of the daily agenda of the Diet. In effect, the Prime Minister has a very weak control over the legislative agenda, which is left to the decision of each House. In practice, therefore, control over the legislative agenda lies with the leadership of the majority party (parties). Between 1955 and 1993― and again essentially between 1996 and 1998― the Liberal Democratic Party (LDP) held a systematic majority in both houses of parliament, with some minor exceptions. This situation allowed the LDP to mediate the entire legislative process through its leadership. The LDP leadership mode was one of consensus among its top leaders, principally its four to six faction leaders and the top five party officials, comprising party president, general secretary, chairman of the policy research council, chairman of the general council, and upper house party leader. This mode gave room for backroom politics, or the decisive influence of　“shadow shoguns”　(Schlesinger 1997). The most famous of these “shadow shoguns”　were Tanaka Kakuei, Takeshita Noboru, and Ozawa Ichiro. Government legislative thus critically hinged upon the capacity of the LDP to nominate a leadership that could carry sufficient legitimacy to drive change. This capacity has ebbed and flowed, but generally can be said to have collapsed in 1989 with the Recruit scandal. Once the LDP one-party rule ended in 1993, an additional complication was added. Not only an effective intra-party coordination and leadership nomination process but also an effective coalition coordination mechanism became necessary. The lack of such mechanisms made Japan’s regime after 1993 quite similar to France’s 4th Republic or the Italian Republic, both of which have showed great difficulties in handling crisis situations. The reform process in Japan after 1993 is closely tied to intra-LDP leadership questions and to problems of coalition coordination. During the years when the LDP regained a near majority and managed to nominate a legitimate leadership, one should expect comparatively more reforms than during other years.

The next two sections turn to the analysis of the Japanese and Korean


cases.

STRUCTURAL CORPORATE REFORMS IN JAPAN SINCE 1990

Since 1996, a major shift in discourse and in the path of economic reforms has taken place in Japan. This shift toward structural corporate reforms marks a turning point in Japan’s political economy. It also marks a change in the prevalent diagnostic of the Japanese economic crisis of the 1990s.9

This article argues that foreign equity inflows provide the impetus for structural reforms. The growing presence of foreign investors in the domestic stock market confers them an ever-increasing leverage over the level of stock prices. Given the low liquidity of the stock market in Japan, a 10 percent foreign share of the market translates into a 40 percent share of stock transactions, turning foreign investors into market leaders. As shown in Figure 1, the 10 percent level was reached in 1995, and a further milestone was reached in 1999 when the share of foreign investors jumped from 14 percent to 18.6 percent of the entire market capitalization.

The government is increasingly forced to react to major market depressions because of the impact on the banking sector and on the ability of corporations to obtain cheap financing. As a result, the government increasingly finds itself obliged to meet the demands of foreign investors regarding deregulation, flexibilization, and restructuring of the economy. Most of these demands are well codified in OECD and IMF annual reports (which act as focal points). They are also clearly indicated by a few large foreign pension funds such as CalPERS. For example, many of the reform measures contained in the Labor Reform Laws and the Industrial Revitalization Law of 1999 match the recommendations made in 1998 by the OECD10　and the IMF.11 Both institutions acknowledge this in their respective 2000

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reports, as they both praise the major steps taken by the government.12

Yet, reforms have remained limited and uneven. Important steps backward have often followed important steps forward. In particular, structural reforms mostly stalled in 2000-2002 after the burst of reforms that took place in 1999. Foreign equity inflows continued and the message of dissatisfied foreign investors remained clear and loud. The fragmentation of the elite bureaucracy and its lack of direct control over the legislative agenda have limited the degree of change. The split between MITI and MOF over the conduct of reforms and, more importantly, the loss of control over the legislative agenda by MITI during the Mori administration (April 2000-April 2001) proved to be great obstacles to the conduct of reforms.

Table 2 summarizes the reform process since 1990 and correlates reforms with the presence of foreign investors in the domestic stock market. Table 2 includes both direct corporate reforms that affect corporate governance or the course of corporate restructuring and indirect reforms that affect the financial system with secondary effects on the course of corporate restructuring. A positive sign on the right hand most column indicates a positive reform from the status quo whereas a negative sign signifies a counter-reform that strengthens the status quo. The relative significance of each reform is equally indicated (1 or 2). One observes a growing trend toward reforms between 1996 and 1998 with a dramatic peak in 1999. This is followed by a near absence of reforms in 2000.

The strategy of the Japanese state in its pursuit of structural reforms has been three-pronged. First, the government has accelerated the deregulation process (begun by the Hosokawa administration in 1993). The acceleration is particularly clear during the Hashimoto administration (1996-1998). Second, the government has pushed for financial reforms, accounting reforms, and other reforms that increased the transparency of the economy. Most of these measures were drafted between 1996 and 1998, even if their implementation has been staggered over many years (until 2002). Third, after 1999, the government has passed a series


Table 2 Levels of Foreign Equity Inflows and Corporate Structural Reforms in Japan

Year % Foreign Investors in Stock Mkt

Net Foreign Equity Inflow Trill Y (MOF)

Direct Corporate Reforms and Indirect Financial Reforms

Direction of Change and Significance

1990 4.7 -2.3 NONE1991 6.0 +6.2 NONE1992 6.3 +1.1 ․June: partial deregulation of securities and

banking(firewall reduced)+1

+11993 7.7 +2.1 ․Oct: Commercial Code Revision(simplifies

exec suits by shareholders)+1

+11994 8.1 +4.9 NONE1995 10.5 +4.6 ․Mar: Deregulation program announced

․Mar: Ban on holding companies upheld․Sep: Stock Options rules simplified

+1-1+1+1

1996 11.9 +5.1 ․Mar: Further Deregulation announced․Mar: Ban on holding Co., NTT breakup and

Labor reforms blocked by LDP․Sep: Accounting changes drafted in MOF

council

+1-2

+2

+11997 13.4 +3.3 ․May: Liberalization of Foreign Exchange

․June: Abolition of ban on holding ․June: Revised BOJ law(independence)․June: Creation of FSA․Nov: Pribatization postal savings blocked

+1+1+1+1

-2+2

1998 14.1 +1.9 ․Mar: New Deregulation Package․Oct: Twin Financial Revitalization laws

+1+2+3

1999 18.6 +11.2 ․Mar: Further Deregulation package․June: Liberalization of temporary work․Jul: Millennium Project(IT development)․Jul: NTT split into 3 providers․Aug: Industrial Revitalization Law․Aug: Commercial Code reforms(swaps)․Sep: FRC sells LTCB to Ripplewood ․Dec: Revised Woker Dispatch Law․Dec: Bankruptcy Law Reforms․Dec: Reform of deposit limits put off

+1+2+1+1+2+1+1+1+2

-1+11

2000 18.8 -2.3 ․May: Commercial Code reforms(spin-offs) +1+1

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Sources: Tokyo Stock Exchange (Annual Share ownership Survey); MOF (annual analysis of trends in capital flows: Tai nai, tai gai shoken toshi no keiko: http://www.mof.go.jp/shoutou/1c009ap3.htm); Nikkei’s annual almanac, IMF country reports, Japan Echo; author’s evaluations (last column).

of legal changes and direct measures in support of restructuring. These regulatory measures also included measures to encourage the creation of small and medium enterprises.13

Table 2 underlines the relative impact of capital inflows on the reform process. Clearly, reforms accelerated in 1999, corresponding to a foreign surge in the stock market (to 18.6 percent) and to staggering foreign equity inflows in the economy (¥11.2 trillion or roughly $112 billion at the rate of $1=¥100). On the other hand, reforms stalled in 2000 and 2001 despite the continuing high level of foreign participation in the stock market, revealing the tug-of-war among foreign investors, domestic interest groups, and the general public.

A Successful Case: the Industrial Revitalization Law of 1999

In 1999, MITI proved able to circumvent institutional obstacles because of two factors. Like Prime Minister Hashimoto in 1996-1997, Prime Minister Obuchi was able, for a brief period, to provide a reasonable degree of party control and leadership. This was due to his control of the dominant faction in the LDP. In addition, MITI designed a new institution, the Industrial Competitiveness Council (Sangyo Kyosoryoku Kaigi, ICC),14 which allowed the Prime Minister to make credible reform commitments and to break the opposition of other ministries. These conditions, however, proved short-lived and ceased to exist during the rule of two subsequent prime ministers, Mori Yoshio and Koizumi Junichiro.

The ICC met eight times between March and January 2000 at the official residence of the Prime Minister. Officially, the format of the


meetings consisted of presentations and requests by industry leaders, requests that led to instructions by the Prime Minister to relevant ministries to draft appropriate laws. These instructions were followed up by concrete proposals from cabinet ministers in subsequent meetings. The ICC was therefore constructed as a forum for business leaders to directly express their needs to the Prime Minister and other government ministers. It was also a public forum where the Prime Minister would make personal commitments that reforms would proceed and give direct instructions to relevant ministries.

The importance of the ICC can be ascertained through the series of reforms passed in 1999 following the ICC meetings. These reforms included the Emergency Employment and Industrial Competitiveness Measures (June 11), the revised Employment Security Law and Manpower Dispatching Business Law (June 30), the initiation of the revision process of the Commercial Code concerning the division of companies (July 7), the Industrial Revitalization Law (August 6), the amendment to the Commercial Code concerning the swapping and transfers of shares (August 9), and the bankruptcy law (civil corporate rehabilitation procedures, December 14).

In particular, the Industrial Revitalization Law (sangyo katsuryoku saisei tokubetsu sochi ho) specifically aimed at facilitating corporate restructuring and included the following measures:

- Exemptions of Commercial Law requirements regarding administrative procedure associated with divestiture and goodwill transferring

- Raising the upper limit to the amount of preferred stocks in case of debt equity swap

- Support to Management Buy-Out and Employee Buy-Out by facilitating stock purchase by managers or employees

- Financial measures such as low interest loan and guarantee- Tax incentives such as longer period of carry forward of loss (from

5 years to 7 years), reduction of Registration License Tax, and accelerating depreciation allowances (18-30 percent)

The measures provided to corporations, however, required approval

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by the government (mostly MITI) of their business restructuring plans. The IMF praised the law in various reports in 2000 as an important step forward. The Industrial Revitalization Law has also proved useful in the restructuring of many corporations in 2000 and 2001, including the path-breaking Nissan Revival Plan. As of September 28, 2001, 112 large corporations had seen their restructuring plans approved by the government (73 of which was approved by MITI) and were relying on government support for their restructuring operations.15 The law also gives legitimacy and political coverage to restructuring operations, a great contrast to the earlier restructuring wave (1993) when factory closures (such as the Zama closure by Nissan) led to political and mass media condemnations.

Other elements point to the political significance of the ICC and of the Industrial Revitalization Law. While the ICC began as a relatively discrete council in March, it soon captured headlines when the government began bringing ICC proposals to the Diet to enact them as laws. Quite surprisingly, Prime Minister Obuchi took upon himself to make commitments to industry leaders, and both ministry work and Diet deliberations were greatly accelerated in the wake of this commitment. Between May and early August 1999, the ICC was featured almost daily in the press coverage.16 Beginning in May, the newly acquired high profile of the ICC also ensured a steady flow of criticism.17 Passing the Industrial Revitalization Law became the official reason for extending the Diet session over the June-August period. On May 14, Chief Cabinet Secretary Nonaka first announced that the government and the LDP were considering a “large-scale extension” of the Diet session so as to pass a package of measures aimed at industrial revitalization.18

Interestingly, the ICC seems to have been originally a Keidanren idea. According to Keidanren documents (confirmed by MITI), Keidanren formally submitted “a proposal for the enhancement of industrial competitiveness” and urged both the government and the LDP to establish an Industrial Competitiveness Council (provisional name


proposed by Keidanren Chair Imai).19 In fact, MITI kept a tight control over the meetings and piloted the process. MITI Minister Yosano was the official running the proceedings of the meetings, with Prime Minister Obuchi formally assisting the Chair of the meeting. All meetings began with an introduction by Yosano (who sat left of the Prime Minister). The introduction set the goals of the meetings. MITI also wrote the minutes and prepared all documents for each meeting. Additionally, Keidanren expressed its opposition to the Industrial Revitalization Law passed in August 1999, arguing that the bills would increase the power of government officials and allow for arbitrary bureaucratic action.

MITI acted as a shadow coordinator throughout the ICC and as the clear leader during the legislative process in the Diet (although, it remained prudent enough to let Miyazawa Kiichi, the MOF minister, make many of the key political announcements). What made the ICC successful, where other councils had not been as successful, is the fact that there was a key political player (MITI) who could seize the reform momentum and bring it to fruition in the Diet. The genesis of the Industrial Revitalization Law further reveals that the specific blueprints and ideas contained in the law arose out of a 5-year long process of reflection on structural reforms within MITI. As argued by some MITI officials, the Industrial Revitalization Law and other reforms that emerged out of the ICC were part of a larger “total plan” for the transformation and revival of Japan's industrial structure.

Throughout the process, the Industrial Competitiveness Council was sensitive to the incentives provided by foreign investors. In particular, arguments about the stock market were extensively used in debates and later, to convince politicians to vote for the reforms. The presentation made by the MITI Director of the Industrial Policy Bureau to Prime Minister Obuchi at the first meeting of the ICC included comparative graphs of productivity measures, competitiveness measures, and ROE/ROA (Return on Equity/Return on Assets) data. The comparative graphs all showed that Japan was dramatically behind the US and the UK in all such measures. The prominent use of ROE and ROA data

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― the very measures used by foreign investors in the stock market ― to convince political leaders to take action probably amounted to revolutionary change in Japan. The use of competitiveness data compiled by the International Institute of Management (IMD), which includes a large component of corporate governance measures, further drove the point home.

The document prepared by MITI for lawmakers and others to explain the rationale for the Industrial Revitalization Law and its key objectives also included direct references to the stock market. The first paragraph of the first page described the international wave of corporate restructuring and the growth of a global market. The second paragraph presented ROA data that emphasized how low Japan’s overall ROA had fallen (2.5 percent). The fourth paragraph then presented the key argument for the government's need to encourage restructuring in Japan.

Promoting Corporate Restructuring: as the world’s capital markets have become one, a harsh situation has arisen whereby the world’s money ends up flowing to the stocks or bonds that have even a little better capacity to generate profits [than others]. It is necessary to promote the process of ‘selection and concentration’ of the corporations in our country.20

It was also reported in the press that one of the arguments used by MITI to defend the Industrial Revitalization Law in Diet deliberations was the fact that managers could now say, “we have entered an era in which the government approves restructuring too,” which would facilitate their explanations to their shareholders (and employees).21

Clearly, the records of the ICC and of the Industrial Revitalization Law reveal that arguments about financial globalization and about the stock market pervaded the debates. They seem to have been crucial in convincing Prime Minister Obuchi and LDP lawmakers to act quickly.

The fact is that the reaction of the stock market to the law and to the ICC was exceedingly positive, as noted in various IMF reports. The graph of the Nikkei 225 index in 1999 shows particularly big jumps


in June when the precise measures for industrial revitalization and the decision to extend the Diet session were announced by the government and in early August when the Industrial Revitalization Law was passed.

However, the success of the Industrial Competitiveness Council and of the Industrial Revitalization Law proved short-lived. The Council was disbanded upon the death of Prime Minister Obuchi, and traditional patterns of inter-bureaucratic rivalry and interest group dominance over the legislative process returned as dominant realities of the Japanese political process. Some important reforms were passed in 1999 during a rare window of political opportunity, but Japan soon fell back into the tripolar deadlock. Entrenched interest groups continued to block further reforms; voters remained ambivalent and continued to support a mix of reforms and social equity; and investors lost confidence and dumped Japanese stocks in 2000-2001, leading to the precipitous drop of a Nikkei index below 10,000 in February 2002.

Im possible Reform s: the Koizum i Reform s in Perspective

On April 26, 2001, LDP maverick Koizumi Junichiro formed his Cabinet after winning the LDP presidential race against the party’s dominant factions. His victory was mainly due to a change of rules in the LDP presidential race.22 The bottom line of this stunning victory was simple: the LDP knew that it could not win the upcoming Upper House elections in July 2001 without choosing Koizumi, but Koizumi would never rely upon a majority within the LDP and the Diet. His leadership of the party was limited from the outset.

Prime Minister Koizumi established a pro-reform Cabinet, appointing Tanaka Makiko as Foreign Minister, pro-reform economist Takenaka Heizo as Minister for Economy and Fiscal Policy, and “young Turk” Ishihara Nobuteru as Minister for Administrative Reforms. He also retained pro-reform Yanagisawa Hakuo as Head of the Financial Service Agency. At the same time, his choice for the Ministry of Finance, Shiokawa Masajuro, drew mixed reviews. A veteran insider politician,

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Shiokawa did not appear to be a reformer. Other ministers, such as Sakaguchi Chikara (Health, Labor, and Welfare), Katayama Toranosuke (Home Affaires, Post and Telecoms), and Fukuda Yasuo (Chief Cabinet Secretary) were seen as outright “dinosaurs”　(The Economist, May 1, 2001).

In any case, Prime Minister Koizumi’s liveliness, frankness, and new style enthralled voters. Within days, the Yomiuri Shimbun reported that Koizumi’s support rate stood at 87 percent, the highest ever in post-war Japanese history (Yomiuri Shimbun, April 28, 2001). Coming on the heels of Prime Minister Mori’s dismal support rate (below 10 percent by some measures), this outcome, obtained without a change of party, was nothing short of extraordinary. Ninety percent of voters expressed strong or moderate expectations for Koizumi. Ironically, the sources of Koizumi’s high support were neither general support for his party― only five percent of those surveyed in the Yomiuri poll said that they supported Koizumi because of the LDP― nor general support for the structural reforms he advocated. Forty-seven percent of voters said they supported his “political philosophy,”　 21 percent his “leadership abilities,”　and 19 percent his “reliability.”　 A smaller majority (57 percent) thought that Koizumi would be able to change the LDP, and an even smaller number (8 percent) thought that he “would have a pretty good chance of implementing his policies.”　 One fact that was poorly understood at the outset was that up to 30 percent of his 80 percent support rate was single-handedly due to his teammate, Tanaka Makiko. When he fired her early February 2002, his support rate collapsed below 50 percent in a single day.

Prime Minister Koizumi was careful not to threaten his high popularity by making concrete proposals until the late July Upper House Elections. He delivered a stunning victory for his party, as the LDP sailed on his popularity. Helped by a strong turnout (57 percent), the LDP won 65 of the 126 seats contested, a sharp upswing from the 44 it had won in 1998.

Prime Minister Koizumi quickly unfolded a reform vision,


emphasizing the necessity of painful “structural reforms” and even the likely rise in unemployment. As early as April 26, 2001, Prime Minister Koizumi promised to deregulate the economy further to create new business, even if the economy had to suffer negative growth for one or two years. He also promised to reduce Japan’s growing fiscal deficit by keeping government bond issues under ¥30 Trillion per year to rehabilitate the financial system within two to three years, to privatize the postal system (mail, savings, and insurance), and to reform social security in all its dimensions (pension, medical care, and elderly care). Koizumi’s May 7 policy speech in the Diet confirmed these directions and went further, promising the privatization and reforms of all special public corporations and environmental reforms as well. He further promised a review of the judiciary system to support challengers and floated the idea of far-reaching constitutional reforms (direct elections of the prime minister and reform of Article 9, the war renunciation article).

Did the Koizumi era herald the end of the tripolar deadlock and the beginning of a phase of rapid structural reforms? How did Koizumi position himself with respect to the three main protagonists of the reform battle? Overall, the initial Koizumi reform plan indicated a clear shift toward the interests of foreign investors and toward the structural reforms advocated by MITI. As indicated in the previous section, foreign investors responded extremely positively to Koizumis election and to his reform proposals, triggering an inversion in capital flows. On May 12, it was reported that foreign net purchasing of Japanese equities had hit a 17-month high (¥427 billion net purchases in one week), pushing the Nikkei index above 14,000 for the first time since late 2000 (The Japan Times, May 12, 2001).

But Koizumi’s lack of control over the majority party and the ruling coalition has prevented Koizumi from implementing his program and breaking the tripolar deadlock. As for voters, they seemed to have displayed early support for reforms by electing Koizumi with such a sweeping majority. However, they quickly revealed their mixed feelings, turning against key planks of the Koizumi reforms. As early

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as June 2001, an opinion poll performed by the Nikkei Shimbun revealed that only 52 percent of the people supported the privatization of postal operations. An even smaller number, 45 percent, supported the proposed cuts in tax revenues allocated from the central government to regional municipalities (Nikkei Weekly, June 18, 2001). By January 2002, 57 percent of the people said that priority of the government should be protecting jobs and reviving the economy, rather than pushing for structural reforms (Asahi Shimbun, January 29, 2002). They began to believe the arguments of LDP conservative Kamei Shizuka, who once quipped that the structural reforms of Minister Takenaka were “contributing to the rising Japanese suicide rate by advocating policies destined to increase joblessness.”23

Meanwhile, vested interest groups, the prime targets of the Koizumi reforms, mobilized against the Koizumi Cabinet. A broad coalition of farmers, elderly, construction workers, beneficiaries of special corporations, and small and medium corporations emerged, trying to build upon the growing unease of the average voters toward reforms. Their principal channel for action was the LDP, the very party that Koizumi was relying upon while trying to reform it. Key battles included the 2002 budget and two supplementary budgets (Fall 2001 and February 2002), battles in which Koizumi was forced to acquiesce to higher government spending than originally planned, including construction spending. A second great battle centered upon the reform of special public corporations, such as the Housing Loan Corporation.24 A third great battle raged around the issue of bad loans, an issue that is increasingly seen as the linchpin of all Koizumi reforms. Under pressure by investors to force a resolution of the crisis by both injecting public funds into banks and forcing bad clients to go bankrupt, the Koizumi administration dithered.25

The government acknowledged the existence of such organized opposition but remained convinced that it could count on the alliance between investors and the general voters. Minister Takenaka said, “we will face some obstacles from some parties and groups, but if we remain


supported by public opinion, we can still pursue reforms. This is a basic rule of democracy”　(The New York Times, June 1, 2001). By February 2002, however, both the people and foreign investors deserted the Koizumi cabinet. Investors began to doubt that Koizumi had the means to override interest groups and dumped Japanese stocks as early as August 2001. On February 2, 2002, the unthinkable happened: for the first time in 44 years, the Nikkei index (at 9,791) closed below the Dow Jones index (at 9,920). This in turn accelerated the banking crisis ― given that much of the capital of banks is made up of latent capital gains on long-term stock investments in corporations― creating a sense of gloom.

26STRUCTURAL REFORMS IN SOUTH KOREA SINCE 1997

In contrast to Japanese reforms, structural reforms in Korea since the financial crisis of November-December 1997 have been extremely rapid and direct. For lack of space, this section summarizes the key findings that emerge from a careful study of the path of chaebol reforms in 1998-2000.

First, Korean corporate reforms were an extreme case of state mediation of global financial forces. A dual executive leadership led structural reforms. The economic bureaucracy (mainly the Ministry of Finance and Economy or MOFE) and the office of the President (Blue House) unfolded concurrent and partly competing reform programs that had a cumulative impact on the economic structure. While reforms were initially motivated by the demands of the IMF, the US Treasury, and foreign lenders (whose preferences were filtered through the US Treasury and the IMF), the voice of global equity investors gradually became the dominant one after mid-1998. The government was particularly sensitive to the preferences of global equity investors because it supported a general shift from debt-financing to equity-and-bond

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financing. In order to make Korea attractive to foreign investors― and initially to meet IMF demands― the Korean government passed an amazing series of structural reforms in early 1998 and directly took on the very conglomerates (the chaebol) that it nurtured vigorously for thirty years. As the reform process successfully unfolded, the share of foreign investors in the Korean stock market doubled from the yet limited level of 14.6 percent in 1997 to 30 percent in 2000.

Regarding the reform capacity of institutions, Korea presents an interesting case of dualism. The period from 1997 to 2002 offers a shift from an extremely high level of bureaucratic control of the legislative agenda to a very low level after the 2000 legislative elections. In the wake of a presidential election (as that of December 1997 that brought Kim Dae-Jung to power), the President is usually able to obtain a ruling coalition in parliament and deploy great powers. Under this cover, the bureaucracy is able to rapidly push its reform agenda forward, especially in comparison with the Japanese case (and even the French case). Naturally, the crisis situation in 1998 greatly enhanced the executive control of the legislative agenda by disarming the opposition.27 However, both the non-renewable feature of the presidential term (single five-year term) and the temporal mismatch between presidential and legislative elections rapidly reduce the Chief Executive to a lame-duck status and cripple the degree of bureaucratic control over the legislative agenda. Thus, the Kim Dae-Jung administration lost the ability to push important reforms after the legislative elections in April 2000. These institutional features have the side effect of shortening the “shadow of the future” and enhancing the initial push for reforms in the wake of a presidential election. The same process occurred with the Kim Young-Sam administration (1993-1997).

Third, the leeway of the Korean government in the process of corporate reforms was larger than in other issue areas (such as interest rates and budgetary issues) and larger than is usually assumed. While the Korean government was forced to accept IMF conditions regarding monetary and fiscal policy and forced to accept US conditions regarding


financial liberalization and market opening reforms, it was the driving force in the area of chaebol reforms. In fact, the clauses relating to chaebol reforms were included in the December 1997 Letters of Intent at the request of the Korean side. Korean bureaucrats saw the IMF agreement as the golden chance to push for corporate and financial reforms (micro-economic reforms) that had proved politically impossible in 1995-1997. Thus, the Korean bureaucracy pursued its own reform agenda, on top of reforms that were imposed by the IMF.

Further, while the direct state interventions in restructuring, such as the imposition of an artificial 200 percent debt-equity ratio and the giant swap deals known as the “Big Deal,”　are often seen as a return to old-style industrial policy, this article takes a different view. It argues that the 200 percent ratio constituted a rapid fix to the oligopolistic nature of Korea’s industrial structure and that it received some support from equity investors (but not from industrial investors).28

The debt-equity ratio and the abandonment of cross-guarantees did force the chaebol to restructure and divest from large sections of their empires. It also pressed the conglomerates to rely more on the equity market and reform their corporate governance. Such reforms were not coherent with OECD and IMF prescriptions or with a free-market ideology, but they did serve the interests of global equity investors rather well. For example, the prohibition of cross-guarantees and debt transfers among companies of a given conglomerate makes it possible for investors to buy stock of a member of the conglomerate (such as Samsung Electronics) without fearing that its profits would be siphoned off to another member. The 　Big Deal　 can be seen as an attempt to encourage restructuring by making it an intra-company process and thus solving a collective action problem. It should have had the net effect of increasing the ROE of chaebol activities and thus increasing shareholder value. But it quickly met with difficulties and was rapidly abandoned. In addition, all these reforms had the effect of increasing the power of the state and particularly of the Blue House (Presidential

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office). Even if the process of chaebol reforms is still ongoing and could yet

lead to different outcomes, the sheer extent and speed of the transformation that occurred in 1997-1999 mark a fundamental change in the Korean political economy.

CONCLUSION

In this study, I have argued that corporate structural reforms in state-led capitalist countries such as Japan and South Korea are the outcome of a process of state mediation of global economic forces. Corporate structural reforms constitute the response of elite bureaucrats and reformist politicians to these emerging global forces. The emergence of global investors onto the domestic political chessboard and the increase in global financial flows provide the incentives for reform. Capital flows constitute a force for change and their level determines the intensity of reforms. Precisely, this study argues that global equity inflows constitute the most important force for structural change.

In state-led capitalist countries, however, the process of structural reforms is not an automatic response to globalization. The state remains central as the mediator of change. Bureaucrats and politicians determine the content and direction of reforms. This study argues that the path and direction of structural reforms depend on the degree of unified bureaucratic control over the legislative agenda. The elite bureaucracy is the first mover and key pro-reform agent. What determines the path of reforms is the ability of the bureaucracy to bypass or defeat the nexus between interest groups and legislators.

This article argues that the inability of the Japanese political system to produce necessary structural reforms for an economic recovery is due to the inability of the state to mediate a tripolar deadlock that pits


global investors, vested interest groups and the general public against one another. The growing presence of global investors on the political chessboard has provided incentives for change and has indeed been at the center of some important reforms passed in the period 1996-1999. The elite bureaucracy (essentially MITI) has increasingly acted as the pro-reform agent but has been limited in its efforts by its low degree of control over the legislative agenda. MITI only managed to push for successful reforms in 1997-1999 when the prime minister had a firm grip over the coalition in the Diet and with the help of special institutional innovations, such as the Industrial Competitiveness Council. The Korean reform path offers a clear contrast with Japan.

The topic of corporate structural reforms in these two state-led capitalist countries points to a new type of conflicts over public policy. In this new situation, a post-global “trilemma” is visible. Instead of a two-dimension conflict between labor and management (or Left and Right), the process of structural reforms in a global era can be seen as a three-dimension conflict involving global investors, domestic interest groups, and the average citizen. Global investors push for a narrow definition of corporate governance, one that exclusively focuses on shareholder’s value, investor rights, and economic flexibility. Domestic interest groups, including both labor and organized management, tend to fight for continuing stability in the domestic industrial structure. They try to protect the advantages they have enjoyed for decades. Finally, the average citizen is interested in an economic structure that ensures growth and opportunities (wealth), while also protecting a number of social and community rights. Therefore, the average citizen is interested in seeing the state take the lead in creating new types of regulations that are compatible with both growth and social equity.

One of the implications of this article is the increasing penetration of the domestic political game by global financial forces. These global financial forces have changed domestic dynamics and provided incentives for profound change. They may offer a potent tool to break

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domestic deadlocks but also run the risk of transforming the crisis of democratic paralysis into a situation of democratic deficit, a situation that is already apparent in countries like France.

NOTES

1 The related fieldwork in Japan (1999-2000) was generously supported by the Japan Foundation. The research in Korea (2000) was assisted by a fellowship from the International Dissertation Fields Research Fellowship Program of the Social Science Research Council with funds provided by Andrew W. Mellon Foundation.

2 State-initiated structural reforms on corporate restructuring amount to a major paradigm shift in state-led economies. Not only the industrial structure is at stake, but also the organization of work, the role of the state in the economy, the issue of democratic control over crucial decisions, and the future rank ordering of nations. The sustainability of the global capitalist system at both the national and international levels is also in question. Carr (1939), Schumpeter (1942), and Polanyi (1944) already raised these broader issues more than half a century ago.

3 The findings presented here are drawn from economic data, government documents, and over 100 interviews performed in Japan and South Korea in 1999-2000 during my stay as Visiting Scholar in the Ministry of Finance in Tokyo, Japan. See List in Appendix 4.

4 Financial liberalization itself was a tough political battle in most OECD countries and has been extensively studied by political scientists (Rosenbluth 1989; Calder 1999; Amyx 1999; Toya 2000; Stiglitz 2002). For countries such as Japan, France, and South Korea, where the state heavily relied on capital control and credit control throughout the post-war period (Zysman 1983), financial deregulation was a huge change.

5 It is important to note that this elite bureaucracy is only a small part of the entire bureaucracy. In fact, the rest of the bureaucracy may be very similar to bureaucracies in other systems. For example, the Ministry of Construction in Japan has always behaved as a typical Nishkannen-type budget-maximizer.

6 The increased quantity, speed, and volatility of global capital flows have


led the political scientist Susan Strange (1998) to label them mad money,　 leading to the development of an extreme form of casino capitalism.　 Strange argues that the perpetual movement of financial innovation (derivatives, leveraged buy-outs, junk bonds, etc.) renders capital flows increasingly uncontrollable and unregulated.

7 In fact, a study by the Bank of Japan evaluated the share of foreign investors in Japan in 1999 at 15 percent. Meanwhile, their direct share of transactions, i.e. price formation, was 40 percent, with an additional 30 percent of transactions represented by domestic independent investors (Takahashi 2000).

8 The pre-1990 situation in Japan was one where the state had sufficient tools and resources to mediate between particularistic interest groups―farmers, small and medium corporations, small distributors, industrial associations, postmasters, etc.― and the public good. Voters on the whole supported policies that enhanced national growth and manufacturing success, while ensuring a high level of social equity. The system was put in place in 1945-1960 and continued mostly unchanged until 1990. Few major reforms were necessary and the state could perform the necessary adjustments to maintain the equilibrium between particularistic interest groups and the public good.

9 While this crisis was at first mainly understood as the aftermath of a financial bubble, then as a crisis of demand and as a banking crisis, the attention has increasingly shifted to the perceived need to restructure the entire industrial structure and reform Japanese corporate governance.

10 OECD, Economic Surveys: Japan (1998:174-180). See also Table 44 (pp. 192-193) in the 1999 survey and the entire Chapter V entitled Structural Reforms to Revitalize the Economy.

11 IMF, International Capital Markets (September 1999). 12 See for example the IMF’s International Capital Markets Report of

September 2000 on page 201. The report first states that the restructuring process had been constrained by structural impediments. It then lists the measures taken by the government during 1999 and notes that they represent significant change. See also the IMF Staff Country Reports on Japan of November 2000 and December 2001.

13 French Senate, 　Japon: Crise et Douloureuses Mutations.　 Document de Travail du Senat, no GA 28, Janvier 2000. Report written based on a French parliamentary mission in Japan in April 1999.

14 The Industrial Competitiveness Council was an advisory panel of business

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and government leaders set up on March 19, 1999 by Prime Minister Obuchi. It was meant to mirror the 　Competitiveness Council　 set up by US President Ronald Reagan in the 1980s. Just like the Maekawa panel of 1985-86 which produced the famous Maekawa report for Prime Minister Nakasone, the ICC existed only by the power and will of the Prime Minister and had no legal standing. The members of the council were personally chosen and appointed by the Prime Minister, although in effect they were most likely selected by MITI after consultations with Keidanren. On the business side, the Prime Minister appointed 17 top business executives, including Idei Nobuyuki, president of Sony Corp, Imai Takashi, chairman of the Federation of Economic Organizations (Keidanren), and Okuda Hiroshi, president of Toyota Motor Corp. and chairman of Japan’s Federation of Employers Association (Nikkeiren). On the government side, the ICC brought together all government ministers, except the Director General of the Defense Agency. The Chief Cabinet Secretary (Nonaka Hiromu) was also present and held a key coordination role. The meetings were officially chaired by the Prime Minister but the MITI Minister (Yosano Kaoru) was in charge of running the proceedings (giji shinko).

15 Source: METI’s web page, sangyo katsuryoku saisei tokubetsu sochi ho no nintei ichiran hyo.　

16 For example, a count of articles referring to the ICC in Asahi Shimbun alone shows that 131 articles were published between May and August.

17 For example, on May 15, the President of JASCO Corporation criticized the ICC for favoring industrial firms and for excluding services (Asahi Shimbun, May 15, 1999).

18 Asahi Shimbun, 　Sangyo Saisei Saku, 6 gatsu nakaba ni.　May 14, 1999. 19 Keidanren, 　Activities of the Industrial Competitiveness Council and other

Keidanren Initiatives.　November 10, 1999. 20 MITI document, 　Sangyo Katsu Ryoku Saisei Tokubetsu Sochi Ho no

Ranyou,　 final version dated November 1999.21 Reported in Asahi Shimbun, dated July 30, 1999. Translated by the author.22 Instead of letting the LDPs Diet members choose the new leader, the new

rules created a two-tiered process. The first stage consisted of open primaries in each of the 47 prefectural LDP chapters. In the second stage, the delegates chosen in the local primaries (141 in total, or three per prefecture) came together with the 346 LDP members from both chambers, forming an electoral college of 487. In the end, Koizumi won 123 or


141 prefectural votes, reflecting his popularity among rank-and-file LDP members (and indeed among the public). This sweeping victory in the primaries convinced LDP leaders that it would be suicidal to go against the popular will and conservative faction leader Kamei switched his allegiance from Koizumis competitor, Hashimoto, to Koizumi. Koizumi therefore managed to win 298 of the total votes (60 percent of the full electoral college), a tally that still reflected a bare majority among the LDP legislators (only 175 votes out of 346). The two-tiered electoral rules thus locked the LDP into a position where it had no choice but to let Koizumi win, even if he had minority support among LDP lawmakers.

23 Statement made by Kamei Shizuka in February 2002 during a Sunday television exchange with Takenaka Heizo and Sakakibara Eisuke, former Vice-Minister of Finance (quoted in the New York Times, June 1, 2001).

24 In October, Nikkei Shimbun reported visits from Isao Okui, chief of the Japanese Federation of Housing Organizations and chairman of a private housing company, to the headquarters of the LDP. He fiercely lobbied against the proposed privatization or outright abolition of the Housing Loan Corporation, which provides mortgages to homebuyers with public money. A week later, the LDP panel on land and infrastructure adopted a resolution opposing reforms of the Housing Loan Corporation. The National Federation of Small Business Associations, the Komeito (party allied with the LDP in the ruling coalition) and bureaucrats from the Ministry of Construction, Land, and Infrastructure joined the bandwagon of opposition to reforms. Reforms stalled. The same pattern was repeated with most other special corporations.

25 Even FSA minister Yanagisawa, once seen as actively pro-reform, has cautioned against hasty moves, given the fierce opposition of key interest groups and the probable reluctance of the general public.

26 Given the lack of space, this section only briefly summarizes the findings of the research on the Korean case.

27 See for example Haggard (2000:101) on the cross-party cooperation in the Parliament in early 1998.

28 Personal interview at Merrill Lynch Korea in Seoul on May 10, 2000.

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