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Japanese direct foreign investment in the United States and Canada by sogo shosha since 1951 Kurihara, Tamiko 1986-08-06

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JAPANESE DIRECT FOREIGN INVESTMENT IN THE UNITED STATES AND CANADA BY SOGO SHOSHA SINCE 1951 by TAMIKO KURIHARA B.A., International Christian University, 1977 M.A., Ochanomizu University, 1980 A THESIS SUBMITTED IN PARTIAL FULFILMENT OF THE REQUIREMENTS FOR THE DEGREE OF DOCTOR OF PHILOSOPHY in THE FACULTY OF GRADUATE STUDIES Department of Geography We accept this thesis as conforming to the required standard THE UNIVERSITY OF BRITISH COLUMBIA October 1986 © TAMIKO KURIHARA, 1986 In presenting this thesis in partial fulfilment of the requirements for an advanced degree at the University of British Columbia, I agree that the Library shall make it freely available for reference and study. I further agree that permission for extensive copying of this thesis for scholarly purposes may be granted by the head of my department or by his or her representatives. It is understood that copying or publication of this thesis for financial gain shall not be allowed without my written permission. Department Of Geography The University of British Columbia 1956 Main Mall Vancouver, Canada V6T 1Y3 Date October 14, 1986 DE-6 n/sn ABSTRACT This thesis examines the spatial and sectoral characteristics of Japanese Direct Foreign Investment (DFI) since 1951 with particular attention to sogo shosha investment in the United States and Canada. The thesis presents five main conclusions. First, the internal conditions of Japan have considerably influenced Japanese DFI and the role of sogo shosha. Second, the investment climate of the United States has proved increasingly attractive to Japan. The United States has received the largest amount of postwar accumulated Japanese DFI. Canada with a smaller market and less favorable investment environment has received a smaller amount of investment ranking overall eleventh in total Japanese DFI in the world. Third, Japanese investment has been directed at securing a supply of natural resources. It has also sought a market for its manufactured products by increasing its investment in commerce and services. Throughout much of the period, manufacturing investment has concentrated in developing countries but this situation is changing with an increasing proportion in North America in the last ten years. Most significantly with the rising value of the yen, major financial investments are now occurring in North America. i i Fourth, sogo shosha investment long associated with commerce has locationally been flexible in the North American context, setting up new offices in the rapidly emerging information and transportation centers such as Los Angeles and Denver. However, except for single resource-based areas, sogo shosha investment has little effect on regional economies. While the sogo shosha proportion of total Japanese DFI is declining, they still practice a well established management style involving minority equity shareholding and long-term purchasing contracts in North American companies which give them access to information and management decision-making. Finally, the thesis shows the need for theoretical explanations of Japanese DFI to be revised in the light of the constantly changing empirical dimensions and an understanding of the importance of Japan in the contemporary world economy. TABLE OF CONTENTS ABSTRACT i i TABLE OF CONTENTS iv LIST OF TABLES vii LIST OF FIGURES x LIST OF MAPS x ACKNOWLEDGEMENTS xi INTRODUCTION 1 CHAPTER 1: THEORETICAL FRAMEWORK 17 I. Neoclassical/Neo-Keynesian Theories 18 II. Radical Theories 27 III. Neo-Mercantilist Theories 39 IV. The Theoretical Implications of Japanese Type of Direct Foreign Investment 43 CHAPTER 2: MULTINATIONAL CORPORATIONS 61 I. Characteristics of Multinational Corporations 6II. Comparison Between American-European Multinational Corporations and Japanese Multinational Corporations 78 III. Japanese General Trading Companies: Sogo Shosha 90 CHAPTER 3: CHARACTERISTICS OF THE JAPANESE ECONOMY. 1 1 1 I. Scarcity in Natural Resources 113 II. The Dual Economic Structure and Kei retsu 125 III. Economic Growth Since 1945 161 i v IV. CHAPTER 4: I . II . III . IV. CHAPTER 5: I . II . III . IV. V. CHAPTER 6: I . II . III . Cooperative Government-Business Relationships and the Industrial Policy of Japan AN OVERVIEW OF JAPANESE DIRECT FOREIGN INVESTMENT World.Trends in Direct Foreign Investment Restrictive and Liberal Policies in Japanese Direct Foreign Investment Characteristics of Japanese Direct Foreign Investment The Postwar History of Japanese Direct Foreign Investment JAPANESE DIRECT FOREIGN INVESTMENT IN NORTH AMERICA Japanese Direct Foreign Investment in the United States The Investment Climate in the United States Japanese Direct Foreign Investment in Canada The Investment Climate in Canada Comparison of Japanese Direct Foreign Investment in the United States and Canada A CASE STUDY: JAPANESE DIRECT FOREIGN INVESTMENT IN NORTH AMERICA BY SOGO SHOSHA Sogo Shosha Investment in the United States Sogo Shosha Investment in Canada Characteristics of Sogo Shosha Investment Ventures and Comparison of Sogo Shosha Investment Patterns in the United States and Canada 189 210 210 214 218 225 250 250 271 289 299 320 332 333 360 373 v IV. CONCLUSION Office Locations of Sogo Shosha in the United States and Canada and the New International Urban Hierarchy 386 41 1 BIBLIOGRAPHY APPENDICES APPENDIX A APPENDIX B APPENDIX C List of Persons and Institutions Contacted Sogo Shosha Investment in the United States and Canada: Geographical Area and Industry Sogo Shosha Investment in the United States and Canada: SPSS Crosstabulations 419 449 449 456 472 vi LIST OF TABLES 1 Overseas Loans and Investment by Major Corporations 7 2 European, Japanese and U.S. Foreign Investment Profiles 80-81 3 The Contrast of Japanese and American Organizations 98 4 Sales of Japan's Nine Sogo Shosha (FY1984) 101 5 Number of Establishments in Manufacturing Industry in Japan 143 6 Number of Persons Engaged in Manufacturing Industry in Japan 144 7 Average Wages in Manufacturing Industry in Japan 145 8 Average Value-Added in Manufacturing Industry in Japan 146 9 History of Japanese Economic Development and Its Direct Foreign Investment Activity 162 10 Net Domestic Product in Japan 1711 Value of Shipments in Japan 174 12 Value of Japanese Exports by Commodity Group (1955-1983) 177 13 Japanese Direct Foreign Investment by Region 220 14 Outward and Inward Direct Investment Flows (Percentage Distribution Among 13 222 Countries) 15 Accumulated Japanese Direct Foreign Investment: 1951-1962 229 16 Accumulated Japanese Direct Foreign Investment: 1963-1967 232 17 Accumulated Japanese Direct Foreign Investment: 1968-1971 235 vi 1 18 Accumulated Japanese Direct Foreign Investment: 1972-1977 240 19 Accumulated Japanese Direct Foreign Investment: 1978-1980 243 20 Accumulated Japanese Direct Foreign Investment: 1981-1983 246 21 Japanese Direct Foreign Investment in the World, the United States and Canada 254 22 Foreign Direct Investment Position in the United States, by Year 256 23 'Direct Foreign Investment Position in the United States, by Country 257 24 Japanese Direct Foreign Investment Position in the United States, by Sector " 259 25 Accumulated Japanese Direct Foreign Investment by Sector, 1951-1983 261 26 Japanese Direct Foreign Investment in the United States 262 27 Japanese Direct Foreign Investment in Canada 2928 Location of Sogo Shosha Offices in North America 387 viii LIST OF FIGURES 1 Direct Foreign Investment Position of the United States, Japan and West Germany by Type of Industry, Yearend, 1982 223 2 Direct Foreign Investment Position of the United States, Japan and West Germany by Region, Yearend, 1982 224 3 Japanese Direct Foreign Investment in the World and the United States, 1951 to 1983 228 ix LIST OF MAPS 1 Location of Sogo Shosha Offices in North America in the 1950's 388 2 Location of Sogo Shosha Offices in North America in the 1960's 389 3 Location of Sogo Shosha Offices in North America in the 1970's 390 4 Location of Sogo Shosha Offices in North America in the 1980's 391 x ACKNOWLEDGEMENTS I am deeply indebted to numerous organizations and individuals for the preparation of this thesis. I would especially like to acknowledge with sincere gratitude the contributions made by my professors at the University of British Columbia. Professor Terry McGee, my present major supervisor in the Department of Geography, has provided invaluable guidance and always willingly helped me. I am most grateful to him. Emeritus Professor Frank Langdon in the Department of Political Science has generously spared his time for discussion, increased the accuracy of the contents, and polished my English. I am much beholden to him for his excellent leadership and patience. Professor Walter Hardwick of the Department of Geography and Professor Malcolm Smith of the Law School gave me valuable advice and comments, and I am equally thankful to them. Thanks are also extended to Professor Olav Slaymaker, the Head of the Geography Department, for his assistance, and to Professor Marwyn Samuels, my previous major supervisor, for his support at the initial stage of my thesis. Doctor Saburo Okita, a well-known economist and the former Minister of Foreign Affairs of Japan, and Mr. Akinori Marumo, Deputy Director-General at the Economic Planning Agency, deserve special recognition for opening many doors xi in the Japanese government bureaus. Mr. Seiichi Omori, Commissioner, Fair Trade Commission, Consul-General Kunio Katakura and Professor Keizo Nagatani introduced government and business contacts. I am deeply grateful to them all. Invaluable information was obtained through many interviews, phone calls and letters of sogo shosha businessmen and government officials in Japan, Canada and the United States, without which the data set would have been incomplete. I am much obliged to those who are listed in Appendix A for their assistance. Ray Torchinsky provided technical assistance and Matthias Roth prepared the maps. Shauna Stuber, John Fossum, Atsushi Yamakoshi, Patti Luniw, Sheena Fraser and Helena Adamowicz also provided help and understanding when I needed it. Finally, Pam des Loges read the entire manuscript and checked my English. She has been a source of encouragement, and I am indebted to her for her support. My gratitude to her goes beyond what this acknowledgement can convey. The Government of Canada Awards for four years and three months and the University of British Columbia Summer Graduate Fellowship in 1986 financially supported this project. A travel grant to Japan was provided by the Institute of Asian Research, University of Brititsh Columbia. xi i 1 INTRODUCTION The economies of the world have become more intricate and interdependent1 since World War II. Japan has now become an increasingly important component of this process. Emerging with a shattered economy after World War II, Japan has become the world's second largest economy in terms of the Gross National Product (GNP). This thesis examines the features of Japanese global direct foreign investment paying particular attention to sogo shosha investment in the developed countries of the United States and Canada. Post World War II changes in the world economy have led to a significant restructuring and redistribution of economic activity at both the world and national level. For example, the old "Industrial Heartland," the Northeast and Midwest of the United States has experienced industrial decline.2 Similarly, the extraordinary office-building and industrial boom in Los Angeles is transforming economic space of this region.3 These phenomena are not limited to 1Brookfield popularized the concept "interdependence" in the domain of geography. He states that there is only one process of development in an interconnected world; a process which takes numerous forms, which can yield poverty and dependence as well as wealth and growth. (See Harold Brookfield, Interdependent Development [London: Methuen, 1975], p. 189.) Interdependence, as accepted by political scientists, is defined as actors or events in one part of the system have the ability to influence actors or events in another part of the system. 2N. J. Glickman, "The International Economy and the Cities," in Urban Growth Policies in the 1980s (Paris: Organisation for Economic Co-operation and Development, 1983), p. 23. 3Edward Soja, Rebecca Morales, and Goetz Wolff, "Urban Restructuring: An Analysis of Social and Spatial Change in 2 areas in the developed countries. As McGee noted, foreign and domestic investment in the Southeast Asian countries has altered their economic activities and also markedly influenced the urban system in the developing countries." Thus, it is crucial to investigate international capital movements as well as international trade, as one important determinant of the prosperity and decline of certain regions. Especially, it can be said that direct foreign investment should be a focus of examination, because it has had an impact on local economies subjected to decisions made by foreign investors. Def in it ions Three terms, direct foreign investment, multinational corporation, and sogo shosha are clarified. Direct foreign  investment (DFI)5 involves the acquisition of foreign securities by individuals or institutions with control over, or participation in, the management of foreign operations. The Foreign Exchange Control Law in Japan defined direct foreign investment as 25 percent, or more, of equity acquisition in foreign corporations and loans to those corporations. Also included were investment, both in establishment or expansion of branches, and real estate. In December 1980, an amendment was introduced that reduced the 3(cont'd) Los Angeles," Economic Geography vol. 59, no. 2 (April, 1983): 195-230. "Terry G. McGee, "Circuits and Networks of Capital: The Internationalization of the World Economy and National Urbanization," paper presented at the Conference on Urban Growth and Economic Development in the Pacific Region, Taipei, Republic of China, 9-14 January 1984. 5In future, the acronym DFI is used. 3 equity acquisition figure to 10 percent and excluded real estate investment. Similarly, the U.S. Department of Commerce until the 1960's had defined direct foreign investment as an investment that controlled 25 percent, or more, of the equity of an overseas business. Subsequently, the figure was reduced to 10 percent. In addition to capital, a package of technological and managerial resources is transferred. Depending on the degree of dwnership, wholly-owned subsidiaries may be founded, or joint venture agreements may be reached where foreign-based firms have a majority share, an equal share, or a minority share in the ownership of enterprises abroad. These operations may be established by the take-over of existing local firms or they may take the form of new ventures.6 The multinational corporation represents the major actor of direct foreign investment. There are many definitions of the multinational corporation, depending on the emphasis attributed to the characteristics of companies operating internationally. In this thesis, an inclusive definition is adopted. A multinational corporation (MNC)7 is defined as an enterprise which owns (in whole or in part), controls and manages income-generating assets in more than one country. Surrogates of the MNC are the multinational enterprise (MNE) and the transnational corporation (TNC), which is a term employed by the United Nations. 6Neil Hood and Stephen Young, The Economics of Multinational  Enterprise (London and New York: Longman, 1979), pp. 9-10. 7In future the acronym MNC is used. 4 Multinational corporations are of a variety of types of operation and organization. In terms of operation, they are engaged in manufacturing, service-related, and/or resource-oriented activities. With regard to organization, MNCs may be privately owned, or partially owned and managed by home and/or host country governments.8 Since economic activities of MNCs extend over more than one country, MNCs influence both home and host countries with different levels of complexity and comprehensiveness. Interests of MNCs often conflict with those of host and home countries, because MNCs are generally private (profit-seeking) institutions while host and home countries pursue the national well-being. In this regard, the roles of MNCs have sometimes been viewed in a negative way, even though they enable transfer of advanced technology as well as capital, and absorb the labor force in the host country. A typical argument of this view is that these multinationals have promoted the formation of "isolated enclaves" in the developing countries, which are not integrated into the local economy of the host countries. Only a few scholars such as Galbraith have given the MNCs credit for being "skilled, great organizations."9 Third, the sogo shosha are large Japanese general trading companies, especially the nine largest. In this 8Hood and Young, og. cit., p. 3. 9John Kenneth Galbraith, "The Defense of the Multinational Company," The Atlantic Community Quarterly vol. 16, no. 2 (Summer, 1978): 207, and Harvard Business Review vol. 56, no. 2 (March-April, 1978): 93. 5 thesis, sogo shosha are identified as Japanese-type multinationals, which contrast to American-type multinationals. The Importance of Japanese Direct Foreign Investment Postwar Japanese DFI started with investment by sogo shosha,*0 along with the investment projects promoted by the government. Sogo shosha established their overseas trading subsidiaries to enhance commercial activities.11 Since Japan is highly dependent on overseas imports of natural resources and foodstuffs as well as on export markets, without such excellent merchants, it.would have been difficult to accomplish economic growth in Japan. Because of the various functions of sogo shosha, they have served as an engine for Japan's economic development. The development of sogo shosha parallels the development of the Japanese economy. In short, sogo shosha have proved to be excellent traders, acting as a vanguard of Japanese overseas direct investment. Before capital liberalization in the late 1960's when the Japanese manufacturing industry was maturing, sogo shosha surpassed Japanese manufacturers in promoting overseas investment. They set up wholly-owned trading subsidiaries and were engaged in joint ventures in 10In the thesis, the noun sogo shosha is considered to be plural in form. Sogo shosha can be written as either sogo shosha or sogoshosha. In this thesis, "sogo shosha" is used, except for references made to book titles which utilize "sogoshosha". Since some authors writing in English do not use macrons over long vowels, the writer has followed the same manner. 11See Chapter 2 for an elaboration of the history and functions of sogo shosha. 6 manufacturing and natural resource development projects in a number of companies. The Japanese joint venture is a unique investment formula, in which sogo shosha have participated by entering into long-term purchasing contracts. Under the development-and-import formula, capital, technology and equipment are furnished to foreign countries with Japan receiving natural resources in return. Sogo shosha function as vital organizers in the arrangement. Of a total of 165 "development import" projects undertaken by Japanese, 39 are independent projects by single trading firms or cooperative projects involving more than one [of them], while 42 projects represent cooperation between trading and manufacturing firms (according to the Ministry of International Trade and Industry as of December 1970). In other words, trading firms are involved in 81 cases altogether or [in] about half the total.12 These figures substantiate the significant role of sogo shosha, especially before 1970. With the development of Japanese manufacturing industries, the relative importance of sogo shosha in Japanese DFI declined after 1970. Nevertheless, sogo shosha remain as principal investors at present, along with automobile manufacturers and electric machinery makers. This is illustrated by Table 1. In 1973, among the top ten corporations which had large overseas investment balances were the seven largest sogo shosha. Between 1973 and 1983, the ranking of individual sogo shosha changed. However, in 1983, among the top ten corporations with predominant 12Sueyuki Wakasugi, "Japanese Traders Face Tough Global Problems," Pacific Community: An Asian Quarterly Review vol. 4, no. 2 (January, 1973): 233. Table 1: Overseas Loans and Investment by Major Corporations (In ¥100 Mi 11 ion) Ranking Company Name Balance Company Name Balance Company Name Balance 1973 1978 1983 1. Mitsubishi Corp. * 716 2. Mitsui & Co. * 489 3. C. Itoh & Co. * 3G2 4. Nichimen * 361 5. Marubeni Corp. * 266 6. Nippon Usiminas 219 7. Sumitomo Corp. * 192 8. Toray Industries 156 9. Nissho-Iwai Corp. * 147 10. Honda Motor 139 11. Matsushita Electric 110 Industr i al 12. Daishowa Paper Mfg. 109 13. Mitsubishi Metal & 105 M i n i ng 14. Ishikawajima-Harima Heavy 103 Industries 15. Sony 89 16. Teij in Ltd. 817. Toyo Menka Kaisha * 85 18. Mitsui Mining & Smelting 78 19. Honshu Paper 76 20. Toyota Motor 4 Mitsui & Co. * 2,468 Mitsubishi Corp. * 1,443 Marubeni Corp. * 1,25C. Itoh & Co. * 1,094 Sumitomo Corp. * 590 Matsushita Electric 524 Industr i al Toray Industries 505 Kawasaki Steel 408 Teijin Ltd. 405 Toyo Menka Kaisha * 394 Nissho-Iwai Corp. * 385 Nippon Steel Corp. 374 Honda Motor 347 Mitsubishi Heavy 344 Industr i es Nissan Motor 326 Sony 317 Nippon Usiminas 29Ishikawajima-Harima Heavy 253 Industr i es Kanematsu-Gosho * 249 Toshiba Corp. 216 Marubeni Corp. * 2,898 Mitsubishi Corp. * 2,884 Nippon Asahan Aluminium 2,595 Mitsui & Co. * 2,498 Nissan Motor 1,890 C. Itoh & Co. * 1,356 Sumitomo Corp. * 1,262 Japan Petroleum 1,078 Development Nissho-Iwai Corp. * 1,017 United Petroleum 85Deve1opment Kawasaki Steel 854 Honda Motor 793 Matsushita Electric 774 Industr i a 1 Toyo Menka Kaisha * 766 Toshiba Corp. 733 Fujitsu, Ltd. 632 Kawasaki Heavy Industries 565 Toray Industries 53Sanyo Electric 523 Kanematsu-Gosho * 480 * Sogo Shosha 8 overseas loans and investment remained the six largest sogo s hosha . 13 Statistically, as Table 1 indicates, in 1973 the overseas loans and investment by the nine sogo shosha amounted to ¥261,800 million, which accounted for 66.0 percent of the overseas loans and investment made by the top twenty companies. Despite unadjusted yen value, in 1978, sogo shosha overseas loans and investment increased to ¥787,600 million, comprising 64.6 percent of those of the top twenty companies. In 1983, the amount of overseas loans and investment by sogo shosha further increased to ¥1,316,100 million; however, its relative share decreased to 52.7 percent of the total overseas loans and investment by the top twenty Japanese firms. Therefore, at the early stage, DFI by sogo shosha made up a large part of Japan's overall foreign investment, and still comprises its essential component. Consequently, it is necessary to study DFI by sogo shosha in order to understand Japanese overseas investment. Immediately after World War II, the Japanese economy greatly depended on the U.S. economy, summarized by the phrase that "when the United States sneezes, Japan will catch a cold." With the development of the Japanese economy, 13Table 1 does not list Nichimen in 1983. In the Japanese edition of Shukan Toyo Keizai, Nichimen was ranked 25th with 50,100 million yen, while Kanematsu-Gosho was ranked 24th with 52,800 million yen in 1983. However, this Japanese edition does not include Sumitomo. (Shukan Toyo Keizai, 1973 ed. [21 August 1973], p. 2; 1979 ed. [12 October 1978J , p. 4; and 1985 ed. [25 January 1985], p. 14.) 9 Japan became a rival and started to threaten some industries in the United States. Presently, DFI is used as an alleviating measure to lessen trade friction between the two countries, and as a means of revitalizing some American industries which have lost their competitive edge in the international market. Conventionally, bilateral flows of trade and investment are pertinent barometers used to indicate the strength of the economic relationship concerned. In this sense, postwar Japanese DFI has been deeply involved in the United States since 1951 when sogo shosha resumed investment in U.S. commerce. Moreover, the United States as a single country has hosted the largest amount of Japanese DFI. Not only is cross investment, especially between developed countries, a long-standing feature of DFI, but it also intensifies the degree of penetration. The United States, once the world's chief source of capital, became a net recipient country of capital in 1981. Conversely, Japan recently showed up as a net creditor country in other parts of the international financial arena. Japan, once supported by American aid, nowadays gives help to revitalize American industries through DFI. The changes in the size and maturity of economies is creating a new scene. In the U.S. market, made-in-the-U.S.A. television sets with Japanese brand names are competing with American-brand sets produced abroad. By the same token, Japanese automobile manufacturers are setting up production facilities in the United States, while 10 Ford is building a major plant in Mexico. This situation enables American-made Japanese cars to vie with foreign-made American cars.14 Another example of the influence of Japanese DFI may be observed in Canada. A sluggish worldwide demand for steel resulted in a decreased Japanese demand for Canadian coking coal. The lowering of demand affected such small mining towns as Tumbler Ridge, British Columbia. In the context of such interdependence, the prosperity of one place depends on the economic performance of enterprise in another place in the world. Examination of Japanese DFI in the United States and Canada will offer an opportunity to explore different investment patterns, attributed to the investment climates of each host country. Both the United States and Canada are resource-rich and industrialized countries, but their economic, political, geographical and social factors create different investment climates. As a result, the comparison of Japanese DFI between in the United States and in Canada depicts a clear picture of the characteristics of Japanese DFI in the advanced countries. In sum, the impact of Japanese DFI on the world economy has become large enough to influence regional economic growth. Yet, investigation on this topic, particularly in conjunction with its locational features, has only just ,aHajime Karatsu, "The Deindustrialization of America: A Tragedy for the World," KKC Brief no. 31 (October, 1985), p. 2. 11 begun. Geographical Studies of Multinational Corporations Economic and management studies have significantly contributed to the elucidation of the activities of multinationals, while the geographic literature has made only a modest contribution. In spite of this, the operations of MNCs generate many locational questions. Perhaps economic geographers have limited their research domain too much in studying regional and national economies. As Britton indicates, the "geography of enterprise" focusing on the behavior of individual firms has not been enough to cope with the range and complexity of MNCs.15 However, the geography of enterprise has illustrated that the enterprise is an important organizing institution, and that multiproduct, multiplant enterprises influence industrial location change and regional economic development. While the behavior of multiplant firms is interpreted within a neoclassical location model,16 the geography of enterprise is rooted in the criticism of the neoclassical location theory. In other words, the small firms of the market can be treated within the traditional neoclassical framework, while the large organizations which modify and adapt their operating environments cannot be 15John N. H. Britton, review of The Geography and  Multinationals, ed. Michael J. Taylor and Nigel J. Thrift, in Economic Geography vol. 61, no. 1 (January, 1985): 89. 16Peter E. Lloyd and Peter Dicken, Location in Space: A  Theoretical Approach to Economic Geography 2nd ed. (New York: Harper & Row, Publishers, 1977). 1 2 fully explained by neoclassical location theory.17 Therefore, the research task of economic geography should be expanded to address the changing locational networks and organizational structures of global corporations.18 Yet, the complex and difficult task to explore MNCs has only just begun. In 1982, The Geography of  Multinationals edited by Taylor and Thrift, was published. Other successful attempts are expected to follow in this newly opened field of study. There has yet been no geographical study of the unique Japanese multinational firms--s0g0 shosha—apart from the work of Edgington on the effect of the Japanese investment on Australian regional economies, although there is a large literature on Japanese foreign investment.19  Research Aims The purpose of this research is to describe, analyze and explain the spatial and sectoral distribution of Japanese direct foreign investment since 1951 with particular reference to sogo shosha investment in the United States and Canada. This examination also explores how the 17Roger Hayter and H. D. Watts, "The Geography of Enterprise: A Reappraisal," Progress in Human Geography: An  International Review of Geographical Work in the Social  Science and Humanities vol. 7, no. 2 (June, 1983): 173-174. 18Britton, loc. cit. 19See David. W. Edgington, "Some Urban and Regional Consequences of Japanese Transnational Activity in Australia," Environment and Planning A: International  Journal of Urban and Regional Research vol. 16, no. 8 (August, 1984): 1021-1040. This incorporated some of the results of his thesis presented at Monash University, Australia. It has not been possible to obtain a copy of the Edgington thesis presented to Monash University. 1 3 development and characteristics of the Japanese economy have affected the patterns of direct foreign investment, in connection with investment climates of host countries. Five main research questions are investigated. (1) What are the main theoretical explanations of direct foreign investment? (2) What are the economic, political, geographical and social factors in Japan that have influenced direct foreign-investment? (3) What are the features of the interaction between host countries and the Japanese direct foreign investment? (4) What are the motives and patterns of Japanese DFI at a global scale? (5) What_are the specific features of sogo shosha investment activity and how has this influenced the national and regional economies of the host countries? Availability of Data In order to answer these research questions, extensive data were collected by the writer from publications and through interviews with government officials and businessmen in North America and Japan. The field work was conducted over the summer of 1984 in Vancouver and Tokyo. In Tokyo, the writer visited the Ministry of Finance, the Ministry of International Trade and Investment, the Ministry of Foreign Affairs, the Economic Planning Agency, the Bank of Japan, the Export-Import Bank of Japan, the Industrial Bank of Japan, Ltd., the Japan External Trade Organization, the 1 4 Keidanren, the Embassies of the United States and Canada. Government officials were contacted in the U.S. Department of Commerce, Statistics Canada and the Foreign Investment Review Agency in Canada (see Appendix A). The Bank of Japan provided the data concerning the amount of Japanese DFI in the world and in North America,20 broken down by industrial sectors. One of the difficulties in pursuing this type of research is the lack of suitable data. None of the data provided by the Bank of Japan, the U.S. Department of Commerce and Statistics Canada are broken down into areas by state or province. Although these data are broken down by the type of industry, classification of industries differ from one country to another. Therefore, the Bank of Japan data, broken down by industrial sector annually, are the most detailed data available for comparison of Japanese DFI in the United States and Canada. In addition, four issues of Zaisei Kinyu Tokei Geppo published by the Ministry of Finance, Japan, supplemented these data. In addition, Toyo Keizai Shinpo-sha, or the Oriental Economist, has compiled facts and figures of Japanese multinationals since 1973, and special issues on this topic have been published annually. The 1973, 1979, and 1984 editions of Shukan Toyo Keizai were utilized. The interviews with businessmen of the nine top sogo shosha in Canada and Japan enabled an update of the information available in the 20North America refers only to the United States and Canada. 15 1984 edition. These data were processed by using the statistical package for social science at the University of British Columbia. In order to present the data collected by this method, this thesis has been divided into three parts. Part I which forms Chapter 1 lays out the theoretical arguments concerning previous economic and management theories which have been utilized to explain Japanese DFI and the economic relationships with host countries. This involves some comparison of theories regarding American and Japanese DFI. Part II made of Chapters 2 and 3 discusses the characteristics of MNCs in order to delineate the special features of the sogo shosha. This is followed by a survey of the nature and features of the postwar Japanese economy, which initiates and maintains overseas investment. The economic necessity to procure natural resources, the development of the Japanese economy and a shift in both industrial structure and governmental policies, all are mirrored in distinct Japanese DFI in terms of investment regions and sectors. In addition, domestic Japanese organizational linkages between firms affected the origins of Japanese-type MNCs and are reflected in the overseas investment formulae. Part III of the thesis, consisting of Chapters 4, 5 and 6, analyzes the patterns of Japanese foreign investment at the world level, in North America and finally by the sogo shosha in North America. Chapter 4 takes a bird's-eye view 1 6 of the postwar Japanese DFI in the world. First, the world trend of DFI is outlined in order to place Japanese DFI position in a global context. The chapter includes a survey of the changes in Japanese government investment policies from restriction to liberalization corresponding to the domestic economic development and international pressures. An historical review of Japanese DFI is presented dating from 1951 to 1983 which shows significant investment in North America. Major features of present Japanese DFI are clarified. In order to identify chronological and sectoral changes in Japanese DFI, Chapter 5 traces postwar Japanese DFI in the United States and Canada. Economic, political, geographical and social factors forming the investment climate of both the United States and Canada are discussed. Then, the investment climates of these two countries are compared to discern reasons why Japanese DFI is attracted to certain areas. Chapter 6 focuses on a case study of postwar Japanese DFI by sogo shosha in the United States and Canada. Major questions concern in which sector and region sogo shosha invested and what is the relative importance of the investment by sogo shosha to the overall Japanese DFI in the United States and Canada. Finally, the conclusion summarizes the results of the analysis. 1 7 CHAPTER 1 THEORETICAL FRAMEWORK It is a commonly held view that Direct Foreign Investment (DFI), is largely carried out by multinational corporations. The reasons for investment and the implications of investment on home and host countries are complex. The neoclassical/neo-Keynesian, the radical or neo-Marxist and the neo-mercantilist perspectives have been advanced as frameworks for understanding direct foreign investment. These approaches correspond to Gilpin's classification of the three prevailing schools of thought on economics: liberalism (the Sovereignty-at-Bay model), Marxism (the dependencia model), and economic nationalism (the mercantilist model), respectively.21 The purpose of this chapter is twofold: first, to describe and critically analyze the main arguments of each school of political economic thought, and second, to examine to what extent each school accounts for the past and present patterns of Japanese DFI in both the United States and Canada as well as in the world. The extent to which each school explains the relationship between the host and home countries is also examined. The first three sections discuss the three major theories. Then, section IV deals with the 21Robert Gilpin, "Three Models of the Future" International  Organization vol. 29, no. 1 (Winter, 1975): 37-60. A revised version of this article is Chapter 9 in Robert Gilpin, U.S.  Power and the Multinational Corporation: The Political  Economy of Foreign Direct Investment (New York: Basic Books, Publishers, 1975) The Political Economy of International  Relations Series ed. Benjamin J. Cohen. 18 validity of the theories to elucidate the Japanese-type DFI as opposed to the American-type DFI. I. Neoclassical/Neo-Keynesian Theories Neoclassical/neo-Keynesian theories draw on classical economics which at its core is a market mechanism, through which optimal allocation of resources is attained by the economic activities of rational, i.e. self-interested, individuals. These theories also take into account significant governmental roles in the economy. International trade is inseparable from international foreign investment. Traditional theorists claim that international trade can generate wealth, either by improving the allocation of resources, or by increasing the quantity of available resources. Improved allocation is direct and achieves static gains through the theory of "comparative advantage," while increasing the quantity of a good is indirect and cumulative as postulated by productivity theory.2 2 The theory of comparative advantage in international trade, notably developed by David Ricardo, assumes that each country will export the goods that it can produce at the lowest relative cost and will benefit from the free flow of trade between them. Ricardo's two-country, two-product, labor-cost model is too simple, since the theory emphasizes 22Anthony R. de Souza and J. Brady Foust, World  Space-Economy (Columbus, Ohio: Charles E. Merrill Publishing Co., and A Bell & Howell Co., 1979), p. 516. 19 only one factor of production: labor. In response to this criticism, two Swedish economists Eli Heckscher and Bertil Ohlin included several factors of production in another model, namely, land, labor, capital and entrepreneurship, and showed how trade arose from international differences in these factor endowments. This factor endowments approach to trade theory concludes that a country should specialize in the production of goods which make the lightest demands on its scarce factors of production. A country should export its specialities in order to obtain goods which it is ill-equipped to produce. Behind all these trade theories, there is an assumption that free trade is best because it maximizes world economic output, and that through trade resources are allocated in the most efficient manner. However, in reality, trade does not take place in a laissez-faire environment. Various trade barriers, such as protective tariffs (import duties), quotas, commodity agreements, and non-tariff barriers exist. Among neoclassical/neo-Keynesian economists, it is axiomatic to say that DFI is the product of imperfect market competition. As long as markets are imperfect under capitalism, there are difficulties in preventing a firm from taking advantage of the market imperfections.23 By encompassing various aspects and explanations of multinational activity, the main schools of economic thought 23Kiyoshi Kojima, Direct Foreign Investment: A Japanese  Model of Multinational Business Operations (London: Croom Helm, 1978), p. 229. 20 view DFI as a particular response to imperfect and distorted markets. Before presenting Ohlin-Heckscher's classical transfer theory and that of two monumental works by Hymer (1960) and Vernon (1966) as typical models of neoclassical/neo-Keynesian thought, other traditional theories of DFI should be reviewed. For example, Aliber (1970) advocated the hard currency theory, in which multinational corporations of source-countries based in hard currency areas have an advantage in the capital market over host country firms. Caves (1971) introduced product differentiation advantages of multinational corporations. He accepted that product differentiation advantages are not only an industrial attribute explaining the incidence of direct investment, but also, in some of his later work, he also distinguished ownership advantages. In his most recent work, Caves (1982) uses the "transactional approach." ". . . the multinational enterprise operates in an internal market in which transaction costs are lower than they would be in open arm's-lengths [sic ] markets."24 This transactional approach is also the basis of Hennart's work (1982). Magee (1977) proposed an appropriability25 theory, in which 24Charles P. Kindleberger, Multinational Excursions (Cambridge, Mass.: MIT Press, 1984), p. 181. 25Magee defines "appropriability" as the ability of private originators of ideas to obtain for themselves the pecuniary value of the ideas to society. See Stephen P. Magee, "Information and the Multinational Corporation: An Appropriability Theory of Direct Foreign Investment," in The  New, International Economic Order: The North-South Debate, ed. Jagdish N. Bhagwati. (Cambridge, Mass.: M.I.T. Press, 1977), p. 337. 21 multinational corporations play a key role of an international trader in "information" (technology). Dunning (1977), who leads the University of Reading school, advocated "eclectic theory" which encompasses direct investment theory and location theory, by stressing both the /ocati on-specific endowments of countries and the ownership-specific endowments of enterprises. However, Kindleberger criticized Dunning in that location theory was already part of the theory of direct investment.26 With regard to other DFI theories, excellent literature surveys are provided by Hood and Young (1979) and Parry (1980) and they will not be further addressed here. Except for the pioneering work of Penrose (1959) who associated direct investment with the growth of the firm, the above-mentioned works stem from Hymer and Vernon's contribution, even though Hymer's 1960 work was published as late as 1976. Before the evolution of new theories of DFI in the 1960's, DFI was largely considered a form of international movement of capital. The classical transfer theory of international capital flows was essentially classical investment theory which extended across national boundaries. Based on this theory, investment will occur up to the point where the marginal rate of return on capital equals the interest rate. In conventional transfer theory, there is no distinction between portfolio and direct investment flows, because prior to the 1930's international capital flows were 2 6Kindleberger , op_. c it. , p. 183. 22 synonymous with portfolio investment.27 After World War II, DFI increased, associated with a transfer of technology and skills as well as a transfer of finances. Thus, it was clear that interest-rate differentials of classical transfer theory did not provide a full explanation of all forms of international direct investment. It is necessary to distinguish direct foreign investment from portfolio investment. If a citizen of one country makes an investment in another country with the intention of managing or controlling the physical assets and organization acquired or created as a result of the investment, then the investment is defined as foreign direct investment. In contrast, if the investor intends only to hold the foreign assets in order to obtain financial gain and does not intend to manage or control the investment, it is referred to as foreign portfolio investment, or simply portfolio investment.28 Another explanatory hypothesis critiqued by Caves is described as the risk aversion assumption. In addition to normal business risks which are accompanied by changes in technology, market failure and business mismanagement, foreign investment encounters both a political and an exchange risk in the host country. DFI requires a large amount of costly information in order to minimize risks. 27Thomas G. Parry, The Multinational Enterprise;  International Investment and Host-Country Impacts (Greenwich, Conn.: JAI Press, 1980), p. 19. 28Yoshi Tsurumi, Multinational Management: Business Strategy  and Government Policy, 2nd ed. (Cambridge, Mass.: Ballinger Publishing Co., 1984), p. 184. 23 Reducing business risks could be accomplished by the diversification of the type of product items as well as of investment in different geographic locations. The MNC generally must choose between investments involving greater risks and higher expected returns and those involving less risks and lower expected returns. Although managers generally aim to minimize risks, they sometimes pursue more risky investments, in hope of higher returns through increased revenues, cash flow, profits and market share. When a company makes a risk-avoiding choice of investment projects, it generally results in a lower profit rate. Sometimes, when corporate management does not act in a manner that maximizes the interests of widely scattered and passive shareholders, the rate of return to the shareholders becomes a problem. According to Caves, a MNC "should embrace foreign investments only if they offer the highest expected profit and should stay away from those justified solely for their diversification value."29 This is because individual portfolio holders often find it difficult to invest across national boundaries and the business manager himself faces nondiversifiable risks if his company does badly.30 In 1960 Stephen Hymer's doctoral dissertation The  International Operations of National Firms: A Study of  Direct Foreign Investment was a milestone in the history of 29Richard E. Caves, Multinational Enterprise and Economic  Analysis, (Cambridge: Cambridge University Press, 1982), p. 26. 30Ibid. 24 economic thought. Indeed, Kindleberger noted that "the multinational corporation without Hymer is Hamlet without the Prince."31 Hymer showed that DFI occurred most prominently in those industries with oligopolistic structures. An oligopolistic structure refers to industries in which a limited number of firms with superior product technology or manufacturing economies of scale dominate.32 The oligopolistic market structure and behavior of multinationals are closely linked with technological advantages. First, large size is an important attribute for successful innovation since research and development costs are substantial and the economies of scale favors it. Second, firms possessing a monopolistic competitive advantage are able to earn higher profits. Finally, product differentiation is frequently associated with an oligopolistic market structure, and the ability to differentiate products is crucial where technology becomes standardized. In short, Hymer's early approach, along with Kindleberger's, is known as the industrial organization approach with emphasis on the horizontal and vertical integration of economic activity within a corporation across national boundaries. The next preeminent opus was presented by Raymond Vernon in 1966, known as the product life cycle theory. 31 Kindleberger, op_. cit. , p. 180. 32Tsurumi, op_. cit. , p. 180. 25 Vernon and the Harvard Business School group postulated a technological gap as the major advantage in explaining DFI and considered DFI as stages in the process of the penetration of foreign markets. First, a new product is invented and manufactured on a large scale in a leading industrialized country. As long as a technological gap exists between the product developing countries and foreign countries, exports of this product will grow. The product is maturing as other companies in other countries compete in producing it. The technology is thus diffused to other industrialized countries. Then, as the trade advantage is on the verge of being lost, DFI is made to secure foreign markets. When the product is standardized and widely disseminated and economies of scale reach their limits, the multinational company in the original country of innovation turns to import this product from its subsidiary in the less-developed countries which offer competitive advantages as a production location. According to Vernon, oligopoly was a near-necessary condition for breeding multinational enterprises, which was simply a reaffirmation of a point made by Hymer.33 The product life cycle theory regards technological innovations as the main determinant of the structure of world trade and of the distribution of production among countries. This model explains the location of manufacturing 33Raymond Vernon, "Sovereignty at Bay Ten Years After" International Organization vol. 35, no. 3 (Summer, 1981): 518. 26 facilities, but not their ownership. Moreover, this model describes the main elements of U.S. direct investment, but is not considered a general model of DFI applicable to other developed countries. In this regard, Vernon himself acknowledged in his Sovereignty at Bay that "by 1970 the product cycle model was beginning in some respects to be inadequate as a way of looking at the U.S. controlled multinational enterprise."34 The utility and limitation of a "Soverei gnt y-at-Bay model" identified by Gilpin were summarized by Vernon in the following passage:.. . . . the product-cycle hypothesis had particular applicability to the conditions of, say, 1900 to 1970; this was a period in which the-income levels of U.S. residents were higher than those in any other major market in the world, in which U.Sv L ... hourly labor costs were the highest in the world, and-in which U.S. capital and raw materials were comparatively cheap.35 He further appraised that "the product-cycle concept continued to have some utility, explaining some of the trade and investment patterns visible in various countries of the world; but its utility in explaining the behavior of the U.S. economy had measurably declined."36 The product life cycle theory of Vernon has some relevance to Japanese DFI, although Japan has been an imitator rather than an innovator. Japan may succeed in making substantial physical improvements to the products 3"Raymond Vernon, Sovereignty at Bay: The Multinational  Spread of U.S. Enterprises (New York: Basic Books, 1971);~p; 108. 3 5Raymond Vernon, "Ten Years After," op_. cit. , p. 519. 3 61 bid., p. 520. • 27 concerned and it may successfully differentiate its products through brand names and advertising.37 Indeed, Tsurumi, a member of the Harvard Business group, applied the product life cycle theory to explain the emerging patterns of DFI by Japanese firms.38 However, Tsurumi recognized the limits of this theory and stated that "a closer investigation of Japanese investments abroad in both developing and developed nations produced a new dimension to the product life cycle theory of foreign direct investment."39 Direct foreign investment, as noted by Hymer and Vernon, was observed in industries associated with oligopoly and with innovation. This type of DFI is named the American-type of DFI by Kojima, which will be discussed later in this chapter (see section IV). II. Radical Theories Radical theories have also contributed to understanding the behavior of multinational corporations. Three major theories will be examined. The first two, the dependency theory whose leading exponent is Frank (1966), and the world system theory advocated by Wallerstein (1974), analyze economies on a world-scale and emphasize the change within the global division of labor. Both theories are greatly indebted to Marxist intellectual thought. The third theory 37Hood and Young, ojo. cit. , p. 67. 38See Yoshi Tsurumi, "Japanese Multinational Firms" Journal  of World Trade Law vol. 7, no. 1 (January/February, 1973): 74-90. 39Tsurumi, Multinational Management, op. cit. , p. 199. 28 is a neo-Marxist theory, discussed by Palloix and Hymer. Like John Freedmann, a planner, and David Harvey, a geographer, by 1969 Hymer was converted from a liberal perspective to Marxism. The first major publication in English of the dependency40 or the Latin American school, was a collection of essays in 1967 by Andre Gunder Frank entitled Capitalism  and Underdevelopment in Latin America. Derivation of thought encompassed the works of Latin American scholars previously published in Spanish. Since then the dependency school has been the subject of much debate among scholars. In Frank's theory of underdevelopment, he argues that "historical research demonstrates that contemporary underdevelopment is in large part the historical product of past and continuing economic and other relations between the satellite underdeveloped and the now developed metropolitan countries."41 Furthermore, "underdevelopment was and is 40Caporaso indicated that dependence and dependency are two quite distinctive sets of phenomena. Dependence is the pattern of external reliance of well-integrated nation-states on one another. The opposite of dependence is interdependence. Interdependence rests on the the notion of mutual control. On the other hand, dependency, which is closer to the dependenci a tradition, involves a more complex set of relations centering on the incorporation of less developed, less homogeneous societies into the global division of labor. See James A. Caporaso, "Dependence, Dependency, and Power in the Global System: A Structural and Behavioral Analysis" International Organization vol. 32, no. 1 (1978): 13-43. 41Andre Gunder Frank, "The Development of Underdevelop ment," Monthly Review: An Independent Socialist Magazine vol. 18, no. 4 (September, 1966): 18. This article is Chapter 1, in Andre Gunder Frank, Latin America:  Underdevelopment or Revolution, Essays on the Development of Underdevelopment and the Immediate Enemy, (New York and London: Monthly Review Press, 1969). 29 still generated by the very same historical process which also generated economic development: the development of capitalism itself."42 The gist of Frank's argument is that by the expansion of the capitalist system, every area is integrated into the world economic system on an international level. ". . .a whole chain of constellations of metropoles and satellites relates all parts of the whole system from its metropolitan center in Europe or the United States to the farthest outpost in the Latin American countryside."43 Through this chain, capital or economic surplus generated in satellites is channelled to the world metropolis at each stage of production. As a result, the satellites are underdeveloped, or impoverished, while the metropoles develop, or grow. Wallerstein's work on world-system analysis is often linked with or viewed as an extension of Frank's work. Although the world-system theory emphasized different aspects of the structure and growth of a world economy with historical details, the causal explanation of underdevelopment is similar. Wallerstein insisted that "the modern world-economy is, and only can be, a capitalist world-economy."44 Wallerstein linked the emergence of the modern world-economy in sixteenth-century Europe with the full development and 42Ibid., p. 23. 43Ibid., p. 20. 44Immanuel Wallerstein, The Modern World-System: Capitalist  Agriculture and the Origins of the European World-Economy in  the Sixteenth Century (New York and London: Academic Press, 1974), p. 350. 30 economic predominance of market trade, that is, capitalism. A world-system or world-economy is defined as a unit with a single division of labor but multiple policies and cultures.45 Capitalism and a world-economy are inextricably linked and inseparable. A world-system is based on extensive division of labor, and this division is both functional, namely occupational, and territorial. In other words, the world-system rests on the specialization of different regions at different stages and under different aspects of the production process. The process of development of a world-economy brings about technological advances which make it possible to expand the boundaries of the world-economy. The integration of vast new areas as the periphery of the expanding world-economy may result in a shift in role of some regions of the world. Although technological advances sometimes change the structural roles of some regions in the world-economy, the structural positions in the world-economy were divided into core-states, semiperipheral areas and peripheral areas, which became stabilized by about 1640.46 Slightly different starting-points led to the development of a stronger state mechamism in the core areas of the world-economy. Once a difference in strengths of state-machineries exists, 45Immanuel Wallerstein, "The Rise and Future Demise of the World Capitalist System: Concepts for Comparative Analysis" Comparative Studies in Society and History: An International  Quarterly vol. 16 (1974): 390-391. 4 6Wallerstein, "The Rise and Future Demise," op_. cit., p. 401 . 31 "unequal exchange"47 operates. "Thus capitalism involves not only appropriation of the surplus-value by an owner from a laborer, but an appropriation of surplus of the whole world-economy by core areas."48 Moreover, the operations of the world-market forces accentuate the differences between core areas and peripheral regions. Although Frank, Wallerstein and Amin49 stated the world-system perspective in slightly different ways, they share a common assumption. "The essence of their explanation was that the integration of the world system led to a transfer of economic surplus from the colonised and, later, underdeveloped regions to the coloniser or core regions and nation-states."50 ". . . the core-periphery division of labour was the central structural feature of world capitalism, and that the unequal exchange of commodities between its core and peripheral zones accounted for uneven world development."51 47See Arghiri Emmanuel, Unequal Exchange: A Study of the  Imperialism of Trade, with Additional comments by Charles Bettelheim, trans. Brian Pearce (London: New Left Books, 1972) . 48Wallerstein, "The Rise and Future Demise," loc. cit. 49Amin made a substantial contribution to underdevelopment theory. He distinguished between capitalist development at the center and in the periphery. The center is "self-centered" and links the production of mass consumption and capital goods, while the periphery has the "disarticulated" production which concentrates on exports and luxury goods. See Samir Amin, "Accumulation and Development: A Theoretical Model" Review of African  Political Economy vol. 1 (1974): 9-26. 50D. K. Forbes, The Geography of Underdevelopment: A  Critical Survey (London: Croom Helm, 1984), p. 71 . 5 Albert Bergesen, "The Emerging Science of the World-System" International Social Science Journal vol. 34, no. 1 (1982): 26. 32 Against these dependency and world-system theories, criticism has come from both the dependency theorists such as Leys and Palma as well as from outside the school. The dependency theorists' argument was located in the historical dynamics of the expanding capitalist mode of production. This integration of the world-economy led to both development at the center (core areas) and underdevelopment in the periphery. Thus, first, the critique was directed towards an attempt to explain the unity of development and underdevelopment within a capitalist world system. Second, dependency theories emphasize the impact of external factors and international relations to which underdevelopment of the developing countries was ascribed, but these theories do not grasp the significance of autonomous histories of the developing countries. These countries are regarded as "passive victims"52 of their place in the world capitalist economy. However, they have the ability to adjust themselves to the world-system, and the emergence of newly industrializing countries exemplify this situation. In addition, the mechanical underdevelopment of nations as a result of their place in the world system has never satisfactorily been able to explain why colonialism, and the creation of a dependent economy based on the export of primary products, led to underdevelopment of some countries (Indonesia) but to the development of others (Australia).53 52Forbes, loc. cit. 5 3Ibid., p. 72. 33 It should be noticed that Wallerstein included Indonesia and Australia together in the semi-periphery areas. This argument applies, to a certain extent, to Canada as well. Finally, according to Leys, the theories are unable to fully explain different levels of development and underdevelopment, or levels of exploitation, between nations. Furthermore, the theories located underdevelopment as a product of the loss of economic surplus in exchange relations but not in class formation or class struggle. Several criticisms notwithstanding, it is widely accepted that the dependency and world-system theories contributed to a. fuller understanding of peripheral societies. Most Marxist theories of underdevelopment are concerned with circulation of commodity-capital and money-capital in the process of extracting surplus value from the periphery to sustain accumulation at the center. However, Hymer and Palloix focused on how labor is exploited on a world scale in the process of production itself, that is, the internationalization of productive capital, usually called the internationalization of production. Palloix argues that the emergence of multinational corporations only expresses more fundamental changes: the international diffusion of capital, the new international mode of accumulation and the intensified nature of class struggle. This new international mode of accumulation links most nations more closely to the international division of labor which makes it more difficult for them to adopt 34 independent economic policies. A new mode of accumulation of capital is also characterized by the important role of nation-states in aligning internal, national conditions of production and exchange to new international conditions through the use of a monetary standard. During the process of the internationalization of capital, groupings of industrial branches are established at the national level and the financial function becomes central to the function of nation-states. At the same time, an international differentiation of the working class occurs through differentiation of the labor process, and the production and reproduction of labor power as well as the value of labor power differentiation. As a result, conflict further increases among interest groups and classes.54 Marxists maintain that DFI in manufacturing is disadvantageous to the host country with regard to economic growth and industrial development. This statement reveals only one facet of reality. It is also true that DFI brings benefits to both multinational corporations and host countries at a cost to home country: increase in the expense of production there. Hence, "though the Marxists may be right in saying that there is an imperative for capitalism to go abroad, the effect is not to exploit but to benefit the recipient economy--a conclusion, by the way, that Marx 54Christian Palloix, "The Self-Expansion of Capital on a World Scale" Review of Radical Political Economics vol. 9, no. 2 (Summer, 1977): 24-27. 35 himself would have accepted."55 Hymer reiterated two laws of Marxist economic development: the Law of Increasing Firm Size and the Law of Uneven Development.56 The law of increasing firm size is the tendency, applicable since the beginning of the Industrial Revolution, for the representative firm to increase its size serially from the workshop to the factory to the national corporation to the mul ti-div/si onal corporation and, presently, to the multinational corporation.57 The law of uneven development is the tendency of the system to produce poverty as well as wealth; underdevelopment as well as development.58 Together, these two economic laws create the following scene: ... a regime of North Atlantic Multinational Corporations would tend to produce a hierarchical division of labor between geographical regions corresponding to the vertical division of labor within the firm. It would tend to centralize high-level decision-making occupations in a few key cities in the advanced countries, surrounded by a number of regional sub-capitals, and confine the rest of the world to lower levels of activity and income, i.e. , to the status of towns and villages in a new Imperial system. Income, status, authority, and consumption patterns would radiate out from these centers along a declining curve, and the existing pattern of inequality and dependency would be perpetuated. The pattern would be complex, just as the structure of the corporation is complex, but the basic relationship between different countries would be one of superior and subordinate, head office and branch plant.59 5SGilpin, "Three Models," op_. cit. , p. 54. 56Stephen Hymer, "The Multinational Corporation and the Law of Uneven Development," in Economics and World Order from  the 1970's to the 1990's, ed. Jagdish N. Bhagwati (London: Macmillan Co., 1972), p. 113. 57Ibid. 5 8Ibid., p. 114. 59Ibid. 36 As Fagan pointed out, the major contribution of Hymer's work was "the insight provided into the new international division of labour through TNCs [transnational corporations], and into the implication for spatially uneven development of corporate strategy and of the hierarchical relationship between centres and peripheries (both globally and within nations)."60 From an even earlier (1961) work which paralleled Hymer's thoughts, Chandler and Redlich put forth the concept that "there are three levels of business administration, three horizons, three levels of tasks, and three levels of decision-making, so there are three levels of policy."61 The operation (managerial) level, the lowest level, is concerned with managing the day-to-day operations of the enterprise in order to carry out a single basic function, for example, manufacturing, sales, purchasing, or research. The "locum-tenential" level, the second level, which first made its appearance with the separation of the head office from the body of the enterprise, is responsible for coordinating the managers at the operational level. The functions of the top team (the entrepreneur) are goal-determination and 60Robert H. Fagan, "The Internationalization of Capital: A Perspective on Stephen Hymer's Work on Transnational Corporations," in An Introduction to Marxist Theories of  Underdevelopment, ed. Richard Peet, Department of Human Geography Monograph 14 (Canberra: Australia National University, 1980), p. 175. 61Alfred D. Chandler, Jr., and Fritz Redlich, "Recent Development in American Business Administration and their Conceputualization," Business History Review vol. 35, no. 1 (1961): 24. 37 planning.6 2 Hymer applied location theory to the Chandler-Redlich scheme at an international scale. Based on location theory, the lowest level activities would spread themselves over the globe according to the pull of labor force, markets, and raw materials. The multinational corporation, because of its power to command capital and technoloy and its ability to rationalize their use on a global scale, will probably spread production more evenly over the world's surface than is now the case. Thus, in the first instance, it may well be a force for diffusing industrialization to the less developed countries and creating new centers of production.63 Since the second level activities need white-collar workers, communications systems, and information, they tend to concentrate in large cities. As their demands are similar, the offices of the multinational corporations from different industries are prone to locate in the same city. Consequently, the second level activities are far more geographically concentrated than the lowest level activities. The top level activities are apt to be more concentrated than the second level activities, because they have to be located close to the capital market, the media, and the government. The need to face-to-face contact at higher levels of decision-making becomes crucial. When this scheme is applied to the world economy, the highest offices of the multinational corporations are expected to be located and concentrated in the world's major "Ibid. 6 3 Hymer, op_. cit. , p. 124. 38 cities such as New York, London, Paris and Tokyo. Other cities throughout the world will deal with either lower strategic planning or the day-to-day operations of specific local problems, depending on functions of the organization placed. As a result, an international urban hierarchy appears. Since business is usually the core of the city, geographical specialization will come to reflect the hierarchy of corporate decision-making, and the occupational distribution of labor in a city or region will depend upon its function in the international economic system.64 Hence, Hymer indicated the new international division of labor through the multinational corporations, which promoted spatially uneven development and shaped hierarchical relationships among cities globally as well as nationally. Cohen also explored the new international division of labor in the capitalist system and urban hierarchy, and indicated that changes in the international "competitiveness" of a number of world industries have been a major factor in the reshaping of urban hierarchy throughout the world.65 Changes in the corporation and in the structure of the advanced corporate services have led to the emergence of global cities, which serve as international centers for business decision-making and corporate strategy formulation. These global cities are synonymous with "world 64Ibid. 65R. B. Cohen, "The New International Division of Labor, Multinational Corporations and Urban Hierarchy," in Urbanization and Urban Planning in Capitalist Society, ed. Michael Dear and Allen J. Scott (London and New York: Methuen, 1981), p. 303. 39 cities" as defined by Friedmann and Wolff.66 III. Neo-Mercantilist Theories The neoclassical/neo-Keynesian approach emphasizes the tenets of competitive market allocation and endorses laissez-faire capitalism, while radical approaches accept Marx's fundamental critique of capitalism with a strong predilection to dismiss market forces as bases for resource allocation. The third theory in contrast incorporates the increasing role of government which protects national interests through adjustment policies and mechanisms within the current international capitalist system. Structuralism and neo-mercantilism belong to this category. The "structualist" approach initially blossomed in Latin America with Raul Prebisch's contributions as the base for its theoretical development.67 The theory has been shared and expanded upon by the Cambridge School economists as well as the International Labor Organization. Its key element is an expansion of the governments' role in managing foreign and domestic financial flows in order to facilitate capital accumulation and in protecting "infant industry" by government•policies. Even with the introduction of higher income jobs and income distribution policies in order to 66John Friedmann and Goetz Wolff, "Future of the World City," paper presented at the Conference of Urbanization and National Development, Honolulu, Hawaii, 25-29 January 1982. 67See United Nations, Department of Economic Affairs, Economic Commission for Latin America, The Economic  Development of Latin America and Its Principal Problems, by Raul Prebisch (E/CN.12/89/Rev.1), 1950. 40 stimulate the growth of the domestic market, most economic allocation is left to the free market mechanism.68 Neo-mercantilism, presently in its fourth revival since the 17th century, also shares this common base of the structuralist approach. Merchantilism first flourished in 17th-century France. Identified as Colbertism, its main concerns were to enhance the unity, power, and wealth of the state by means of protectionist and bullion-attracting policies. These are by definition policies of closure. The second wave appeared in Friedrich List's Zollverein policy in 19th-century Germany. In addition to the advocacy of protectionist policies, the argument further encompassed the "nation-state" as the determinant of all organized social activity, material and non-material, in order to increase production capability. The economic nationalism of the 1930's comprised the third surge of mercantilism, which is often associated with Keynes. The most recent version is predicated on the potentiality of political manipulation of economic activities. The advocates of this thesis include Block, Gilpin and Krasner.69 According to Gilpin, the neo-mercantilist model views the nation-state and the interplay of national interest, which are distinct from corporate interests, as the primary determinants of the future role of the world economy. Gilpin 68Michael E. Conroy, "False Polarisation? Differing Perspective on the Economic Strategies of Post-Revolutionary Nicaragua." Third World Quarterly vol. 6, no. 4 (October, 1984): 1006-1007. 69David J. Sylvan, "The Newest Merchantilism," International  Organization vol. 35, no. 2 (Spring, 1981): 381-382. 41 defines neo-mercantilism as "the attempt of governments to manipulate economic arrangements in order to maximize their own interests, whether or not this is at the expense of others."70 In short, the essence of neo-mercantilism is the priority of national economic and political objectives over considerations of global economic efficiency.71 "Each nation will pursue economic policies that reflect domestic economic needs and external political ambitions without much concern for the effects of these policies on other countries or on the international economic system as a whole."72 In contrast to the liberal view that free trade has fostered economic growth, in neo-mercantilism protectionist measures are often pursued. Gilpin assumes that since the 17th century international trade has served politically strong, if not hegemonic, nations in managing and stabilizing the international system. He argues that since World War II, U.S. multinational corporations have transferred capital and advanced technology abroad, thereby causing U.S. industry to decline relative to other countries and to weaken its systemic role.73 Multinationals also brought about certain disadvantages for American workers.74 Multinational corporations have also played a crucial role in maintaining America's share of the world's markets, in securing a strong 70Gilpin, op_. cit. , p. 45. 7'Ibid. 72Ibid., p. 46. 73Gilpin, U.S. Power, op. cit. , pp. 183-189. 7"Ibid., pp. 171-174. 42 position in foreign economies, in spreading American economic and political values, and in controlling access to vital raw materials, especially petroleum.75 By comparing trade with investment, "direct investment, more than trade, tends to have unfortunate economic and political consequences for both home and host countries."76 Thus, Gilpin concludes that the United States should emphasize a trade rather than a foreign investment strategy, and that such a strategy would serve both the national interest of the United States and a world interest.77 Apart from whether the judgement of this conclusion is right or wrong, the scale, diversity and dynamics of the American economy will continue to place the United States at the center of the international economic system, even though the power of the United States has declined relatively. As long as the neo-mercantilist model is based on the current economic system, as Gilpin indicates, its fundamental weak point is the absence of a convincing alternative to a U.S.-centered world economy.78 Moreover, Sylvan evaluates neo-mercantilism as "a decreasingly useful model in an increasingly complex world."79 In other words, the nature of this model is the combination of explanatory failure and descriptive success.8 0 7 sIbid., p. 147. 7 6Ibid., p. 214. 77Ibid. 7 "Gilpin, "Three Model," op_. cit., p. 55. 79Sylvan, op_. cit., p. 392. 80Ibid. 43 IV. The Theoretical Implications of Japanese Type of Direct Foreign Investment From the point of view of this thesis the central question is to what extent the foregoing theories, explain Japanese DFI in the United States and Canada. Interestingly, Kojima and Ozawa postulate a Japanese type or a Japanese style of DFI. Characteristics of this type include small-scale investment, largely in developing countries, concentrating in resource development and labor-intensive manufacturing industries. It is in stark contrast to the U.S. type of DFI, which is large-scale, mostly in developed countries, focusing on manufacturing with much greater control.81 Kojima's argument is founded in the neo-Keynesian theories, and provides an interesting perspective to scrutinize the neoclassical/neo-Keynesian approaches and the neo-mercantilist approaches, and will be discussed later. Hymer and Rowthorn examine the relationship between the size of firms and their performance from 1957 to 1967, and note that the "European merger movement is likely to result in a crucial qualitative change in the nature of European business."82 They then conclude that size is a major 81 See Kojima, Direct Foreign Investment(1978), and Terutomo Ozawa, Multinationalism, Japanese Style: The Political  Economy of Outward Dependency (Princeton, New Jersey: Princeton University Press, 1979). 82Stephen Hymer and Robert Rowthorn, "Multinational Corporations and International Oligopoly: The Non-American Challenge," in The International Corporation: A Symposium, ed. Charles P. Kinderberger (Cambridge, Mass.: MIT Press, 1970), p. 74. 44 determinant of overseas investment.83 The size of a firm is also examined by Komiya (1967). He discussed DFI not simply from a viewpoint of the transfer of capital among nations, but from the approach toward the transfer of "managerial resources" of a firm. According to Komiya, a firm is an aggregation of managerial resources, which include the managerial knowledge and experiences, the patents and know-how, the technical and professional knowledge regarding marketing methods, the abilities for sales, purchase of raw materials and raising funds in the market, brands and credits, information gathering abilities, and organizational capability for research and development, centering on entrepreneurs.84 A firm's activity is a function to convert these managerial resources to profits through maximum utilization of the scarce managerial resources by producing goods or providing services. Thus, the growth of a firm is attributed to the accumulation of the scarce managerial resources in the process of firm activity. This Komiya thesis relies on the theory of the growth of firm by Penrose, leading to Hymer-Kindleberger's industrial organization approach. Thus, it is safe to say that the accumulation of managerial resources is associated an the increase in the size of a firm. This process nourishes conditions which 83Ibid., p. 75. 84Ryutaro Komiya, "Shihon Jiyuka no Keizaigaku: Kanmin no Meishin to Gobyu o toku,"(Economics of Capital Liberalization: An Attack on the Superstitions and Mistakes of the Government and the People) Ekonomisuto (Economist) 25 July 1967, p. 24. 45 enable a firm to grow from a national corporation to a multinational one. These are necessary conditions for a firm to go abroad, but are not sufficient to explain the reasons why a firm goes abroad. Therefore, motives of DFI should be identified. Often, these motives can be derived from Kindleberger's analysis of location theory. Kindleberger introduces transport costs into the analysis of international trade and emphasizes that these also constitute a production factor as well as land, labor and capital. In his theory of the location of industry, he argues that there are three broad types of industries emanating from transport costs. Supply-oriented industries are those in which weight and bulk of fuel or material are large in relation to value and production involves weight-loosing processes. These are generally the early stages of manufacture. The later stages of manufacture tend to be market oriented, because assembly builds up bulk without adding weight. Goods which are valuable in relation to weight or in which weight and bulk do not change in processes are likely to be loose-footed. Transport costs do less to determine their location than do the processing costs. . . . 8 5 Kindleberger's classification applies to categorization of DFI based on motives: natural resource-oriented (supply-oriented), market-oriented, and factor-oriented, that is, labor-oriented (footloose) investment. Hamada added the fourth category, or environment-oriented investment.86 85Charles P. Kindleberger, International Economics 5th ed. (Homewood, Illinois: Richard D. I rwin, 1973), p~i i"03. 86Koichi Hamada, "Taigai Toshi no Mondaiten," (Problems of Direct Foreign Investment) in Gendai no Keizaigaku 3, ed. Tatemoto and Watabe, quoted in "Takokuseki Kigyo no Riron," (Theories of Multinational Corporations) Shukan Toyo Keizai, 11 July 1973, p. 171. 46 The first type of natural resource-oriented investment is the classical type. Its purposes are to exploit and develop natural resources such as oil and other mineral resources, and to develop water (hydro) resources. Market-oriented investment refers to DFI through which firms are set up by foreign investors in order to produce and sell goods in a host courtry. This type of investment is further divided into two categories: trade-barrier-induced investment and oligopolistic direct foreign investment.87 According to Kojima, the trade-barrier-induced investment is present when the substitution of home produced goods for exports from an investing country as well as tariffs and non-tariff barriers exist in a host country. For example, the motivation for market preservation played a crucial role in the multinationalization of U.S. enterprises in the late 1950's. They were concerned about a boycott against U.S. goods in the European market following the formation of the European Economic Community (at present, European Community [E.C.]) in 1959. Thus, American firms invested in Western Europe before the E.C. could build up a rigid tariff barrier. Oligopolistic DFI is typically found in U.S. investment in new manufacturing product industries, which possess technological supremacy. Application of the economies of scale in a recipient country is another factor 87Kiyoshi Kojima, "International Impact of Foreign Direct Investment: A Japanese vs. American Type," The Oriental  Economist vol. 41, no. 758 (December, 1973): 29. This article also appears as Chapter 4, in Kojima, Direct Foreign  Investment (1978). 47 to encourage market-oriented investment. The third category of investment is the factor-oriented investment. Among production factors, there is no mobility in land, and labor in general is less mobile than capital because of various legislative regulations. Consequently, capital moves internationally in seeking for advantageous production factors, especially a cheap labor force. It is profitable and rational for the developed countries where high labor costs prevail to transfer through DFI their labor-intensive industries to the developing countries where abundant, cheap labor is available. The fourth motive of investment is environment-oriented. During the rapid economic growth period in Japan, the externalization of costs by firms resulted in environmental deterioration and caused pollution. With the introduction of government policies for anti-pollution measures, firms started to relocate their plants abroad. In addition, they also experienced a shortage of lands for plant sites at home. Thus, investment occurs in quest for ample lands with less regulations toward environmental protection. Direct foreign investment is carried out to conform to potential advantages in natural resources, market, labor and the environment. Based on these motives, Kojima distinguishes two types of DFI: trade-oriented (the Japanese type) and anti-trade oriented (the American type).88 The 88Kojima, ibid., p. 28. 48 Japanese type of DFI is often found in the resource-oriented and labor-oriented investments, while the American type of DFI is in most of cases related to market-oriented investment. Kojima argues that the Japanese type of investment is trade-oriented, mainly made in areas where the home country is losing and a host country is gaining a comparative advantage. This type of investment is manifested both in the resource-oriented investment in order to exploit natural resources not available indigenously and in the labor-oriented investment, through which labor-intensive industries are shifted from high labor cost to low labor cost locations. On the contrary, the typical American type of DFI is well characterized by Hymer and Vernon. Investment of this type makes for innovative and oligopolistic industries, featured by large firms, high capital intensity, advanced technology, differentiated products, and so on. In order to protect an oligopolistic position in the.world market and to overcome trade barriers, those industries are transferred from an investing country in which it has a comparative advantage over a recipient country, in which it has a disadvantage. Kojima calls the American type anti-trade oriented investment, since it is against the principle of comparative advantage. The American type of investment results in "balance of payment difficulties, the export of jobs, the prevention of structural adjustment, and trade 49 protect ioni sm."8 9 In sum, the Japanese type of DFI is predominantly trade-oriented and directed to those activities in which Japan is disadvantaged, whereas the American type of DFI has been largely in those sectors in which the U.S. economy has a comparative advantage. In addition, Japanese DFI is small-scale while U.S. DFI is large-scale. Kojima concludes that DFI should be trade-oriented because this is most beneficial for both home and host countries. Home countries can supplement shortcomings of their economies, while host countries, mainly developing countries, are able to expect such spillover effects as transfer of technology and job creation. Kojima further proposes that this type of investment should be encouraged so as to contribute to the reorganization of the international division of labor and the growth of trade in the world.90 Certainly, Kojima's contention attempts to explain Japanese DFI in natural resources and in the manufacturing industries in developing countries. As Hood and Young point out, some type of Japanese direct investment such as overseas investment in extractive industries cannot be explained by the neoclassical/neo-Keynesian theories, since the purposes of such investment are to alleviate Japan's resource dependency and to reduce external vulnerability.91 Thus, there is some basis for supporting Kojima's assertion. "Ibid. 90Kojima, Direct Foreign Investment, op. cit., p. 96. 91Hood and Yound, op_. cit., p. 68. 50 Nevertheless, this assertion does not elucidate the recent phenomenon of Japanese DFI in developed countries characterized by matured manufacturers. Stopford and Dunning argue that Kojima's view is too simplistic as an explanation of the country-specific differences in the structure of multinationals' activities.92 Precisely, Dunning criticizes the distinction between trade-generating and trade-destroying investment. He further argues that Kojima's approach tends to be static and also fails to consider vertical specialization within industrial sectors.93 In addition, Stopford and Dunning forsee that the outward thrust of Japanese DFI may well change in the 1980's, particularly, investment in the industrialized countries may be more import-substitution oriented, for the Japanese understand and are familiar with foreign cultures and Japanese domestic labor costs and trade barriers make exports less profitable.94 The Japanese type or Japanese style of investment advocated by Kojima and Ozawa is valid for explaining investment in natural resources and in manufacturing in developing countries. The two types of classification may 92John M. Stopford, and John H. Dunning, Multinationals:  Company Performance and Global Trend (London: Macmillan Publishers, 1983) , p. 32. 93John H. Dunning, "Trade, Location of Economic Activity and the MNE: A Search for an Eclectic Approch," in The  International Allocation of Economic Activity, ed. Bertil Ohlin, Per-Ove Hasselborn, and Per Magnus Wijkman (New York: Holmes and Meier Publishers, 1977), p.412. A later version of this article is Chapter 2, in John H. Dunning, International Production and the Multinational Enterprise (London: George Allen and Unwin Publishers, 1981). 94Stopford and Dunning, loc. cit. 51 imply that the accumulation level of the managerial resources of Japanese firms is lower than that of U.S. firms. With the appearance of full-fledged multinationals in automotive industry, the "Japanese type" comes into question and requires alternative approaches including the Hymer-Kindleberger's industrial organization approach. The "risk-aversion" argument has recently gained acceptance; however, it does not fully explain sogo shosha overseas investments. First, the major shareholders of sogo shosha are the main banks within the same keiretsu group (see Chapter 3); thus, corporate management does not need to pay so much attention to individual shareholders. Second, sogo shosha derive profits from a project over a longer period than most American MNCs. The lifetime employment system and the collective decision-making and responsibility maintain the company's, as well as the project's, longevity. Sogo shosha managers are not evaluated by their work during a short period of time, but by their long-term contribution to the company. Therefore, despite a low rate of return, these organizational characteristics and goals enable sogo shosha to pursue a project as long as it generates profits in the long run. Finally, sogo shosha are not interested solely in monetary return from the investment projects. Companies participate in projects because they can practice economic influence through board decisions and information collection. Also, they can earn commissions based on 52 exclusive commercial transactions. Thus, the assumption that the sogo shosha practice "risk aversion" is correct but the reasons for these decisions are far more complex than suggested by Caves. As previously mentioned, Kojima's argument is used to investigate the neo-mercantilist approach as well. The neo-mercantilist argument states that multinational corporations are not independent actors but instruments of their home governments, although under certain circumstances multinational corporations, such as international petroleum companies, have considerable influence over domestic and international economic and political relations. The paradox arises in that the internationalization of production promoted by multinational corporations calls for more powerful states to counterbalance those large corporations. In the increasing interdependence among national economies, multinational corporations are subject to sovereignty of governments, or nation-states.95 Gilpin has found some support in Kojima's writings. U.S. direct overseas investment has concentrated on technologically advanced sectors, thereby transferring American comparative advantage but keeping non-competitive traditional sectors at home, which have ended up requiring protectionist tariffs. On the contrary, Japan has retained advanced sectors at home and "the labor-intensive, 95Robert Gilpin, "The Politics of Transnational Economic Relations," in Globalism Versus Realism: International  Relations' Third Debate, ed. Ray Maghroori and Bennett Ramberg (Boulder, Colorado: Westview Press, 1982), p. 192. 53 low-productivity end of dual industrial structure [see Chapter 3] is being gradually pushed out of Japan and sent to more labor-abundant neighboring countries through direct foreign investment."96 In this process, the Japanese government has played a key role in screening investment projects through approval procedures as well as through the provision of incentives and disincentives. This has influenced the private-sector decision-making in this field. Thus, government-business relations (see Chapter 3) in Japan are reflected in overseas investment, which is seen as a part of national policy and is in relative harmony with national interests. Consequently, as Ozawa commented, despite some exceptions in individual cases, "the trend of Japan's DFI, on the whole, reflects more the adaptive behaviour of the entire Japanese economy to changing world economic conditions than the random market behaviours of its individual firms."97 Gilpin assumes that the transfer of technology through DFI has considerable diplomatic or strategic relevance for the United States in order to maintain the American hegemonial power whose interests the current system serves. Gilpin himself acknowledes that his argument is frequently, discussed from the standpoint of dependency theory, namely, that American multinational enterprises are instruments in 9 60zawa, op_. cit. , P. 28. 97Terutomo Ozawa, "Peculiarities of Japan's Multinationalism: Facts and Theories," Banca Nationale del  Lavoro Quarterly Review vol. 28, no. 115 (December, 1975): 426. 54 procuring raw materials and maintaining U.S. military and political presence.98 It is also true that Japanese DFI generally is in accord with national interest. However, it is obvious that the primary motive for Japan's overseas investment is economic. This differs from that of the U.S. which is both politically and economically motivated.99 In addition, after the liberalization of capital movement government policy was changed from direct control to indirect control of international transactions. Thus, the neo-mercantilist approach also has limitations in fully explaining Japanese DFI activities. The dependency and world-system theories are founded on the premise that every region has been and remains integrated into the world economy through the global expansion and development of capitalism, and that the metropoles at the core have developed at the expense of the satellites in the periphery. Japan and Canada present paradoxical situations not fully explained by these theories. Still the dependency and world-system theories give a different perspective from those of the neoclassical/neo-Keynesian and neo-mercantilist theory. Japan was integrated into the world economic system during the Meiji period, in the late 19th century. Since then this resource-poor country pursued economic development through industrialization and attained the second most powerful economic position in the world. Japan rose from the 98Gilpin, U.S. Power, op. cit. , pp. 147-1 50. 9 9Schmiegelow, op_. cit., p. 278. 55 semi-periphery to a place in the capitalist core. Thus, a question arises why Japan was able to develop so quickly without being exploited by other industrialized countries. Toward this question, Frank argues that the fundamental reason for Japan's ability to develop is that Japan was not turned into a satellite economy either during the Tokugawa or the Meiji period and therefore did not have its development structurally limited as did the countries which were so satellized.100 Throughout its history, Japan has never been colonized by foreign countries although it did face American occupation after World War II. Nevertheless, the argument whether a country has a colonial experience or not is not persuasive, since among past colonial countries some countries such as Australia developed while others did not. Thus, a lack of colonial experience is not the single determinant which contributed to Japanese development. Rather, from the onset of modernization period during Meiji era, a favorable political system fostered the development of the Japanese economy. The government supported domestic entrepreneurs, from which four eminent zaibatsu, Mitsui, Mitsubishi, Sumitomo, and Yasuda, emerged. At the same time, national policies were designed to eliminate foreign capital as well as foreign undertakings. The state-led capitalism in Japan nurtured the domestic infant industries while it excluded the penetration of foreign capital. Consequently, the exploitation by 100Frank, op_. cit. , p. 25. 56 foreigners was minimized, which would otherwise have deterred the development of the Japanese economy. In addition, the second point that the core areas developed at the expenses of the peripheral areas comes into question with regard to the Japanese case. Theoretically, this contradicts the reality that latecomer Japan has been able to exploit other more-advanced countries such as the United States through DFI, because the argument is based purely on economics, thus eliminating political factors, which form the core of the neo-mercantilist approach. Japan's state-led capitalism looks to the neo-mercantilist approach for explication. Japan's major objective has been national growth, to which both the government and business community have dedicated their efforts, and is different from those of other developed countries. Katzenstein pointed out that "Unlike Gaullist France, Japan's objective in the international political economy never smacked of status diplomacy, but revealed a single-minded export 'atavism' instead."101 Although the national interests of Japan still envision economic prosperity, to which past import restrictions, an undervaluation of the yen, and a tight regulation of foreign investment have contributed, the changes in international and domestic economic conditions forced Japan to 101Peter J. Katzenstein, "Conclusion: Domestic Structures and Strategies of Foreign Economic Policy," in Between  Powers and Plenty: Foreign Economic Policies of Advanced  Industrial States, ed. Peter J. Katzenstein (Madison, Wisconsin: University of Wisconsin Press, 1978), p. 314. 57 internationalize its economy and to liberalize trade and investment. This meant less government intervention in the private economic sector, which, in turn, undermined the basis of neo-mercantilism. Turning to Canada's case, the dependency and world-system theories cast a different light on its economic position. The theories explain the relationships between Canada and other developed countries as well as between regions within the country. Despite its level of development, Canada has been kept in a satellite status first by Great Britain and later by the United States. Canada as a region has never had a world metropolis, which, by definition, cannot exist in a satellite, and it belongs to the semi-periphery. Thus, the theories indicate that Canada has been exploited by other developed countries of the world. Moreover, even within a country the peripheral areas are exploited by the core areas. In Canada, Western resource-based provinces have been exploited by the more advanced, industrialized Central provinces, which has created an "internal colonial" situation.102 Therefore, the theories provide full explanation in regard to the exploitation process, in which metropoles exploit statellites at each level by forming a whole chain of constellations. Nevertheless, this argument postulates that 102See Michael Hechter, Internal Colonialism: The Celtic  Fringe in British National Development, 1 536-1 966~, (Berkeley and Los Angeles: University of California Press, 1975). 58 Canada is "underdeveloped," just like the Canadian nationalist Levitt perceived: Canada is "rich, industrialized [and] underdeveloped."103 However, a contradiction appears in that Canada is developed despite its satellite status. Concerning this point, critics conclude that these theories do not distinguish different types of underdevelopment. Thus, both Japan and Canada are interesting cases in the examination of the applicability of these approaches. Japanese economic development cannot be fully explained within the framework of the dependency and world-system theories for the role of government should be considered. These approaches, however, explicate the international and domestic economic relationship of Canada. Yet, Canada's status as a developed country seems ambiguous. To conclude, the various theoretical approaches offer a variety of insights which help in explaining Japanese direct foreign investment. The neoclassical/neo-Keynesian theories partly explain American DFI, particularly, since it is associated with an oligopolistic structure and advanced technology placing it in the international capitalist economy. The industrial organization approach and the product life cycle theory are such examples. Kojima's notion that a trade-oriented Japanese style of DFI is also based on the neo-Keynesian theories although 103Kari Levitt, Silent Surrender: The Multinational  Corporation in Canada, with a preface by Mel Watkin (Toronto: Macmillan of Canada, 1970), p. 127. 59 Japanese type of DFI lacked those features of an American type of DFI. This Japanese style of DFI was a fairly appropriate explanatory device until the early 1970's. With increases in investment by mature Japanese manufacturers and financiers, the new type of Japanese DFI can be explained in part by the approaches to the above-mentioned American type of DFI as well as by new explanatory frameworks which need to be constituted. ' In addition, the objectives of the Japanese DFI have been in accord with those economic goals of the government. For example, the motive of investment in natural resource development is to secure a supply of natural resources for Japan, which is closely linked with national objectives. This phenomenon was manifested especially until the late 1960's when Japan experienced severe balance-of-payments constraints. Thus, the neo-mercantilist approach has been persuasive in understanding the nature of the Japanese DFI, and is even now more applicable compared to DFI by other developed countries, because of Japan's history of economic development (see Chapter 3). The dependency and world-system theories provide a proper perspective to study Canada as a host country for investment. In addition, the notion of an international urban hierarchy based on the new international division of labor, which is derived from the radical theory, is useful to look at with regard to the relationship between the functions of multinational corporations and their locations. 60 Any single approach by itself cannot fully explain Japanese DFI. Each approach contributes to a partial understanding. Even Kojima's useful explanatory concept has partly lost its validity over the years because of changes in the pattern of Japanese DFI and changes in international economic environments. A corollary of these statements implies that more research has to be done in order to clarify the characteristics of and reasons for Japanese DFI, since Japan has become and will continue to be one of the major capital exporting countries with great impact on the world economy. 61 CHAPTER 2 MULTINATIONAL CORPORATIONS Since direct foreign investment is closely associated with the activity of multinational corporations (MNCs), it is necessary to investigate the characteristics of MNCs as well as their economic and political impacts on the home and host country. The predominant literature on MNCs is based on the American/European experience which was developed earlier than Japanese multinationals. However, the "Japanese-style" MNCs, referring to the nine largest Japanese general trading companies, or sogo shosha, are distinctive and can be contrasted and compared to the American/European MNCs. In comparing MNCs, it is more convenient to adopt the idea of American/European and Japanese multinationals rather than trading multinationals and manufacturing MNCs. The main difference between American/European and Japanese MNCs is not only the type of economic activity but also the role of cultural and political factors. I. Characteristics of Multinational Corporations The history of MNCs goes back to the nineteenth century. However, the proliferation of MNCs occurred only after World War II with most originating in the United States. The development of European and Japanese national corporations also began to be more internationally important in the 1950's. These quickly became multinational and 62 blossomed in the 1970's. Also, during the 1970's, the number of home countries for multinationals increased signi f icantly. At present, multinationals are predominantly American, European or Japanese, although some originate in developing countries, such as Brazil and Mexico. The multinationalization of firms is essentially a phenomenon growing out of industrialized countries where head offices are now located. This is the result of rapid postwar economic growth, technological advances, the intensification of the search for raw material resources and market outlets, and shifts in the relative economic power of the major industrial countries.104 The MNC, the main vehicle through which DFI materializes, requires examination in all DFI studies. Therefore, the following discussion focuses on a description of MNC characteristics, especially those of American- and European-based MNCs, and the identification of positive and negative economic, political and social effects of MNCs on both home and host countries. The relationship between the modernization stage of a host country and the degree of penetration of MNCs is also investigated. The emergence of MNCs changes the notion of the international division of labor. The original division of labor concept was arranged horizontally: industry versus 104United Nations, Department of Economic and Social Affairs, Multinational Corporations in World Development (New York:'Praeger Publishers, 1974), p. 28. 63 agriculture. The international division of labor reflected differences in sectors, for example, trade between manufactured goods and raw materials in different nations. In other words, the division of labor was founded upon "the sourcing of raw material inputs" largely from developing countries by developed countries.105 However, the new international division of labor is a vertical division of labor within a corporation based on the internalized system of production and international exchange of goods. A multinational corporation spreads capital and technology, while it centralizes control by establishing a vertically integrated network in which different functions take place in different areas. Hymer calls this phenomenon "decentralization and centralization, differentiation and integration."10 6 Multinational corporations are characterized by their giant size and oligopolistic mode of product differentiation and marketing. Most headquarters of MNCs are located in the developed countries (parent companies) and their subsidiaries and affiliates spread over several countries. Their sales, amounting to billions of dollars and profits from overseas operations, are significant. MNCs adopt a global strategy by regarding the whole world as their economic arena and practice "worldwide sourcing."107 The 105R. B. Cohen, op_. cit. , p. 288. 106Stephen H. Hymer, The Multinational Corporation: A  Radical Approach, ed. Robert B. Cohen, et al. (Cambridge: Cambridge University Press, 1979), p. 248. 107Gy6rgy Adam, "Multinational Corporations and Worldwide Sourcing," in International Firms and Modern Imperialism, 64 aeronautical and electronic revolutions have made global operation possible. "Globalism" is summarized as follows. The [global] company views the world as a single entity. Its perspectives transcend all national boundaries. Decisions are made not in terms of what is best for the home country or any particular product group, but in terms of what is best for the corporation as a whole on an international basis. The basic principle on which these corporations operate is this: taking the entire world as their market, they tend to organize production, 'distribution and selling activities with as little regard for national [political] boundaries as the realities of time and space permit.108 Instead of dividing the world into spheres of interests observed in the old imperialism era, contemporary multinationals interpenetrate among other markets. They overtly or tacitly collude to achieve common goals on a global basis.109 By utilizing the developed information and transportation networks, the MNCs move their funds and commodities freely in order to maximize their profits. Dividends, royalty payments, transfer pricing and other practices are used to achieve this purpose. According to Goldstein, no matter whether the MNC is American, European, or Japanese in origin, the salient characteristics are the following: 1. The fundamental decisions of the MNC are globally and organically controlled by the home headquarters, even though its local subsidiary operations are thoroughly decentralized. 107(cont'd) ed. Hugo Radice (Harmondsworth: Penguin, 1975), p. 90. 10 8Ibid. Brackets are in original. 109Hymer, op_. cit., p. 243. 65 2. The investments and affiliate operations of the MNC are concentrated in only a few industrial sectors. They are not found in the primary product or in the labor-intensive sectors of developed economies. They congregate thickly where capital or expensive technologies are required in large aggregations. Thus MNCs play a prominent role in those value-added industries that contribute a disproportionate strength to the growth capabilities and to the competitive standing of a developed economy. 3. The most profitable MNCs have penetrated into those industries that are subject to 'monopoly competition' or to oligopoly controls. These include capital-intensive industries (for example, automobiles, petrochemicals, and oil); science-based industries (such as computers, electronics, and nuclear engineering); and giant chains in the service sector (for instance, hotels, banking, and food processing). Each of these industries relies upon an oligopoly equilibrium. Thus: entry into their markets is arbitrarily limited; or prices are effectively stabilized and administered by a few leading firms; or the size of the firm and its product differentiation expand to meet the marketing requirements of imperfect competition. 4. Organizational "size" is essential to the global expansion of the MNC in its production planning at home and in its strategic planning overseas. The multiproduct companies that play a mammoth role in the home market are those that also exert the largest influence in host economies abroad.110 However, the foregoing characteristics really only fit U.S.-and Europe-based MNCs. Compared with those MNCs, Japanese MNCs present a somewhat different distinguishing set of characteristics, which will be discussed in the next section. Multinational corporations control physical economic assets--factories, mines, sales and other offices—in more 110Walter Goldstein, "The Multinational Corporation and World Trade: The Case of the Developed Economies," in The  Multinational Corporation and Social Change, ed. David E. Apter and Louis Wolf Goodman (New York: Praeger Publishers, 1976), pp. 150 and 152. 66 than two countries. Therefore, they are responsible for most DFI and such investment is used as one of the measurements of the size of MNC activities. The role of MNCs is not confined to the transfer of capital, "for the essence of direct foreign investment is the transmission to the 'host' country of a 'package' of capital, managerial skill, and technical knowledge."111 The distribution of investment in the developing countries still reflects historical ties based on former colonial countries. The MNCs were active in the extractive, agricultural and public utility sectors, where in the early 1970's these still accounted for nearly two-thirds of the stock of direct investment. In the developing countries, the MNCs' share of manufacturing was no more than a quarter, while in the developed countries, it represented half of the total investment in manufacturing and in the service sectors.112 In the 1970's, the proportion of DFI in the manufacturing sector and service sector increased, in both developed and developing countries, while the share in the extractive sector declined. In the service sector, investment is made mainly in banking and insurance but also relates to tourism, advertising, marketing and distribution.113 Direct foreign investment in the 111Harry G. Johnson, "Survey of Issues," in Direct Foreign  Investment in Asia and the Pacific, ed. Peter Drysdale (Toronto: University of Toronto Press, 1972), p. 2. 112United Nations, Department of Economic and Social Affairs, ibid. 113United Nations, Centre on Transnational Corporations, 67 manufacturing sector has been made primarily in the food, chemical, pharmaceutical, automobile and engineering (including machinery) industries.11" Although there are considerable similarities between developed and developing countries in the industrial pattern of direct investment, there are differences. For instance, in some developing countries, there is important direct investment in the textile, iron, steel and non-ferrous metal industries.115 Investment in the extractive sector is mostly in the petroleum, copper and bauxite/aluminum industries. Because of their capacity to move capital, technology and managerial skills across national boundaries, the MNCs have become the main vehicle for the internationalization of production. Thus, MNCs can affect international relations and economic development, and have great impact on both the home and host countries' economies. As long as MNCs are competitive, profit-seeking institutions, their interests conflict with those of the home and host countries. Home Country Issues Obvious economic problems for the home country involved in DFI by MNCs are the loss of revenue from profit tax on the earnings of their capital and the transfer of technology and know-how. However, these problems did not become major 113(cont'd) Salient Features and Trends in Foreign Direct  Investment (ST/CTC/14), 1983, p. 3. 11"United Nations, Centre on Transnational Corporations, Transnational Corporations in World Development: Third  Survey (ST/CTC/46), 1983, p. 23. 115United Nations, Centre on Transnational Corporations, Salient Features, loc. cit. 68 issues for the United States, the major source of DFI, because taxes are not always a significant source of revenue to the individual states of the United States as opposed to income, property and sales taxes. In addition, through most of the postwar era until recently, the United States has been anxious to encourage DFI in order to assist postwar economic reconstruction, and has generously disseminated advanced technology to the world. For other countries, such as the United Kingdom which is both a recipient and a source of DFI, these problems were not major issues. Rather, a major concern with regard to DFI has been the balance of payments of the home country. The balance of payments is an accounting tool which measures all the transactions between the residents of one country and those of other countries for a given period, usually one year. Thus, the balance of payments records not stocks, but flows. The balance of payments essentially consists of the trade balance and the balance of financial operations. The trade balance is composed of imports and exports of tangible goods and services. The balance of financial transactions comprises external assets and liabilities, in denoting direct investment, securities, and loans. Exports improve the balance of payments since they bring foreign currencies into the country; imports lower the balance of payments since they lead to an outflow of currency. MNCs play a significant role in expanding direct foreign investment and international trade. MNCs generate 69 inflows of repatriated dividends, licensing fees, royalties and earnings in the form of interest. Meanwhile, outflows of capital to the developed countries are limited in expanding or supplementing necessary funds because MNCs tend to borrow money in the international capital market or to raise money locally, rather than to procure funds from their head offices. In the developing countries, the multinationals rarely have access to local loans and must provide capital from* their home base or the international capital market. The balance of payments constraint until the late 1960's deprived Japan of the expansion of foreign investment, since the domestic capital supply was scarce and foreign currency was sorely needed to pay for the imports of raw materials and foodstuffs. Furthermore, the pre-1973 international capital market was relatively undeveloped. Suffice it to say that the florescence of the international capital market, especially Eurodollar markets, took place after the oil price hike of 1973 by the Organization of Petroleum Exporting Countries (OPEC). The increase in oil prices multiplied the pool of liquid capital, which led to the development of Eurodollar markets. Thus, the balance of payments becomes a major impediment to investment to the home country, unless its economy has an international competitive edge. In addition, MNCs activate international trade. As a result, "Intracompany transfers (between home or affiliate plants) account for one-quarter to one-third of the entries 70 that appear in home nation's trading position."116 Therefore, MNCs are vital to capital transfer as well as international trade, both of which are reflected in the balance of payments of the home country. The labor movements in home countries have voiced criticisms concerning DFI focusing on two major issues. The first issue is the "export of jobs" implicit in DFI. Through the process of DFI some of sectors were transferred to the lower wage rate countries, which resulted in the loss of jobs and the prevention of raising wages in the home countries. The second issue of the criticisms raised concerns the implication for collective bargaining based on the emergence of a world of multinational production. MNCs are able to reduce losses in a domestic strike, to expand overseas production, and even to close down domestic production facilities unless labor unions moderate their wage and other demands.117 In addition to these economic issues, political considerations also are involved in DFI. Johnson has suggested that the home country experiences challenges to national policy through the evolution of its domestic corporations into multinational corporations although the home country government infringes upon the sovereignty of the host country through political intervention in the affairs of MNCs' subsidiaries. There are conflicts of interest between MNCs and home governments: MNC executives 1 16Goldstein, op_. cit., p. 162. 117Johnson, op_. cit., p. 8. 71 perceive the international economy as the sphere of their operations while the politicians and officials of national governments are concerned about the territorial domain of a particular nation-state.118 The MNCs home country also faces this "boomerang effect," which addresses the phenomenon of "imports in reverse."119 DFI accompanied by technological transfer from the developed countries has contributed to the industrialization of developing countries to a certain extent. As a result, finished and half-finished industrial goods produced by overseas enterprises are imported back into the home country. This boomerang effect provokes the need for a readjustment of the domestic industrial structure of the home country, since some industries, particularly those labor-intensive industries, are gradually losing their competitive edge in international markets due to higher wage rates. Host Country Issues The MNCs have provided capital, technology and skills, and have contributed to the creation of job opportunities and economic development in the host countries. However, some host countries are skeptical about the economic behavior of foreign subsidiaries and the exercise of sovereignty by the home government over the foreign operations of subsidiaries of its national corporations. 11"Ibid. 119Miyohei Shinohara, Industrial Growth, Trade, and Dynamic  Patterns in the Japanese Economy (Tokyo: University of Tokyo Press, 1982), p. 72. 72 One of the issues is the public disclosure of financial information as to profits made and taxes paid by subsidiaries. MNCs are able to escape from their fair share of taxes by utilizing a transfer-price mechanism, which enables their foreign affiliates to charge little sales to purchases. In most cases, MNCs carry out crucial research and development in their home countries. Thus, foreign subsidiaries and affiliates play a minor role in research and development, which means industrial competitiveness and supremacy of host countries are suppressed. From the exercise of sovereignty by the government of the home countries over the subsidiaries, political problems accrue to the host country regarding the conflict over its sovereignty claims. The relationship between the United States and Canada exemplifies this case. U.S. antitrust laws, union laws, and laws relating to exports to communist countries apply extraterritorially to U.S. subsidiaries in Canada. U.S. balance of payments guidelines also apply to the financial operations of such subsidiaries.120 MNCs are active players in the international economic arena, but governments of the host countries do not need to act passively, since governments have ultimate legislative and juridical authority within nation-states. The governments of the host countries have ultimate power to decide to levy taxes on MNCs and determine the tax level 120Ibid., p. 11. 73 which catalyzes the activities of MNCs. Tax concessions, present at most tax havens, pull in MNCs, while a unitary tax, as in the United States (see Chapter 5), pushes out MNCs to lower tax areas. The governments of the host countries can also create both favorable and unfavorable investment climates by exerting various policies. Provision of subsidies, tax exemption for corporations, and adoption of less regulatory measures contribute to the formation of favorable investment climate for MNCs. The existence of a local content act, which entails the purchase of local inputs as exercised in the United States, or in Canada under the former Foreign Investment Review Act, discourages economic activity of MNCs to a certain extent. While all these issues might arise in connection with DFI in the developing countries, special issues are likely to arise in that context. Several MNCs are greater in magnitude than some developing countries. Thus, in a developing country context, a host country's expertise in negotiating with foreign companies is likely to be limited. Dependency theorists espouse three main points relevant to the relationship between the MNCs and host countries in the Third World: (1) the host countries receive too few benefits, (2) foreign investment causes distortions in the local economies, and (3) foreign investment distorts host countries' political processes.121 121Theodore H. Moran, "Multinational Corporations and Dependency: A Dialogue for Dependentistas and 74 First, the benefits of foreign investment are "poorly" distributed between the MNCs and the host country and economic surpluses that could otherwise be used to finance internal development are siphoned off to the home country. Second, MNCs create distortions within the local economy. MNCs skew the development of an indigeneous economic base by shutting out local entrepreneurs in the most dynamic sectors of the host country's economy. MNCs employ capital-intensive technologies which create less job opportunities than labor-intensive technologies. The activities of MNCs intensify uneven income distribution in the host country. In addition, they influence consumer tastes, altering the culture of the host country. Third, MNCs cause political distortions of the host country by co-opting local elites. They also use the influence of their home countries to bring pressure to keep host governments in order. MNCs are able to structure the international system to thwart the activities of economic nationalists. Leonard values Apter's article as an elaborate attempt to lay out the role of MNCs within the context of modernization stages of a host country.122 Apter begins with the MNC as an exceptionally dynamic political instrument, because economic factors induce social transformation of 121(cont'd) Non-Dependentistas," International Organization vol. 32, no. 1 (1978): 79. 122H. Jeffrey Leonard, "Multinational Corporations and Politics in Developing Countries," World Politics vol. 32 (1980): 462. 75 societies. (1) In contemporary life, modernization facilitates role transfers from metropole to periphery. (2) Roles generate institutional linkages. (3) In the more advanced stages of modernization one of the most important forms of role transfer and institution-building is the multinational corporation. (4) This stimulates other role and institutional networks, educational, commercial, fiscal, and technical. (5) Such stimulation reinforces host country-metropole networks.123 Then, Apter argues that the specific political impact of MNCs depends on the stage of development of a host country, and he presents a three-state unilinear model.124 The penetration of MNCs into host countries is characterized by "enclaving," "sectoring," and "integrating," corresponding with each level of modernization. At the primary stage of modernization where a large proportion of economic activity and social life remains in the traditional sector,125 MNCs create economic and political enclaves. Countries, at this stage, are only slightly integrated into world commercial markets for commodities or industrial products. Bangladesh is such an 123David E. Apter, "Charters, Cartels, and Multinationals--Some Colonial and Imperial Questions," in The Multinational Corporation and Social Change, ed. David E. Apter and Louis Wolf Goodman (New York: Praeger Publishers, 1976), p. 8. 12"Apter perceives development as a uniliniear process. Accordingly, the industrial process has evolved in several stages. The primary stage marked the beginning of the industrial revolution. The intermediate stage, represented by the outward shift of metropolitan trade into colonialism and imperialism, created a stable environment for increasingly internationalized capitalism. The multinational corporation is the third-stage phenomenon. Ibid., p. 6. 125"Traditional" is defined as zero industrialization. Traditional roles and networks include tribal systems or any other forms which predate industrial entry. Ibid., p. 20. 76 example. MNCs provide technology and expertise as well as efficient methods of infrastructure development. Apter maintains that MNCs do not enormously influence societies because "a large part of the population remains in the traditional sector, [and] it is relatively unaffected by the enclaves."126 This view is in sharp contrast to the dependency and world-system theorists who see enclaves in the periphery thoroughly integrated into networks of metropoles. MNCs transplant the modern sector into developing countries, which results in reinforcing the existing dualism in the.society. At the stage of intermediate modernization, to which most developing countries belong, the impact of MNCs is more pervasive. The effects of MNCs are greater than economic enclaves but these are not yet fully integrated into the networks of domestic productive roles. Consequently, they are involved in a few sectors of the economy. Apter sees the MNC as an instrument of underdevelopment, since it produces vast inequalities in income, wealth, life style, and power. The activities of MNCs skew the economic as well as political development of host countries. The only solution is more modernization, more industry, and more technological infrastructure.127 Countries in the tertiary stage of modernization are most vulnerable to MNCs. At the same time, they are able to tolerate their presence due to their higher level of 126Ibid., p. 22. 1 27Ibid., p. 23. 77 technological development and infrastructure growth. Through socialist revolution, they could escape from the current market system. However, the countries usually do not seek this solution, because "a high level of modernization also creates a large middle class which is dependent on the intermediate level roles supported by multinationals."128 The middle class rather than working class is the instrument of MNC integration, since most multinational enterprises are capital-intensive rather than labor-intensive, which produces few semi- and unskilled jobs.129 Both MNCs and governments desire stability of the political environment by having a stake in the control of societies for different reasons. The MNCs have to protect their investment, property and markets. In this stage, "there is an elaboration of the MNC so great that it is interleaved with the entire network of economic and social roles to an extent where it is universalized, virtually invisible, and often taken for granted as for example U.S. multinationals in Canada."130 To summarize Apter's argument, impact and integration of the MNCs are different, depending on the stage of development in a host country. The more the host country has developed, the greater the MNCs' impact. Applying the dependency and world-system theories to this scheme, essentially the same phenomenon exists: MNCs extract surpluses generated in all host countries with the level of 1 28Ibid., p. 25. 1 29Ibid. 130Ibid., p. 20. 78 exploitation differing only in degree. Since serious conflicts between MNCs and home as well as host countries exist, host countries, especially developing countries, have called for the establishment of guidelines for MNC activities. The instrument dealing with MNCs and the questions pertaining to them, in a comprehensive manner and on a global scale, is the proposed United Nations Code of Conduct of Transnational Corporations. Its objective is the creation of a comprehensive international framework covering all important issues related to MNCs in order to enhance the positive contribution from them to the countries where they operate.131 II. Comparison Between American-European Multinational Corporations and Japanese Multinational Corporations It is meaningful to compare American/European MNCs with Japanese MNCs in order to understand the characteristics of Japanese DFI, since Japanese MNCs are the main vehicle for carrying out DFI. Japan's pattern of overseas investment shows many distinctive characteristics when compared with those patterns of the United States and Europe. This contrast between the Japanese-type and American-type of DFI is already illustrated in Chapter 1. These different types of DFI are also reflected in the development of different types of multinationals: Japanese-type and American-type 131United Nations, Centre on Transnational Corporations, Transnational Corporations, op. cit., p. 15. 79 MNCs. "Japanese-type MNCs" refer to Japan's nine largest general trading companies, or sogo shosha. These sogo shosha ranked by sales during fiscal year 1984 are: Mitsubishi Corporation; Mitsui & Co., Ltd.; C. Itoh & Co., Ltd.; Marubeni Corporation; Sumitomo Corporation; Nisso-Iwai Co., Ltd.; Toyo Menka Kaisha, Ltd. (or Tomen); Nichimen Company, Limited; and Kanematsu-Gosho Ltd. This section deals with the characteristics of the Japanese-type of DFI in conjunction with the Japanese-type MNCs. G.B. Richardson's theory is introduced to explain joint ventures in overseas investment. As early as 1972, Tsurumi indicated the comparative profiles of U.S.- and Japan-based direct foreign investment. McMillan further elaborates Tsurumi's work and presents three foreign investment profiles: European, Japanese and American (see Table 2). 132 The following discussion is focused on the comparison between Japan- and U.S.-based overseas investment, since European and American investment patterns reveal less dissimilarities than the Japanese pattern. On the one hand, by size of firm, small- and medium-sized companies in Japan have been major players in overseas investment, accounting for about half the number of companies active in foreign investment in the early 1970's.133 On the other hand, for the same period American 132Charles J. McMillan, The Japanese Industrial System (New York: Walter de Gruyter, 1984), p. 259. 1330riginal data are from White Paper on Small Business by the Ministry of International Trade and Investment of Japan, Table 2: European, Japanese and U.S. Foreign Investment Profiles Europe-Based4 (1) Traditionally In former colonies by large firms (2) Large firms invest in European Continent and non-U.S. markets Japan-Based1 ( 1) 40 percent of investments by small, [and] medium size firms (2) Large R&D firms go abroad often with small subcontractors Stock of DFI5 1971 $57.2 bill ion $98 .8 bi'l 1 ion $4.4 bi11 ion $19.4 bill ion Ratio of FDI to Manufacturing Exports2 34% 30% Where Invested Global markets, shared between developed and developing countries Developing nations 75% in Asia Sectors 3 Pr i raary Manufacturi ng Tert iary 5.6 72 .6 21.8 32.0 31.8 36 . 2 Organization of Subsidiaries Many joint ventures Majority owner Joint venture Many minority dom i nant interests Partner if Any, of Subsidiaries Local partners and governments (1) Local partners and trading firms (2) Japanese firms in some industrial group U.S.-Based' (1) Large R S D intensive firms dominate overseas 1nvestments (2) Small to medium size f 1 rms may have subcontracting relations with foreign manufactures $82.3 billion $137.2 billion 177% Two-thirds in developed countries 34 . 5 42 . 7 22.8 Fully owned or majority control 1ed On its own or local partners Parents Control Over Subsidiary Loose Loose C1 ose Parent Subsidiary Relationship Local market oriented Local oriented Globally integrated (Source: McMillan, The Japanese Industrial System [New York: Walter de Gruyter, 1984], p. 259.) Original notes: 1 Adapted from Tsurumi (1976) 2 U.S. Department of Commerce (1980) 3 MITI, White Paper on International Trade 4 Dyas and Thanheiser (1976), Franco (1979), [and] Hymer and Rowthorne (1970) 5 U.N. Center on Transational [sic] Corporation oo 82 investment was for the most part carried out by giant multinationals.13" By destination, Japan has invested more in the developing countries than in developed countries, especially in Asia, while the United States has invested more in developed, industrialized countries. By type of organization, Japan has frequently used a joint venture arrangement, often with minority control. U.S. firms have preferred wholly-owned or majority controlled subsidiaries. In Japanese DFI, sogo shosha or large general trading companies are often included as indivisible partners of joint ventures in both manufacturing operations and natural resource development abroad. In the light manufacturing industry in developing countries, joint ventures exhibit the following capital ownership pattern: "The trading company involved owns from 25 to 30 percent; the affiliated Japanese manufacturers, about the same; and local interest, the balance."135 In the case of natural resource development, long-term purchase contracts are signed in order to guarantee a steady supply of imports to Japan. Japanese firms as partners in joint ventures are chosen within keiretsu, or the same "industrial group," to which the trading company belongs. Japanese DFI until the early 1970's is illustrated in Table 2, where it is contrasted with American and European DFI. Differences are notable not just in geographical 133(cont'd) and is cited by McMillan, op_. cit. , p. 260. 13"lbid. 13 50zawa, Multinational ism, op. cit., pp. 31-32. 83 concentration but in organizational strategy, technological sophistication, and managerial control. These differences partly stem from diverse histories of economic development of the individual countries. Major American enterprises became multinationals in the late 1950's, European firms in the mid 1960's, and finally, Japanese corporations in the 1970's. The chronological differences among these three reflect differences in their development stages in the world's postwar economy.136 Long established historical patterns are also reflected in different types of DFI. For example, the European linkages between home markets and overseas colonies are strongly evident as are the economic ties of Japan based in Southeast Asia.137 Multinationalism of Japanese companies has been confined mainly to the general trading companies, which are often referred to as "Japanese-type" multinationals.138 Spearheads of multinationalization among Japanese firms are sogo shosha, which are nothing but planning complexes of "collective intelligence."139 However, the rise of major Japanese banking and service firms, as well as mature manufacturers with global subsidiaries, 136Sadayuki Sato, "Japanese Multinational Enterprises: Potential and Limits," Japanese Economic Studies: A Journal  of Translations vol. 9, no. 1 (Fall, 1980): 69. 13'McMillan, op. cit. , p. 260. 138See Kiyoshi Yamazaki, Noritake Kobayashi, and Teruo Doi, "Toward Japanese-Type Multinational Corporations," Japanese  Economic Studies: A Journal of Translations vol. 5, no. 4 (Summer, 1977):42, and Toshikazu Nakase, "Some Characteristics of Japanese-Type Multinational Enterprises Today," Capital and Class no. 13 (1981): 71. 1390zawa, "Peculiarities of Japan's Multinationalism," op. cit., p. 418. 84 widened the spectrum of Japanese overseas investment. Sogo shosha, backed by bank capital, are regarded as huge conglomerate-type unions of commercial and industrial capital, many of which have grown from the trading companies of the former zaibatsu concerns.1"0 Kojima and Ozawa have summarized the features of overseas investment activities by sogo s hos ha: (1) a high propensity to form joint ventures; (2) a high incidence of minority ownership; (3) a very •active use of direct overseas loans; (4) a significant involvement in turnkey projects of plant exports and, more recently, leasing arrangements for these plant facilities; (5) an active promotion of transfers of labour-intensive, standardized (or "intermediate") technologies to developing countries; and (6) the provision of fairly comprehensive business infrastructures (e.g. financial, trading, warehousing, transport, and insurance services) for local business.1"1 These features permeate overseas ventures affiliated with sogo shosha. Inter-firm cooperation and affiliation cast a light on the understanding of the Japanese-type multinationals. The notions of market place and the behavior of the individual firm are important in any study of MNCs and DFI. The essence of the market is spontaneous coordination, while the essence of the firm is conscious planning. In addition, another concept necessary to explain coordination activities between 1*°Nakase, loc. cit. 141Kiyoshi Kojima and Terutomo Ozawa, Japan's General  Trading Companies; Merchants of Economic Development (Paris: Organisation for Economic Co-operation and Development, 1984), p. 80. A Japanese edition was published as Sogo  Shosha no Chosen: Keizai Kaihatsu no Machanto (The Challenge of Sogo Shosha: The Merchants of Economic Development) (Tokyo: Sangyo Noritsu Daigaku Shuppan-bu, 1984). 85 the individual firms which comprise a given industry is the dense network of coordination and affiliation in industry. G.B. Richardson made this triple distinction clear. The organization of industry has to adapt itself to the fact that activities may be complementary. Activities are complementary when they represent different phases of a process of production and require, in some way or another, coordinat ion.14 2 Now this co-ordination can be effected in three ways; by direction, by co-operation or through market transactions. Direction is employed when the activities are subject to a single control and fitted into one coherent plan. . . . Co-ordination is achieved through co-operation when two or more independent organisations agree to match their related plans in advance. The institutional counterparts to this form of co-ordination are the complex patterns of co-operation and affiliation which theoretical formulations too often tend to ignore. And, finally, co-ordination may come about spontaneously through market transactions, ... as an indirect consequence of successive interacting decisions taken in response to changing profit opportunities.14 3 Richardson's triple distinction is relevant to explicate the transfer of corporate resources across national boundaries. A wide range of international business activities are carried out not only by the intra-firm hierarchical decisions of a single multinational corporation but also by cooperation and affiliation of firms. Joint ventures, licensing, managerial and market contracts, turnkey projects, production sharing, and the Japanese-type of DFI 142G.B. Richardson, "The Organisation of Industry," The  Economic Journal; The Quarterly Journal of the Royal Economic Society vol. 82, no. 327 (September, 1972) : 889. ,lt3Ibid., p. 890. 86 are concrete forms of this cooperation/affiliation. "... co-operation is the increasingly popular mode of multinationalism, whereas internalisation is the mode less favoured by the host countries, notably in the Third World."144 However, the major concern of the host countries is the development of their own domestic industries with the help of foreign capital and technology, but not the development of multinationals in their own markets. Hence, the establishment of industry through the networks of cooperation and affiliation conforms to the interests of the host countries. Sogo shqsha's group-investment activities typify these cooperative, affiliated networks. Sogo shosha embarked in overseas investment in order to establish their wholly-owned subsidiaries for trading activities in the 1950's. Because of scarce domestic capital, no accumulation of firm managerial resources and a lack of overseas market information, Japanese DFI took place in the form of joint ventures in manufacturing and resource development projects until the early 1970's. This joint venture scheme still prevails, although mature Japanese manufacturers have become multinationals with an oligopolistic structure observed in American-type MNCs. These American-type manufacturing MNCs opt for intra-firm integration, which contrasts with the Japanese-type MNCs, sogo shosha, oriented to intra-group integration in order to carry out overseas investment.145 14 "Kojima and Ozawa, op_. cit. , p. 80. 145Ibid., pp. 80-84. 87 In an OECD study, new forms of investment are defined as: a) joint international business ventures in which foreign-held equity does not exceed 50 per cent; [and] b) various international contractual arrangements which involve at least an element of investment from the foreign firm's viewpoint but which may involve no equity participation by that firm whatsoever, as is frequently the case with licensing agreements, management, service and production-sharing contracts, and occasionally with sub-contracting and turnkey operations.1"6 Oman distinguishes new forms of investment from traditional forms of DFI, which refer to the investment in majority or wholly foreign-owned subsidiaries, as well as bank lending or other purely financial operations.1"7 Hence, Kojima and Ozawa advocate that the Richardsonian operation mode of cooperation and loose integration is the hew form of investment identified by an OECD study, and that the Richardsonian triple distinction of international resource allocation is a key concept in analyzing the Japanese-type multinationals.1"8 Differences between Japanese-type and American-type multinationals can be partly attributed to the differences in the stage of development, namely, Japanese MNCs are latecomers. Therefore, they have to squeeze into the world market, which has been established by the already existing foreign MNCs, in order to obtain any foothold. In addition, 146Charles Oman, New Forms of International Investment in  Developing Countries (Paris: Organisation for Economic Co-operation and Development, 1984), p. 12. 1"7Ibid. 148Kojima and Ozawa, ibid., p. 87. 88 differences are also ascribed to the characteristics of the Japanese'economy, i.e., high dependence on imported foods and raw materials, and keiretsu groups with many small firms (see Chapter 3). Some Japanese multinationals will converge with the American-type multinationals as Japan's direct investment increases, but some will remain Japanese. Further change will be inhibited unless the industrial and organizational structure of the Japanese economy changes, since it reflects overseas investment. Opposed to this argument, Sato proclaimed that "Just as capitalism in Japan with all its Japanese peculiarities is not Japanese-type capitalism but Japanese capitalism, Japanese multinational enterprises, now emerging, are not Japanese-type multinational enterprises but Japan-based multinational enterprises."1"9 Another negative contention as to whether the major Japanese trading companies emerge as a distinct form of MNCs was presented by Yoshino. He states that although sogo shosha have played and will continue to play significant and varied roles in the multinationalization of Japanese industries, the prospect of these companies themselves becoming MNCs with strong central system-wide coordination are limited.150 According to Yoshino, the primary role of sogo shosha is likely to be confined to facilitating multinational moves by others.151 149Sato, op_. cit., p. 82. 150M.Y. Yoshino, Japan's Multinational Enterprises (Cambridge, Mass.: Harvard University Press, 1976), p. 95. 151Ibid. 89 Yet, if the Japanese-type multinationals are identified as sogo shosha, then this type of multinational will persist since sogo shosha are indispensable to Japan's international trade and overseas investment. The objective of sogo shosha investment is the expansion of their trade volume and the strengthening of their commercial ties with manufacturers. Despite more focus on joint ventures as a distinct form, sogo shosha's largest investment, by far, abroad is in wholly-owned trading subsidiaries.152 Joint ventures of DFI in manufacturing and natural resource development often take on a "troika style," namely, a concerned Japanese company, a trading firm, and a local business,153 although the "departure-from-traders'" phenomenon has appeared.158 This refers to the changes that have taken place with the development of more sophisticated and highly differentiated consumer goods industries such as automotive and electronics, these manufacturers began to set up their own marketing firms and sales networks abroad, and became less dependent on the trading companies. Although less dependency by mature Japanese manufacturers is observed, sogo shosha remain as important participants and organizers in joint ventures. It should be stressed that sogo shosha and their own affiliated firms 152Thomas Cappiello, "The Changing Role of Japan's General Traders," Journal of Japanese Trade and Industry vol. 1, no. 4 (1982): 28. 153Hideki Yoshihara, "Research on Japan's General Trading Firms: An Overview," Japanese Economic Studies: A Journal of  Translations vol. 9, no. 3" (Spring, 1981 ): iW. 15 "Ko j ima and Ozawa, op_. cit., p. 13. 90 among the same keiretsu groups show some similarities to American-type multinational combines, although some of these individual firms themselves stand as American-type oligopolistic multinationals. Sometimes there is a fine line between American-type MNCs and Japanese-type MNCs. For example, Japanese manufacturing companies such as Nissan Motors and Matsushita Electric Industrial belong to American-type MNCs. Suffice it to say that sogo shosha play a vital role in Japanese economic activities, in spite of Misono's advocacy in his thesis of the decline of sogo shosha two decades ago.155 III. Japanese General Trading Companies: Sogo Shosha The Japanese general trading companies or sogo shosha have been examined either as engines of export-led growth or as functioning models of clan organizations by scholars.156 Today, the nine largest sogo shosha are considered Japanese-type MNCs based on their size and functions. Sogo shosha have played a major role in Japanese overseas investment, and remain key players in commerce. In order to clarify Japanese foreign investment, the historical background and the organizational structure and functions of sogo shosha should be scrutinized. 155See Hitoshi Misono's "Sogo Shosha wa Shayo de aru ka? (Are the General Trading Companies Declining Like the Setting Sun?) Ekonomisuto (Economist), 23 May 1961, pp. 6-20. This publication triggered years of active debate in the literature on sogo shosha in Japan. For a more recent similar prediction see Tsurumi's Sogoshosha. 156Tsurumi, op_. cit., p. 108. 91 Historical Background The origins of most sogo shosha date back to the Meiji period, when Japan resumed international trade under the leadership of the government after two centuries of isolation under the Tokugawa shogunate. Some of sogo shosha, for example Mitsui, originate in the Edo period as specialized businesses. Meiji government leaders and industrialists fully supported the establishment of Japanese trading companies in order to attain three goals. First, they intended to reduce shokan boeki , or international trade through Westerners' newly-opened merchant houses at port cities. Western merchants with Chinese assistants easily exploited the relatively naive and ignorant Japanese traders.157 The second aim was twofold: to develop external trade in order to supply raw materials, industrial equipment, technology, and other goods to Japan's infant industries and to acquire overseas outlets for manufactured products. Finally, the government and the business community strove to establish a system based on a division of labor in which Japanese manufacturers could concentrate on manufacturing while the trading companies undertook foreign trade in order to supply and market goods for the manufacturers.158 157Kozo Yamamura, "General Trading Companies in Japan: Their Origins and Growth," in Japanese Industrialization and Its  Social Consequences, ed. Hugh Patrick (Berkeley: University of California Press, 1976), p. 167. 158Alexander K. Young, The Sogo Shosha: Japan's  Multinational Trading Companies (Boulder, Colorado: Westview Press, 1979), pp. 24-25. 92 By the beginning of the 1880's one-third or 669 of the 2,404 newly incorporated companies in Japan were shosha, or traders.159 The largest was Mitsui & Co., established in 1874 to export coal and import cotton spinning machinery. In 1877 Suzuki Shoten was founded to import and distribute camphor and sugar, but met bankruptcy in 1927. Suzuki Shoten was one of the predecessors of today's Nissho-Iwai. The Mitsubishi Corporation (its name changed from the Mitsubishi Trading Company in 1971) was created in 1889 as the marketing arm of the Mitsubishi Group. Sogo shosha have developed along two paths.160 One originated from small, general trading companies dealing in diverse products and services. Mitsui, Mitsubishi, and to a lesser extent, Sumitomo belong to this category, and are former members of zai bat su. The other companies were transformed from specialized trading companies, or senmon shosha, into sogo shosha. For example, Nichimen and Gosho (one of Kanematsu-Gosho) were cotton dealers while Marubeni and C. Itoh dealt in dry goods and textile fabrics. Iwai (one of Nissho-Iwai) and now-defunct Ataka specialized in iron and steel dealing.161 After World War II, the Allied Occupation Forces dissolved the largest zai batsu, including Mitsui, 1 5 9Cappiello, op_. cit., p. 22. 160Yoshi Tsurumi, Sogoshosha; Engines of Export-Based Growth (Montreal: Institute for Research and Public Policy, 1980) , p. 15. 161See the detailed discussion of the development of individual companies in Kunio Yoshihara, Sogo Shosha: The  Vanguard of the Japanese Economy (Tokyo: Oxford University Press, 1982). 93 Mitsubishi, Sumitomo and Yasuda, based on the Antimonopoly Law of 1947. Consequently, Mitsui was broken into approximately 170 firms, and Mitsubishi into 139 firms.162 However, from the end of the 1940's through the 1950's, many specialized trading firms, including the fragments of Mitsui and Mitsubishi, recombined and diversified. In 1947, the Allied Forces permitted Japanese trading firms to resume international trade. Many specialized trading firms, or senmon shosha, then had to handle various products such as fertilizers, foods, machinery or industrial raw materials, and gradually transcended their specialized functions and became sogo shosha dealing in a wide range of goods. In addition, immediately after the war, Japan experienced an acute dollar shortage. Thus, the Japanese government carefully allocated important economic resources like foreign exchange, capital funds, and technology among targeted industries. By controlling the foreign exchange for designation of imports, the government supervised the amount as well as the kinds of imports. Since the government encouraged barter trade, trading firms had to develop internal abilities to handle such trade. Furthermore, in 1953 the government instituted the "trade linking policy." Under this policy, imports of specific lucrative goods and raw materials were tied to exports of specific heavy and 162Kyosuke Arita, Sogo Shosha: Mirai no Kozu (Sogo Shosha: Design for Future) (Tokyo: Nihon Keizai shinbun-sha, 1982), p. 50. 94 chemical manufacturing products. Import licences for lucrative consumer goods such as bananas and whiskey were given to the trading firms which had already achieved their export targets for ships and machine tools. In order to carry out barter trade and the necessary linking trade, a number of scattered firms merged and others gradually diversified the goods and services provided. Moreover, "the policy prevented any single-line product manufacturer from commencing his own exporting and importing activities."163 This dependence of manufacturing firms on trading firms as a predominant scheme was set in place in the immediate postwar era. From 1949 to 1963, the Japanese economy witnessed six severe business downturns. In response to the recurring booms and busts of the business cycles, weaker trading firms were eventually eliminated, which produced a concentration and diversification of the sogo shosha. The Mitsubishi trading company was dissolved in July 1947, but a liquidation company remained in order to take care of the assets and liabilities of the former Mitsubishi trading company. This liquidation company, which protected the company name and its three-diamond trade mark, set up a company named "Kowa Jitsugyo." The latter finally merged with three other trading companies in 1954 to form the present Mitsubishi Corporation. In the similar way, a merger took place among previous Mitsui Company's divisions, and in 163Tsurumi, Origins, op. cit., p. 21. 95 1959 the present Mitsui Company was revived, although several Mitsui offsprings chose not to merge. Moreover, among individual sogo shosha, concentration occurred. For instance, in 1967 Kanematsu absorbed Gosho, and became Kanematsu-Gosho. Nissho merged with Iwai in 1968 to form Nissho-Iwai.164 Until 1977 there had been ten very large sogo shosha. However, Ataka was absorbed into C. Itoh because Ataka's ill-fated oil refinery investment in Newfoundland, had driven the firm into bankruptcy.165 In sum, since the late 19th century, the trading companies have been fostered to connect a resource-poor, industrially latecomer, Japan, with the rest of the world. The companies promoted imports of necessary natural resources and exports of manufacured goods in order to sustain and develop the Japanese economy. In addition to the import of raw materials and energy resources, sogo shosha have been instrumental in introducing to Japan advanced Western technology as well as machinery and equipment. Thus, both developed and developing countries are interested in sogo shosha, but for different reasons. For example, the United States and Canada are primarily interested in the development of trading companies in order to expand exports.166 On the other hand, developing countries are 164For a detailed history of the merger of individual sogo shosha: See Yoshihara, Sogo Shosha: The Vanguard of the  Japanese Economy. 165Ibid., p. 22. 166For example, see Tsurumi's Sogoshosha, and Jack G. Kaikati, in "Japanese Trading Companies: Lessons in International Business for the U.S.?" Management International Review: Journal of International Business vol. 96 interested in learning about this Japanese business institution so they could establish similar instruments in order to develop their own economies.167  Organizational Structure and Functions of Sogo Shosha Sogo shosha are distinguished from American-type MNCs in terms of their organizational structure and functions. An examination of the external and internal organizational structures as well as the delineation of the three primary functions of sogo shosha are imperative in order to elucidate DFI activities. The three major functions of the nine top sogo shosha are transaction intermediation, information-gathering and quasi-banking. Combined, all three create an organizer/coordinator function, which plays a significant role in DFI activities. Concerning external organizational structure, sogo shosha are situated at the core of keiretsu along with their main banks (see Chapter 3). Trading companies, main banks and manufacuturers are loosely linked by stock ownership and informal corporation meetings within the same industrial groups. Tsurumi states that "this three-way link is another 'idiosyncracy' of Japan in addition to the convergence of government and business interest."168 166(cont'd) 23, no. 2 (1983): -65-71. 167For example, see Lawrence H. Wortzel and Heidi V. Wortzel, in "Using General Trading Companies to Market Manufactured Exports from LDCs and NICs," Management  International Review: Journal of International Business vol. 23, no. 2 (1983): 72-77. 168Yoshi Tsurumi, The Japanese Are Coming: A Multinational  Interaction of Firms and Politics (Cambridge, Mass.: Ballinger Publishing Co., 1976), p. 29. 97 As to the internal mechanism of sogo shosha, their organizational characteristics conform to the model of Japanese organizations. Characteristics of Japanese organizations present a striking contrast to those of American organizations (see Table 3). Sogo shosha adopt a lifetime employment system with a seniority wage system, which is practiced in large Japanese companies and government bureaus. College graduates are directly recruited into companies where they usually remain until retirement age at 55. Because of this lifetime employment situation, employees embrace a sense of loyalty to the firm and a strong commitment to their jobs. These employees follow non-specialized career paths, and face lifelong job rotation, which enables them to develop new job-related skills. No specific job description is written for any position. Among all employees, there is an implicit understanding of shared goals of and responsibility to the company. Promotions evolve slowly in response to changes in market conditions. Decision making is based on the ringi seido, where all workers involved in a given proposal participate in a collective decision-making process. A formal proposal is written and circulated from the bottom to the top of the organization. This consensus approach requires a longer time than the individual decision-making approach, but a more effective implementation can be expected once a consensus is 98 Table 3: The Contrast of Japanese and American Organizations1*9 Japanese Organizations vs. Lifetime employment Slow evaluation and promotion Non-specialized career paths Implicit control mechanisms Collective decision-making Collective responsibility Wholistic concern American Organizations Short-term employment Rapid evaluation and promotion Specialized career paths Explicit control mechanisms Individual decision-making Individual Responsibility Segmented concern reached. Therefore, a group or team of employees takes joint responsibility for a set of tasks. The Japanese organization forms inclusive relationships, and companies show wholistic concern for employees. This wholistic orientation stems from both historical experience and underlying social and cultural forces. The paternalistic ideas prevalent in Japanese society impel companies to look after workers with the expectation of their loyalty in return. These characteristics make it possible for sogo shosha to maintain a large pool of a highly educated, efficient, and company-centered labor force. Since workers rarely move to other companies, sogo shosha make a fair amount of investment in training employees and provide bonuses as well as fringe benefits. Sogo shosha are successful in molding their "company-men," who are loyal and share company goals. Although it takes time to reach a final decision, once it is met, the implementation of a project is quite effective and 169William G. Ouchi, Theory Z: How American Business Can  Meet the Japanese Challenge (Reading, Mass.: Addison-Wesley Publishing Co., 1981; Avon Books, 1982), pp. 48-49. 99 reliable due to the quality of labor power and the mutual consensus system. In contrast to American organizations, it takes a longer time to negotiate and to reach a final decision for overseas investment projects among Japanese participant companies because of ringi seido. However, once a contract is signed, its implementation is swiftly carried out. At the same time, the overseas staff members sent by the head office are capable in business affairs, since they are -trained by the company and share its goals. Therefore, the foregoing external and internal organizational features of sogo shosha are reflected in international trade and DFI activities. Turning to the functions of sogo shosha, commerce, information-collection and financial services form their central business activities. Above all, commerce is the center of business activities, consisting of domestic and foreign trade. Foreign trade includes import, export and offshore trade. The rapid economic growth of Japan in the postwar period was accompanied by high dependence on overseas resources. Japan became the world's leading importer of many key primary commodities. At the same time, export was greatly encouraged by the Japanese government to earn foreign currencies. Consequently, business opportunities for trade greatly expanded for sogo shosha. The salient features of sogo shosha are displayed in a wide variety of articles and a large volume of transactions. The commodities they deal with are diversified, often called 100 "goods ranging from instant noodles to missiles." These commodities are divided into six major product groups--metals, machinery, energy and chemicals, textiles, foodstuffs and general merchandise. In fiscal year 1984, the nine largest sogo shosha had sales of 92,892 billion yen, which accounted for 31.7 percent of Japan's gross national product.170 They handled 44.2 percent of Japan's exports and 68.0 percent of imports (see Table 4). Because sogo shosha trade with a diverse range and a volume of goods, they are very flexible when dealing in international markets. For instance, barter trade or counterpurchasing is possible, since they are able to accept manufactured goods, raw materials, or other commodities, as payment in lieu of hard currency.171 Thus, the sogo shosha's large internal market enables them effectively to barter goods and services among themselves. One of the reasons sogo shosha have survived for so long is that they have adopted a global strategy, by which they can provide customers with a vast array of trade services at less cost than would have been possible otherwise. The principal function of sogo shosha is trading transactions, obtaining title to goods to be traded from a supplier, then selling the goods to a buyer at a margin of profit. They also act as agents, arranging for a transaction 170In FY1984, Japan's GNP was ¥292,913 billion. (Source: International Monetary Fund, International Financial  Statistics Yearbook 1985, p. 383.) This was equivalent to U.S.$1,232.7 billion, based on the IMF source obtained by the JETRO in Vancouver. 17 1Cappiello, op_. cit., p. 20. Table 4: Sales of Japan's Nine Sogo Shosha (FY1984) (In ¥ B i11i on) Total In Japan Exports from Japan Imports into Japan Offshore Trade Mi tsubishi Mi tsui C. Itoh Marubeni Sum i tomo Ni ssho-Iwai Toyo Menka N i chi men Kanematsu-Gosho 16,427 14,900 14,077 13,564 13, 165 8, 552 4,503 3,953 3,751 5,833 5, 547 6, 179 4,561 6,454 2,843 1 ,637 1 ,052 1,714 2, 771 2,662 2,625 3,541 2,777 1 , 391 1 ,074 873 490 457 073 662 873 277 423 951 61 1 881 2,366 2,618 2,612 2,589 1 ,657 1 ,896 841 1,418 666 Total (A) Share (%) 92,892 100.0 35,818 38 .6 18,203 19.6 22,207 23.9 16,664 17.9 Japan's Trade, Total (B) Sogo Shosha's Share (A/B) 41,186 44.2% 32,657 68.0% (Source: Akira Nakayama, ed., Japan 1985: An International Comparison, 2nd ed. [Tokyo: Keizai Koho Center, 1985], p. 46; Original source: Japan Foreign Trade Council, Inc.) 102 on a commission basis. Since they must provide trade services to customers at competitive prices, sogo shosha receive margins or commissions, which are very small percentages of the value of their commercial transactions--running at between 2 and 3 percent.172 As a result, "Net profit for the nine largest sogo shosha in fiscal [year] 1981 was U.S.$500 million, or 0.1 % [!] of total transactions, unthinkably small for most Western businesses."17 3 Economies of scale apply to the volume of goods and services that sogo shosha deal in, particularly, as it results in the reduction of shipping costs. By guaranteeing return traffic to a freight firm, sogo shosha can obtain favorable freight costs from transportation firms, which often belong to the same keiretsu groups. Because of the slim margin of profit, sogo shosha must handle a huge amount of commodities in order to make a sufficient profit. This arrangement was effective when the Japanese industrial structure centered in the heavy and chemical industry, which required enormous quantities of imported raw materials and natural resources. However, the shift in the industrial structure of Japan from the heavy and chemical industry to high technology industry changes the transaction volume. Moreover, with the maturing of the Japanese economy, the tertiary, or service, sector was expanding at a much faster rate than the primary and 172Kojima and Ozawa, ojo. cit., p. 23. 17 3Cappiello, op_. cit., p. 25. 103 secondary sectors. Thus, despite commerce itself belonging to the tertiary sector, sogo shosha were unable to maintain their intermediary role unless they became directly involved. In addition, the "departure-from-traders" phenomenon called for the diminishing role of sogo shosha as export agents for Japanese manufacturers, since those producers started to establish their own overseas marketing f i rms. As a result, sogo shosha began to increase third-country or offshore trade, which does not involve imports into or exports from Japan. Whereas in 1970 offshore trade amounted to only 5.1 percent of the nine top sogo shosha' s total trading transactions,174 in 1984, this accounted for 17.9 percent. Nevertheless, as long as Japan continues to export manufactured goods fabricated from imported raw materials, sogo shosha will remain to play an important role in international trade. Third-country trade means significant gains for both sogo shosha and participating countries. Sogo shosha1s import and export activities are closely linked with the distribution of goods and services in Japan. Postwar rapid economic growth and the emergence of a mass consumer market in Japan promoted not only international but also domestic trade. Sogo shosha expanded their functions to include the development and distribution of consumer goods, marketing and consulting, and engineering. 17 "Cappiello, ojo. cit., p. 30. 104 The second distinguishing feature is that sogo shosha have established very extensive worldwide communication networks. With the developed information networks, sogo shosha collect not only economic but also political and social information. This includes economic and business information of immediate practical value as well as global political-legal data, demographic data, data on the socio-cultural environment (e.g., anti-business attitudes, consumer movements, anti-pollution sentiments, etc.), and trends that are likely to have an impact on the Japanese economy.17 5 Telex, telephone, facsimile, mail and the computer are used as means of communication. The hub of the trading companies' information service is the home office in Japan, which is the center of a telex network. Together, the nine largest sogo shosha maintain approximately 1,110 offices, linked by highly sophisticated telecommunication systems, in some 200 cities in the world, and these overseas offices are staffed by a total more than 20,000 highly trained specialists.176 Not only are they specialists, but also they are conscious of their duties as company-men so that their tasks are always in accord with the company's unwritten guidelines. Sogo shosha spend large sums of money on communications, whose communication expense ratios to sales expenditures stand at 9.6 percent for Mitsui and 1.9 percent 175Young, op_. cit., p. 62. 17 6Cappiello, op_. cit., p. 20. 105 for Tomen. Figures for the remainder of the seven companies range from 3 to 5 percent.177 These ratios roughly correspond to the average ratio of research and development to sales in technology-intensive manufacturing industries. Although sogo shosha generate little technological knowledge, they collect and disseminate information. Therefore, even the large manufacturing firms use these sogo shosha's informational and distributional networks nationally and internationally in order to cultivate uncertain markets and to supplement deficiencies in their own distributional networks. The knowledge of the extent of both domestic and international markets and the developed communication networks are the lifeblood of sogo shosha. Risk reduction and financial services are the final characteristics of sogo shosha, which can borrow money from the most advantageous sources today in the international capital market and can channel these funds to clients anywhere in the world. Sogo shosha's diverse and vast internal exchange of goods and services reduces foreign exchange risk by using various international currencies. "The larger the sogoshosha's volume of worldwide trade and the more diverse its handling of foreign currencies, the greater is its ability to absorb financial risks, including foreign exchange transaction risk for its clients."178 Sogo shosha funnel funds to small- or medium-sized manufacturers and sales firms. Sogo shosha in serving as 177Kojima and Ozawa, op_. cit., p. 25. 178Tsurumi, Sogoshos ha, op. cit., p. 14. 106 financial intermediaries between the banks and thousands of small clients play the role of risk buffers for large commercial banks. Sogo shosha frequently borrow short-term loans from banks, which funds then re-loaned or invested in affiliated firms and clients. "Indeed, 'relending' or 'reinvestment' by sogoshosha to small- or medium-sized clients constitutes anywhere between 30 to 40 percent of each sogoshosha' s total outstanding debt at any given time."179 Thus, on the balance sheet debt-equity ratios of these leading sogo shosha are high, and this makes sogo shosha vulnerable to slight declines in their business volumes and profits. The general trading companies earn only a very low rate of return on equity investment, ranging from 1.2 to 3.1 percent. The Mitsubishi Corporation is an exception for it enjoys a high rate of return (9.4 percent), mostly from its very lucrative investment in Brunei natural gas.180 In spite of a low return on investment, sogo shosha are engaged in investment projects, insofar as they generate commissions. The general trading companies are actively investing overseas, and their overseas equity and loans in 1978 accounted for from 20.2 percent (C. Itoh) to 42.6 percent (Tomen).181 The transaction intermediation, information collecting and financial service functions have developed the 179Ibid., p. 10. 180Kojima and Ozawa, op_. cit • , p. 24. 18'Ibid., p. 89. 107 organizer/coordinator role, which is crucial in overseas ventures. Sogo shosha organize and coordinate consortia of companies within their affiliated keiretsu group. These arrangements are especially suitable when overseas development ventures are enormous in scale and cost, since no single firm may be big enough to provide the various necessary functions, such as construction, installation of plants, equipment and machinery, financing and marketing. However, commercial activities are the major function of sogo shosha. The largest amount of overseas investment was made in establishing wholly-owned trading subsidiaries to improve trade efficiency. Investments were also made by sogo shosha in manufacturing and natural resource development projects in the form of joint ventures. As Yoshino has indicated, the sogo shosha1s foreign manufacturing activities are only an extension of their role as foreign trade agents182 aiming at the expansion of trade volume and the strengthening of their commercial ties with manufacturers.183 In addition, a principal purpose of investment in resource development is to secure the supply of raw materials for Japan through long-term purchasing contracts. Sogo shosha are forced to invest huge amounts in equity investment in nations that no longer allow raw exports.184 182Yoshino, op_. cit., p, 96. 18 3Cappiello, op_. cit. , p. 27. 184"Japanese Multinationals: Covering the World with Investment," Business Week, 16 July 1980, p.97. 108 DFI by sogo shosha will increase with the relative decline in the proportion of total Japanese DFI and this will have a great impact on the world economy. This view is supported by Lawrence G. Franko's statement that since Japanese firms "take more minority positions and joint ventures than U.S. firms, the real overseas assets controlled by Japanese companies are far larger than the raw numbers suggest."185 In conclusion, the contrast between American-type MNCs and Japanese-type MNCs, or simply between American MNCs and Japanese MNCs, is valid. These terms are more inclusive than dichotomizing derivations between manufacturing and trading multinationals. Indeed, American MNCs are often identified with manufacturing multinationals as having an oligopolistic structure. Traditionally, American MNCs have strong foundations in production with close relationships with their subsidiaries which are fully-owned or greatly controlled by the parent companies. Although American MNCs have retained these fundamental characteristics, during the process of the development of firms, they have shifted their focus from basically production to financial and commercial transactions, telecommunications, and services such as the operation of hotels and promotion of tourism. Thus, financial conglomerates have been formed over the years, and American MNCs are not always necessarily manufacturing multinationals. 185Ibid., p. 93. 109 At the same time, although Japanese-type MNCs refer to sogo shosha, if they are considered solely on the basis of trade, then this is a rather narrow interpretation. Their main activity is trade, but sogo shosha heavily invest in manufacturing and natural resource development projects, which contribute to a low, but crucial proportion of Japanese DFI. With a great number of projects by small equity shareholding, sogo shosha gain economic leverage, even though these are small amounts of investment. Moreover, Japanese-type MNCs are different from American MNCs in terms of cultural, social and organizational aspects. Lifetime employment, implicit control mechanisms, collective decision-making and responsibility and wholistic concern are an integral part of Japanese multinationals. In American MNCs, however, allegiances are not as strong. Short-term employment, individual decision-making and responsibility and segmented concern create a situation whereby individual gain is emphasized more than the prosperity of the company as a whole. Cultural, social and organizational factors play an important role in bestowing special features of Japanese MNCs. Furthermore, Japanese-type MNCs are distinct from American MNCs with regard to the organization of joint ventures, which are carried out by firms within the same keiretsu group. The organizational structure among Japanese companies mirrors Japanese DFI, which makes Japanese MNCs 1 10 distinctive from American. Therefore, the distinction between American MNCs and Japanese MNCs is valid, because these embrace not only inclusive economic activities but also cultural,.social and organizational factors, which give different characteristics. Second, although the absolute amount of sogo shosha investment has increased, its relative proportion to the overall Japanese DFI has declined, primarily because Japanese manufacturers and financiers have increased investment, as indicated by Table 1. However, sogo shosha investment will remain important, because of the crucial functions sogo shosha perform in both the host and home country. Sogo shosha will exert their influence by participating in various joint ventures and by implementing long-term purchasing contracts. Their key function is organizing in such turnkey projects; thus, sogo shosha investment to Japanese DFI is as mortar is to bricks. Consequently, despite the relative decline in sogo shosha investment, sogo shosha remain a significant vehicle in promoting Japanese DFI. 111 CHAPTER 3 CHARACTERISTICS OF THE JAPANESE ECONOMY Japan is one of the world's most industrialized countries and has the second largest economy, after the United States. In 1983, the Gross National Product (GNP) of Japan was U.S.$1,159 billion, which was the second largest in the free market economy after the United States, with a GNP of U.S.$3,305 billion.186 The Japanese economy is characterized by a high dependency on imports of natural resources and foodstuffs; by a dual economic structure and keiret su; by rapid economic growth in the postwar period followed by stable economic growth; and by cooperative relationships between the government and the business community, and industrial policy. It is necessary to look at the characteristics of the postwar Japanese economy in order to understand changes in foreign economic policy, which have influenced direct foreign investment. High dependency on imports of industrial raw materials, energy sources, and foodstuffs forced greater foreign investment in order to secure stable supplies. A distinct dual economic structure and the existence of keiretsu groups explain the economic and organizational mechanism in the Japanese economy, which is reflected in the investment formula, namely, joint ventures with sogo shosha as the organizer. Changes in Japan's industrial structure 186Akira Nakayama, ed., Japan 1985: An International  Comparison 2nd ed. (Tokyo: Keizai Koho Center, 1985), p. 11. 1 1 2 and industrial policy have resulted in changes in overseas investment policy and are the foci of investment sectors. This chapter is organized into four parts, each of which discusses one of the special features of the Japanese economy, which are, in turn, important in explaining its economic behavior and investment motives. Part I outlines the scarcity in natural resources and high dependency on overseas foodstuffs. Part II delineates the emergence of the dual economic structure after the Meiji Restoration; it clarifies reasons for its present persistence, and discusses the organizational relationship between large and small firms and keiretsu groups. Part III surveys Japanese economic growth since 1945. The postwar period can be divided into three distinctive eras: (1) Reconstruction {1945-1955), (2) Rapid economic growth (1956-1973), and (3) Slower economic growth (1973-present).187 Part IV examines cooperative government-business relationships and the industrial policy of Japan. Finally, in conclusion, the implications of the foregoing characteristics of the Japanese economy to Japanese DFI are summarized. 187Although the National Income Doubling Plan in 1960 was an epoch making event, the Japanese rapid economic growth period started in the late 1950's. Therefore, the writer has chosen to demarcate the categories by an economic, not a political event. As well, the rapid economic growth period lasted until 1973 of the first oil crisis; however, a milestone in the postwar international economic order was reached when Nixon announced the U.S. New Political and Economic Policies in 1971. 1 13 I. Scarcity in Natural Resources Japan is a small country with a large population. The area of Japan is only 378,000 square kilometers with a population of over 120 million in 1985, which makes Japan a densely populated country. Since Japan is scarce in natural resources, its economic growth and development have depended on imports of raw materials and energy sources. For example, in 1980, 99.8 percent of the crude oil and 79.1 percent of the coal used were imported.188 In 1981, 84.8 percent of all energy sources in Japan was dependent on overseas energy source production189, and the rest was supplied by indigenous energy resources, mainly coal and hydro-power. In terms of mineral resources commonly used in manufacturing, 100.0 percent of the phosphorus, 100.0 percent of the bauxite, 99.6 percent of the iron ore, 98.4 percent of the tin and 98.3 percent of the copper were imported in 1981. One hundred percent of both wool and cotton, and 68.3 percent of the lumber were also imported.190 In addition, even though a high productivity in agricultural products per hectare is attained, only 14.8 percent of the total land is arable in Japan. In 1981, the 188Yano Tsuneta Kinenkai, ed., Nippon Kokusei Zue: 1984 (A Charted Survey of Japan: 1984) (Tokyo: Kokusei-sha, 1984), p. 112. 18 9Ibid., p. 113. 190Ibid. 1 1 4 self-sufficiency ratio of food was 72 percent.131 Consequently, approximately 30 percent of Japan's food supply must be imported. Although 92 percent of the rice was domestically produced because the rice-price has been protected by governmental policy, other staple foods rely on overseas supply. In 1981, 100.0 percent of the corn, 95.2 percent of the soybeans and 90.0 percent of the wheat were imported.192 Thus, Japan is highly dependent on foreign supply, as evidenced by the high percentages of raw materials and foodstuffs imported. Certainly, vulnerability of supply must be understood in terms of both the physical and economic accessibility of imported natural and food resources. It is often pointed out that the quantitative measure of dependency on foreign trade of Japan is relatively small. For instance, trade to GNP ratios in Japan were 13.0 percent for exports and 12.4 percent for imports in 1982. In the same year, these figures in West Germany were 26.7 percent and 23.5 percent respectively. Those in Canada were 23.8 percent and 19.5 percent, and those in the United Kingdom, 20.5 percent and 21.0 percent.193 Therefore, in comparison with these figures for other industrialized countries, the Japanese trade to GNP ratio was relatively small. However, the qualitative nature of the dependence (on food, natural resources, and energy) makes international trade indispensable for Japan, and a threat to this trade is a threat to its economy and 191Ibid., p. 165. 192Ibid., p. 113. 193Ibid., p. 390. 1 1 5 social system. The imperative of economic security has prevailed throughout the nation's modern history, during the entire course of its industrialization.194 Thus, security in supply of raw materials, energy, and foods has always been Japan's priority. In order to earn foreign currencies, which are necessary to import these vital resources, the Japanese have ensured that its exports should be competitive in the world market. In fact, the lack of a domestic supply of essential natural resources and foodstuffs has resulted in an "export or die" psychology that has led Japan to expand exports at double the world rate.195 High dependency means that Japan is sensitive to changes in the supplies and prices of the necessary raw materials and foodstuffs. Japan has developed a resource procurement strategy that ensures a stable and secure inflow of resources. In the late 1960's, with an increased demand for raw materials and an improved balance of payments position, the Japanese began to foster overseas resource development projects.196 However, the first oil crisis of 1973 had a tremendous impact on the Japanese economy. The price of crude oil 194P. N. Nemetz, I. Vertinsky and P. Vertinsky, "Japan's Energy Strategy at the Crossroad," Pacific Affairs; An  International Review of Asia and the Pacific, vol. 57, no. 4 (Winter, 1984-85): 554. 195Peter Duus, The Rise of Modern Japan, (Boston: Houghton Mifflin Co., 1976), p. 257. 196M. Y. Yoshino, "Japanese Foreign Direct Investment," in The Japanese Economy in International Perspective, ed. Isaiah Frank (Baltimore: Johns Hopkins University"Press, 1975), p. 255. 116 increased four times within a few months, which drastically changed Japan's large-scale energy as well as economic policies. With regard to the national energy policy, the diversification of energy sources and geographical diversification of energy supplying countries have been emphasized. The first oil crisis was triggered by the Yom Kippur War in the fall of 1973. The Japanese perceived this as an "oil shock" and panicked when confronted with a cut in oil supply and a sharp increase in oil prices. Because of the extreme dependence on oil imports from the Middle East, the energy-intensive industrial structure of Japan was placed in an exceptionally vulnerable position. After World War II, Japan's rapid economic growth was sustained by the availability of virtually unlimited quantities of low-cost energy sources, mainly oil. This rapid economic growth was accompanied by a rapid shift in manufacturing from light industry to heavy and chemical industries, which also meant a shift to energy-intensive production. "The period between 1965 and 1970 was characterized by the continuation of rapid economic growth and intensification of energy use in the manufacturing sector."197 The existence of abundant, cheap oil made the price of Japanese exports competitive in world markets. Thus, the reduction of oil inflow to Japan was equivalent to cutting its life-line. Consequently, the Japanese were severely affected by the oil crisis. 197Nemetz, Vertinsky and Vertinsky, op., cit., p. 555. 1 1 7 The availability of an ample oil supply at low cost stemmed from two factors. First, in 1957 the United States government decided to limit the importation of foreign oil. As a result, in the 1950's the large amounts of crude oil which were produced in newly discovered oil fields of North Africa and the Persian Gulf caused a glut in other markets. Another factor regarding low crude oil prices was the increasing desire of the governments of Middle East oil producing countries for higher revenues.198 Governments such as Iran, Kuwait, and Saudi Arabia pressed the international oil companies to increase the annual output of crude oil in order to obtain additional national income. Concurrently, the new North African and lower Persian Gulf fields began to produce oil, which also came into the market. Hence, Japan was able to take maximum advantage of low crude oil prices, which gave Japanese manufacturers a competitive edge even in the tight U.S. market. The first oil crisis put a halt to an era of rapid economic growth in Japan. Subsequently, Japan entered an era of a more moderate economic growth. The oil crisis raised questions about securing the supply of energy sources for Japan. In addition, it highlighted Japan's vulnerable position because, previously, Japan depended excessively on a single commodity from one specific area. After the incident, Japan embarked on an intense process of energy 198Herbert I. Goodman, "Japan and the World Energy Problem," in Japan's Economy: Coping With Changing in the  International Environment, ed. Daniel I. Okimoto (Boulder, Colorado: Westview Press, 1982), p. 47. 1 18 conservation and oil substitution. In the midst of this process, Japan underwent the second oil crisis of 1979, when the oil supply was interrupted by the Iranian revolution. The second oil crisis further reinforced fuel substitution and conservation efforts in Japan although Japan remains heavily dependent on Middle Eastern oil. These two oil crises changed Japanese energy and economic policies as well as overseas investment activities. In order to reduce high dependence on Middle Eastern oil, new policies stressed geographical diversification of oil supplying countries, shifting from the Middle East region to other global suppliers, and fuel substitution, shifting from oil to other energy sources such as coal, LNG, and nuclear power. In accordance with these goals, the development of oil and natural gas production in Southeast Asia was encouraged, and the present government's goal is to increase by 1990 the share of oil from Asian countries to 30 percent. The exploitation of frontier coal and LNG resources in Canada and Australia also became significant to Japan. As a result, in 1982, Indonesia, Malaysia, and Brunei supplied 20.0 percent of Japan's crude oil imports, along with China's 4.8 percent. In the same year, the Middle East supply was 70.6 percent,199 dropping from more than 90 percent in 1973. However, despite all efforts to reduce the high dependency on Middle East crude oil, Middle East oil 199Yano Tsuneta Kinenkai, ed., op_. cit., p. 136. 119 remains a prerequisite for Japanese economic activity. The Japanese industrial structure had to be adjusted in response to the high energy prices, since Japan could no longer consume abundant, cheap oil after the oil crises. Consequently, the industrial structure has been shifting from a "pollution-prone" and energy-intensive industrial base to a "clean" and energy-conservation industrial structure. The Japanese economy is oriented toward high technology and knowledge-intensive industries, which also require less energy. With the increase in oil prices and an accompanying increase in other energy prices, some of the Japanese manufacturing industries have lost their international competitive edge. For example, aluminum smelting consumed much electricity. Therefore, much of its operation in Japan was closed down, or relocated overseas where ample, cheap energy like coal or hydro-electric power, was available. This was typified by the Asahan aluminum project in Indonesia. Thus, the Japanese industrial structure has been transforming into the energy-conservation type and/or the knowledge-intensive type. With regard to overseas investment, Japan has reevaluated the importance of overseas investment in natural resource development. Prior to the oil crisis of 1973, Japanese industrialists imported raw materials including fuels by purchasing them on the open market or via long-term 120 contractual arrangements.200 However, since the "oil shock" of 1973, Japan has further engaged in overseas natural resource development projects in order to secure a more stable supply. In the previous passage, it was stressed that the scarcity of natural resources in Japan has rendered it highly dependent on imports of raw materials and foodstuffs. Here, the so-called "resource constraints" problem is examined from a different point of view. According to Nishikawa, the resource201 constraints problem which Japan has been facing is derived neither from the physical limitation of world resources, nor from the strategy of "international oligopoly," nor from energy shortages in the United States. It is essentially derived from the changes in the international supply structure of the principal natural resources.2 0 2 It is true that the non-renewable natural resources have physical limits, but the "resources" are a dynamic concept, because it is possible to reevaluate the "reserves" 200M. Y. Yoshino, op. cit., p. 252. 201Resources can be broadly defined as material factors that are necessary for the production of goods and services to satisfy human.needs (i.e. raw materials, fuels, and environmental resources such as land, water, or climate). Or, those materials which are consumed by human beings in order to reproduce themselves (food resources); and also as non-material factors that organize this production and consumption process, such as human resources and cultural resources. Nishikawa's references to resources are both natural and environmental, although he says he was going to treat only the natural ones. 202Jun Nishikawa, "'Resource Constraints': A Problem of the Japanese Economy," in Growth and Resources, vol. 5: Problems  Related to Japan, ed. Shigeto Tsuru (Tokyo: International Economic Association, 1972), p. 305. 121 year by year according to new discoveries, technological changes, technological innovations, changes in costs, changes in demand and supply, or changes in market prices.203 Japan had had resource constraints problems, but the supply of resources had been so smoothly met that the Japanese almost forgot the existence of the problem until the oil crisis, which was considered a symbol for developing countries to seize control of their own resources for the first time in modern economic history. Moreover, according to Nishikawa, there is another aspect of resource constraints, which stems from domestic concerns. Large enterprises internalized the external economies and externalized their diseconomies. They have long benefited from the free or low cost use of environmental resources such as land, water, or air.204 Nevertheless, profit maximizing caused a high degree of pollution and damage to the environment. As a result, there were new constraints to the expansion of production and difficulty in obtaining new plant locations. Entrepreneurs looked abroad for locations where new resources would be more available. Nishikawa has summarized this, as follows. The "resource constraints" problem in [the] Japanese economy did not originate in any sense in an absolute resource depletion problem, but originated in the worsening of "North-South" issues, which in turn resulted in the change in supply structure of the world's raw materials. The problem also resulted from the spectacular development of 203Ibid., p. 304. 204Ibid., p. 308. 122 domestic heavy and chemical industries based on the doctrine of international division of labor, which has destroyed and deteriorated domestic resources.205 Then, he presents a solution. For the Japanese economy, the true solution of the "resource constraints" problem is to modify the actual road of economic growth, and proceed to construct an economic structure based on people's welfare, social justice, and harmony with nature.206 There may be some argument for Nishikawa's position but it is reality that without imports of necessary natural resources and foodstuffs, the Japanese are not even able to maintain their present economic activities nor their existing standards of living. Therefore, it is understandable that the Japanese aim at overseas direct foreign investment in order to secure a stable supply of raw materials. Japan has learned a lesson from its vulnerability to overdependence on a specific commodity in one or a few countries, not only from the first and second oil crises, but also from the 1973 U.S. embargo on soybean exports to Japan. Since Japan regarded the United States as a friendly country, the implementation without warning of the embargo shocked Japan, and led it to reevaluate its dependency on imported food. Since industrial output and exports expanded and its foreign exchange reserves rapidly accumulated, rationalized by the principle of comparative advantage, Japan was able to 205Ibid., p. 310. 206Ibid., p. 311. 123 purchase grains and foodstuffs from overseas. Relatively cheap imports of agricultural products are desirable, since the arable land in Japan is only about 15 percent of the total. Thus, domestic agriculture is disadvantaged compared to U.S. agriculture. With rising incomes, the postwar introduction of a Western way of life has led to a modification of Japanese dietary tastes from rice as a staple with vegetables and fish as protein to increasing use of wheat as a staple and other animal protein. Consequently, demand for grains, meat, dairy products and fruits has increased. Since Japan exported manufactured goods to the United States, Japan has bought American agricultural products at reasonable prices. Moreover, during the period of rapid economic growth, Japan experienced a shift in labor from agricultural to the expanding industrial sector in order to increase overall national economic productivity. Thus, the industrial sector had priority over the agricultural sector. As a result, the supply of foodstuffs from overseas was expanded and food self-sufficiency dropped, except for rice, which has been protected by the government. The 1973 U.S. soybean embargo promoted active Japanese investment in agriculture overseas. A "develop-and-import" arrangement, which was mostly under long-term loans and purchase contracts rather than through direct investment207 207Terutomo Ozawa, "Japan's Resource Dependency and Overseas Investment," Journal of World Trade Law vol. 11, no. 1 (January;February, 1977): 63-64. 124 was encouraged, and has been pushed by sogo shosha. Develop-and-import investments were made for the large-scale production of soybeans, corn and beef in Brazil. Asian countries such as Indonesia, Thailand and the Philippines hosted a similar type of investment. Investment in Australia related to ventures in beef production.208 The 1972-73 worldwide shortages of grains also revealed the vulnerability of the Japanese economy. Large Japanese firms represented by sogo shosha in order to secure a steady supply of grains at favorable prices began to participate more directly in the U.S. grain trade by investing in grain elevators and storage facilities in the United States.209 To conclude, since Japan has followed the resource-intensive pattern of economic development in spite of exiguous resource endowments of its own, it has become increasingly dependent on imported raw materials. As the two oil crises of 1973 and 1979 exposed, the Japanese economy is susceptible to any interruption in the supply of overseas raw materials and to sharp price rises. It was necessary to review Japan's past practice of importing raw materials and processing them at home for domestic consumption as well as for exports in the face of radical changes in the international situation. Japan has made efforts to restructure its industry to become less resource-dependent. 208Ibid., p. 67. 209Nobutoshi Akao, "Resources and Japan's Security," in Japan's Economic Security: Resources as a Factor in Foreign  Policy ed. Nobutoshi Akao (Hampshire, U.K.: Gower Publishing Co., 19830, p. 23. 1 25 However, Japan cannot escape the fact that industrial resources, energy sources and foodstuffs are not met, in quantity and quality, by indigenous supplies as long as Japan retains the present size of the economy. Thus, it is imperative for Japan to secure the supply of necessary resource materials. In this regard, trade and direct foreign investment go hand in hand as means to obtain crucial imports. As long as Japan is highly dependent on overseas resource materials, the "export or die" mentality will not change over night. This is hardly surprising in view of the recent history of Japan as a net creditor in capital which first occurred in 1968. By 1985 Japan had become one of the largest creditor nations in the world economy. II. The Dual Economic Structure and Keiretsu The Japanese economy presents a dual structure. Both between different industries and between the large and small firms within the same industries there exist differences in wage rates, productivity levels and technology levels (traditional versus modern). The dual industrial structure typifies the relationship between large firms and small firms based on the subcontracting system.210 Large firms 210Although the small firm is herein defined in opposition to the large firm, it is important to clarify the official definition of a small firm. The Basic Small Business law passed in 1963 defined small businesses as firms capitalized at or below 50 million yen and/or employing 300 persons or less (in the commerce and service industries, firms capitalized at or below 10 million yen and/or having 50 or 126 are sometimes members of keiretsu, or giant industrial groups. The conditions which allowed the dual structure of the economy to develop were formed in the Meiji period (1868-1912), when Japan, as a "latecomer," had to industrialize rapidly in order to catch up with the more advanced nations. The present market system as well as government policies, reinforce and enhance this dual structure rather than break it down. Moreover, the dual industrial structure is regarded as one of the contributors to the rapid economic growth of Japan after World War II, since this structure gave Japanese large manufacturers a competitive edge in international markets by utilizing the cost advantages of small subcontractors. The co-existence of traditional and modern sectors constitutes a "dualistic" character which is commonly found in the economic and social structure of developing countries. The concept "dualism" or a "dual economy" is a useful framework to analyze the economy in the third world, represented by Boeke in 1953, Geertz in 1963, and an International Labor Organization paper in 1972. In Japan, although the term "dual structure" was used before 1957, the 210(cont'd) fewer employees). The Basic Law of 1963 was revised in 1973, and the legal definition of small and medium-sized firms in Japan was changed as follows. Industrial category Capital Employees Manufacturing and 100 million yen 299 persons or Mining or less less Wholesaling 30 " 99 Retailing & services 10 4Before the revision of the Law, wholesaling was included under commerce and service industries. 127 dual structure of the Japanese economy was officially analyzed and recognized in 1957 economic white paper. Though there is dualism in industrialized countries, there is a distinction between the developed countries and developing countries in terms of the dualistic character of the economy. In the developed nations, the traditional and modern sectors are unified in a working mechanism of the national economy, that is, large modern enterprises and traditional small and medium enterprises are in a complementary relationship. The latter depend on the development of the former, while the large enterprises use cheap-labor products of small and medium enterprises and regard these as a buffer or cushion against business fluctuat ions. As far as the juxtaposition of the two sectors is concerned, Japan and the Southern West European countries have something in common. Today [the] economy is a mixture of two phases of economic development. On the one side, it contains a highly developed sector, which is characterised by the hired-labour system, large-scale operations, and modern, capital-using methods of production, and which yields to those working in it a reasonably high income per head. On the other side, it contains a large 'pre-industrial' or 'pre-capitalistic* sector, which is based predominantly on artisan or family labour, minutely small-scale operations and a minimum provision of capital, and which provides for those working in it only a very low income per head. This mixture sets [the] economy apart from the "advanced' economies where small-scale enterprise has survived only to a much more limited extent and where no such marked cleavage in income levels exists. . . . After some eighty years of industrial development along modern lines, the . . . economy has remained roughly a half-and-half system. This 1 28 system ... I shall call . . . the 'dual economy' . • • • 'Economic dualism' . . . exists within both agriculture and industry, as well as between agriculture and industry, even if the greater part of the poor group is to be found in agriculture.211 This quotation comes from Vera Lutz's book on Italian economic development cited by Broadbridge. In essence, it was appropriate for the Japanese economy in the 1950's and some of these aspects still remain, as illustrated in the beginning of this section.212 On the contrary, as Miyazawa has stated, in many of the developing nations, the traditional and modern sectors remain marked by a colonial economy and monoculture.213 In most cases, modern sectors are closely integrated into the economies of metropolitan countries, and they often present economic enclaves in the developing countries. Indeed, Yoichi Itagaki has advocated that the concept "dual economy" of the developing nations should be understood in terms of '"colonial social dualism' as a system,"214 because a dual 211Vera Lutz, Italy: A Study in Economic Development (London: 1962), pp. 3-4, cited by Seymour Broadbridge, Industrial Dualism in Japan: A Problem of Economic Growth  and Structural Change (London: Frank Cass & Co., 1966), pp. 5-6. Brackets are in original. 212For recent studies on the Japanese small- and medium-sized firms, see Douglas Anthony, "Japan," in The  Small Firm: An International Survey, ed. David J. Storey, (London & Canberra: Croom Helm; New York: St. Martin's Press, 1983), pp. 46-83, and Roy Rothwell and Walter Zegveld, Innovation and the Small and Medium Sized Firm:  Their Role in Employment and in Economic Change (London: Frances Pinter [publishers], 1982). 213Kenichi Miyazawa, "The Dual Structure of Japanese Economy and Its Growth Pattern," The Developing Economies, vol. 2, no. 2 (1964): 147. 21"Yoichi Itagaki, "A Review of the Concept of the 'Dual Economy,'" The Developing Economies, vol. 6, no. 2 (1968): 1 43. 1 29 economy is a result of the historical result of colonialism. Therefore, the nature and direction of economic development can adequately be explained "in the context of economic nationalism in developing countries."215 Thus, it may be suitable to use the term "dualistic state" or "dualism". However, Japanese development of both the traditional and modern sectors has been integrated into the Japanese economy as a whole; therefore, a different term "dual structure" applies to the Japanese case. While Japan is one of the most developed nations, it still retains the dual structure of the economy. From the beginning of of Japanese industrialization, small firms played a significant role in terms of enterprise management and ownership, and the locus of employment for a substantial, minority of all industrial workers.216 In other words, the small firm is an important organizational form of the modernizing society of Japan.217 In fact, in 1981 75.3 percent of all manufacturing establishments, employing fewer than ten workers, were so constituted.218 In Japan's manufacturing sector, the relationship between large firms and small firms is often based on a subcontracting system. Medium and small firms or subcontractors supply many kinds of parts, components, and related goods under continuous contracts to large 215Ibid. 216John C. Pelzel, "Factory Life in Japan and China Today," in Japan: A Comparative View ed. Albert M. Craig (Princeton, New Jersey: Princeton University Press, 1979),, p. 379. 217Ibid., p. 380. 218Yano Tsuneta Kinenkai, ed. , op_. cit., p. 218. 130 manufacturers in the automobile, electrical appliances, and other related industries. These firms produce highly specialized parts and components to make their final products adaptable to the diversified needs of Japanese consumers. Thus, small firms have been important in Japan's industrial organization and have been favored by rapid economic growth.219 The dual structure of the economy presents not only the coexistence of large and small manufacturers but also the coexistence of large and small retailers. The dual structure also refers to productivity and wage differentials among industries. For instance, in 1981, the ratio of comparative productivity of agriculture to manufacturing was 24.0 percent.220 Despite this, overall farm incomes are higher than urban because of non-agricultural income and government subsidies. The interpretation of a dual structure by Miyohei Shinohara is widely accepted among scholars in Japan. First, Shinohara indicated there is a disparity between the industrial and agricultural sectors, and that there is a discrepancy within the industrial sector and the service sector in wage levels and productivity which are associated with the size of an enterprise. Moreover, he pointed out that the proportion of the working population engaged in the 219Ken-ichi Imai, "Japan's Changing Industrial Structure and United States-Japan Industrial Relations," in Policy and  Trade Issues of the Japanese Economy: American and Japanese  Perspectives, ed. Kozo Yamamura (Seattle: University of Washington Press, 1982), p. 64. 2 2 0Yano Tsuneta Kinenkai, ed., op_. cit., p. 168. 131 small and medium firms is remarkably higher than in those of other advanced countries. Also, he asserted that the labor market, the capital market, and the product market sustain the present dual structure of the economy. In addition to Shinohara, other Japanese scholars have addressed this problem. Shigeru Ishikawa demonstrated that wage differentials by the size of firm, as observed in Japan, existed in the developing countries in the 1960's. Hence, he concluded that the dual structure was a common phenomenon, in which the developing countries as latecomers follow a similar capitalistic modernization course in order to industrialize.221 Furthermore, Kazushi Ohkawa applied the perspective of the dual structure to analyze historical processes. According to him, during the modernization process, the economy of a nation-state develops by combining indigenous traditional factors and universally common modern factors, and he termed this "dualistic development." Based on his view, Japanese historical experience has been establishing a long-lasting and typical record of "dualistic development."2 2 2 While most economists believe the labor market is responsible for sustaining the dualistic structure, Shinohara disagrees. Since his explanation is comprehensive 221Shigeru Ishikawa, "Ajia-shokoku no Daikigyo to Shokigyo," (Large Firms and Small Firms of Asian Countries) The  Economic Review vol. 13, no. 2 (1962): 137-156. 222Kazushi Ohkawa, Kindai Ninon no Keizai Hatten. (Economic Development of Modern Japan) ed. Kazushi Ohkawa and Ryoshin Minami (Tokyo: Keizai Shinpo-sha, 1975). 1 32 enough to cover the various phases of the dual structure of the economy and because he approached the problem from the labor market, the capital market, and the product market, views herein will reflect Shinohara's thesis. According to Broadbridge, the following five elements comprise the historical origins of industrial dualism in Japan: 1. Meiji and subsequent government policies and the rise of the zai batsu; 2. The structure of the capital and money markets, and Japanese saving habits; 3. The dependence on imported technology and techniques; 4. Japanese consumption patterns; and 5. The structure of the labor market and the pattern of agricultural development.223 All these factors have interacted and helped to determine the pattern of development in capital, technology, agriculture and labor, development which has jointly produced the industrial structure which causes so much concern in Japan today.224 Since Japan was under "western" pressure, rapid development was essential. "This urgency necessitated economic policies which . . . made almost inevitable the creation of a dual industrial structure,"225 which was nothing other than a product of international 2 2 3Broadbridge, op. cit., p. 10. This is a slightly modified version of five factors indicated by Broadbridge. Japanese saving habits are included in the market structure discussion rather than with Japanese consumption patterns. 224Ibid., p. 23. 225Ibid., p. 9. 133 power politics. In the following passage, the aforesaid factors are examined in order. 1. Meiji and subsequent government policies and the rise of  the zai bat su Japan was forced to open its doors to the West in the 1850's and modern Japan emerged with the Meiji Restoration in 1868 when the Emperor was returned to titular power. The new government abolished feudal institutions and introduced western technology and civilization in order to modernize. The Meiji leaders decided to resist Western colonization, which was observed in China after the Opium War of 1840. At the same time, they had to make efforts to get rid of the "unequal treaties"226 signed with foreign powers at the end of the Tokugawa period. Therefore, the government adopted two slogans: one was fukoku-kyohei which means "a rich country, a strong army." The other was s hokus an-kogyo which means "the establishment of (modern) industry, the development of it." Since the Meiji government's major concern was the international political standing of Japan, economic development was a principal means to accomplish political aims. Improvements in individual standards of living and consumption patterns were given low priorities. Therefore, from the beginning the Japanese industrial structure was made up of two different productive systems. The first comprised the strategic industries such as 226Japan was able to abolish extraterritoriality in 1894 and to acquire the right of tariff autonomy in 1911. 134 shipbuilding, chemicals, and armaments. These have developed through government sponsorship and subsidy by using the most advanced industrial technology. The second was the household-handicraft industry which produced goods for home consumption. "The 'putting out' system is widely used in this type of production, even in the largest cities, and exists side by side with large-scale factories."227 To promote the industrial performance, the government stressed the investment in and development of the infrastructure. Moreover, the government stepped in to help development, not only of the strategic industries which are predominantly heavy, but also of light industry such as the textile industry. These industries were developed by state-sponsored enterprises, which were sold in the early 1880's to private interests due to the government's financial difficulties. Government sales of plants, government contracts, and government subsidies all resulted in the concentration of economic power in the hands of a small group of families. In other words, economic decision-making power came to be dominated by a few family-owned industrial companies. This was the zaibatsu or "financial combines," with the majority being founded by those political merchants who had close financial and political links with factions in the governmental bureacracy. By the 1890's, during the era of 227Thomas 0. Wilkinson, The Urbanization of Japanese Labor,  1868-1955 (Amherst, Mass.: University of Massachusetts Press, 1965), p. 199. 135 the Japanese industrial revolution, large and powerful zai batsu, that is, the Mitsubishi, the Mitsui, and the Sumitomo, began to form conglomerates centering on the establishment of a zai bat su bank, including trading companies, manufacturing firms, and service industries, such as insurance and shipping companies. Smaller zai batsu tended either to specialize in banking such as the Yasuda interests, or to dominate a particular industry, such as Furukawa in copper mining.228 The zai bat su controlled transportation and heavy industries, and blossomed after World War I. 2. The structure of the capital and money markets, and  Japanese saving habits Japan has achieved a remarkable success in mobilizing domestic capital in lieu of foreign capital in order to modernize the country. It thus prevented the permeation and domination of foreign finance capital. The government took steps to mobilize capital for industry, through which surpluses from agriculture and consumer taxes were channelled into the new sectors. Joint-stock banks became sources of funds for industrial development and the government established the Bank of Japan, the Yokohama Specie Bank, the Hypothec Bank of Japan, the Post Office Savings Bank, and the Industrial Bank of Japan in order to promote economic growth. In addition, as the zai bat su controlled the major commercial banks, they influenced the 2 2 8Duus, op_. cit. , p. 144. 1 36 special financial institutions. Thus, the state played an important role in mobilizing the sources of finance as well as in establishing the institutions through which capital flowed.229 In addition to government taxes, individual savings also contributed to the creation of the domestic capital market. Individual savings by the lower income classes were substantial mostly due to a lack of social security, which, in turn, influenced the traditional consumption habits. Myriads of small savings were collected by Japanese banks which provided a large variety of time-deposit accounts. These savings were funneled into big firms through the government and the banks. As one of the policy goals, the government was to build-up the strategic industries which required large amounts of capital. To meet this end, the government set up financial institutions. The demand for capital was great but the supply was insufficient. In this situation, the government and big enterprises took the lion's share, for the capital market and the banking system was in favor of them. 3. The dependence on imported technology and techniques By the time Japan made a showing in the modern world, Western states already had established a considerable degree of unity in western technology and economic interdependence. Hence, Japan as a follower-nation had to catch up and at the 2 2 9Broadbr idge, op_. cit., p. 14. 1 37 same time maintain its independence. The government took initiatives to introduce new technologies, new ideas, and new techniques of management. Foreign technicians were employed in government-sponsored enterprises. "Given the strategic necessity and the determination to introduce the industries of the West, the appropriate technology, all of which had to be imported, demanded large-scale operation which, in turn, called for financial resources to be concentrated."230 As a result, close relationships between the government, the banks, and a few industrial giants developed. Once established, the firms which had government contracts and subsidies as well as having bought state-pioneered enterprises, were placed in advantageous positions. In heavy industry, where technological requirements, modern facilities, and considerable capital made it extremely difficult for newcomers to make an entry into this field, the growing zai batsu could mobilize the resources necessary to succeed. 4. Japanese consumption and factor endowment patterns The persistence of traditional patterns of consumption made it possible for the indigenous industries to survive in many spheres. For some time after the Meiji Restoration, the introduction of western products and techniques was largely confined to the areas which were not competitive with indigenous consumer industries.231 230Ibid., p. 17. 231Ibid., p. 19. 138 There were other elements in the survival of small-scale industry, such as the pattern of factor endowment. Traditional and modern methods were mixed in the new industries, for instance, bicycle and electric-bulb manufacturing. Labor-intensive methods and capital-intensive methods were successfully combined in different branches of the same industry. Complementary relationships between large and small units in the industries developed early on.232  5. The structure of the labor market and the pattern of  agricultural development As the government removed feudal restrictions upon the free movement of people and abolished the caste system, people gained the right to choose a place to live and to select an occupation. With the introduction of a modern educational system, all government offices were then opened to talent, especially, university graduates, regardless of previous social status. These institutional changes greatly influenced the labor market. Since neither emigration nor immigration were significant considerations in Japan, the labor market can be explained by domestic demographic change. Although the population explosion of the Meiji period increased the labor force, the capital intensive parts of the modern sector could absorb only a minor portion. The rest of the increased labor force was absorbed either by agriculture or by small-scale industrial plants. 232Ibid., pp. 19-20. 139 Indeed, the agricultural population remained stable in spite of industrialization. For instance, the number of Japanese agricultural households was 5.6 million in 1872 and oscillated between 5.4 and 5.7 million until 1946.233 Even in 1980 the working force in agriculture of Japan was 9.8 percent of the total working force while this figure of the United Kingdom and the United States was, respectively, 2.7 percent and 3.7 percent. Compared with these advanced countries, the Japanese figure is high. Thus, until 1946, the labor market in Japan was dominated by a reservoir of labor pressing upon non-agricultural employment opportunities. Increased agricultural productivity made it possible to maintain the growing population and to providessurpluses for industrial growth. The agricultural sector contained a great deal of disguised unemployment. This meant that there were reserves of labor available for periods of rapid industrial advance in the labor market. Therefore, large companies which could offer better wages and working conditions were able to choose employees. Usually they desired a young labor force which demonstrated a great adaptability toward the rapid technological change. In short, the agriculture sector played a critical role in Japan's modernization. This sector was the reservoir of a labor force which easily turned into an industrial labor force, and also provided capital surpluses which were used 2 3 3Wilkinson, op_. cit., p. 57. 1 40 for establishing modern industries. Therefore, strategic industries, especially, were developed at the expense of agriculture and consumer interests. These agricultural surpluses were collected by the government in the form of tax. Since the government needed a constant revenue from taxation, it undertook policies of agrarian reform and removed feudal restrictions upon the right to sell land. The basis of agricultural taxation was shifted from harvest-sharing to a direct taxation of the total value of the land. "For instance, in 1885-89, 69.4 percent of the government's revenue still came from land taxes, while favored industrial areas escaped the burden of taxation almost completely."230 Therefore, much of the agricultural surplus was directed into the Exchequer by taxation, and financed the infrastructure, the new army and navy, and government industrial undertakings. Moreover, because of the introduction of the new tax system brought on by the agrarian reform, the small, individual farmer had difficulty paying the new tax. In response, large portions of agricultural land were sold and came into the hands of landlords who kept the former owners as tenants. These commercial landlords received another part of the agricultural surplus in the form of rent, and they made investments through which they acquired more land or shares in businesses outside agriculture.235 The landlords 23"Ibid., p. 42. 235G.C. Allen, The Japanese Economy (London: Weidenfeld & Nicolson, 1981), p. 2. 141 were little concerned with agricultural productivity. This demonstrated a sharp contrast to the agrarian changes which had taken place in eighteenth-century England, where landlords tried to increase agricultural productivity, and hence profits, by using improved techniques.236 As a result, agricultural surpluses were not used per se to enhance agricultural productivity in Japan. Instead, the agricultural sector lagged behind in the modernization process until the occupation's land reform program took place and electric machinery and chemical fertilizer were introduced after World War II. In sum, these five major factors overlapped and were all conditioned by one another. Moreover, they were overlain by the policies of the Japanese government from the Meiji Restoration of 1868. Because of western pressure, rapid development was crucial and this required a strong central governmental initiative. In this sense, the present dual structure of the economy germinated in the government policies of this period. This dual structure is depicted by Tables 5 to 8. Table 5 shows the number of establishments in the manufacturing industry, which reached a peak in 1978. The number of petty establishments with less than ten employees increased, absolutely and relatively, during the period of 1960 to 1978. In 1960, there were 345,673 establishments with less than ten employees, comprising 71.1 percent of the total 2 3 6Wilkinson, op_. cit., p. 55. 1 42 establishments. This figure increased absolutely and relatively, and in 1978 there were 569,866 establishments, comprising 76.6 percent of the total. In 1980, the total number of establishments declined to 734,623. This decrease resulted largely from a decline in the number of establishments in the lowest category—those having one to nine employees and which comprised 76.0 percent of the total. According to the official definition of small firms, most of the Japanese manufacturing establishments continue to fall into this category. Table 6 indicates the number of persons engaged in the manufacturing industry. There are three strata with specific concentrations of employees. From 1960 to 1980, approximately 30 percent of employees worked in establishments with less than 20 employees. The second concentration of employees is in the establishments which have more than 49 employees and less than 200, and roughly 20 percent of employees belong in this bracket. Finally, in 1965, 16.6 percent of workers were employed in large firms with 1,000 emloyees or more. Although this figure dropped a little, this trend continued, and in 1980 13.4 percent of the labor force was occupied in large firms. It is noteworthy that the ratio of the large firms with 1,000 employees or more, increased greatly from 5.2 percent in 1960 to 16.6 percent in 1965. This phenomenon was in accordance with the rapid economic growth experienced during this period. Based on the official definition, in 1960 79.1 Table 5: Number of Establishments in Manufacturing Industry in Japan Size, by employees 1960 1965 1970 1975 1978 1980 1-9 345,673 71 . , 1 404,971 72 .6 479,376 73 .4 560,688 76 .2 569,866 76. . 6 558,456 76. .0 10-19 71,079 14 . .6 74,451 13 .3 88,761 13 .6 90,764 12 . 3 83,689 1 1 . , 2 83,038 1 1 , . 3 .20-29 26,329 5. .4 26,231 4 .7 26,334 4 .0 28,178 3 .8 36,629 4 . ,9 39,261 5 , , 3 30-49 20,242 4. .2 22,956 4 . 1 23,861 3 .7 23,672 3 . 2 22,265 3 . .0 21,686 3 . .0 50-99 13.311 2. 7 16,348 2. .9 18,812 2. .9 18,292 2 . 5 18,164 2 . . 4 18,157 2 . . 5 100-199 5,822 1 . 2 7 , 343 1 . . 3 8,715 1 . . 3 8,055 1 . . 1 7,905 1 . . 1 8, 131 1 . . 1 200-299 1 , 766 0. 4 2,223 0. .4 2,742 0. .4 2 , 473 0. . 3 2,326 0. 3 2,383 0. . 3 300-499 1 ,329 0. 3 1 , 703 0. .3 1 ,987 0. .3 1,819 0. . 2 1 ,694 0. 2 1,714 0. 2 500-999 881 0. 2 1 , 150 0. .2 1 ,449 0. .2 1 , 257 0. . 2 1 , 126 0. 2 1 , 150 0. 2 1000 - 618 0. 1 730 0. . 1 894 0. . 1 772 0. . 1 673 0. 1 647 0. 1 Total 487,050 100. 0 558,106 100. 0 652,931 100. 0 735,970 100. .0 744,337 100. 0 734,623 100. 0 (Sources: Japan, Office of the Prime Minister, Bureau of Statistics, Japan Statistical Yearbook, various years, compiled by the writer.) -IN Table 6 Number of Persons Enganged in Manufacturing (In Thousand) Industry in Japan Size, by employees 1960 1965 1970 1975 1978 1980 1-9 1 , 194 16, .6 1 ,599 16 . . 1 1 ,910 16. .4 2, 153 19 . . 1 2, 178 20, ,0 2, 143 19 .6 10-19 960 13 .4 1 ,050 10. .6 1 ,262 10. .8 1 ,282 1 1 . .3 1 . 152 10, 6 1 , 145 10 .5 20-29 626 8 .7 638 6 . .4 647 5. .5 690 6 . . 1 885 8 , . 1 957 8 .8 30-49 762 10. .6 872 8 . a 913 7 . 8 905 8 .0 856 7 , .9 839 7 . 7 50-99 907 12 .6 1 , 120 1 1 . . 3 1 ,291 1 1 . . 1 1 , 252 1 1 .0 1 ,245 1 1 .4 1 , 248 1 1 . 4 100-199 800 1 1 . 2 1,013 10. .2 1 , 194 10. .2 1 , 106 9 .8 1 ,085 10, .0 1,119 10 . 2 200-299 431 6 .0 539 5. .4 665 5. .7 598 5 . 3 566 5 , .2 578 5 . 3 300-499 507 7 . 1 651 6 . .6 760 6 . .5 696 6. .2 650 6 , .0 656 6 .0 500-999 608 8 . 5 795 8 . .0 991 8 . .5 853 7 . .6 762 7 , .0 781 7 . 1 1000 - 374 5 . 2 1 ,645 16 . .6 2,047 17 . . 5 1 , 761 15 . .6 1 , 152 13 , .9 1 ,465 13, .4 Total 7, 169 100 .0 9,922 100. .0 11,680 100. ,0 1 1 ,296 100. .0 10,890 100, ,0 10,932 100, .0 (Sources: Japan, Office of the Prime Minister, Bureau of Statistics, Japan Statistical Yearbook, various years, compiled by the writer.) 4>-145 Table 7: Average Wages in Manufacturing Industry in Japan (In Thousand Yen) Size, by Average annual wage employees per person 1 965 1970 1 975 1 978 1980 1-9 180 374 854 1 , 1 37 1 ,317 10-19 313 622 1 ,366 1 ,781 2,042 20-29 345 688 1 ,491 1 ,821 2,078 30-49 356 683 1 ,499 1 ,944 2,238 50-99 369 688 1 ,561 2,028 2,311 100-199 391 732 1 ,739 2,273 2,548 200-299 419 794 1 ,924 2,509 2,829 300-499 449 848 2,077 . 2,754 3,075 500-999 471 903 2, 1 62 2,872 3,307 1000 - 561 1 ,066 2,510 3,361 3,824 Average 380 734 1 ,657 2, 1 37 2,433 (Source: Japan, Office of the Prime Minister, Bureau of Statistics, Japan Statistical Yearbook, various years, compiled by the writer.) 146 Table 8: Average Value-Added in Manufacturing Industry in Japan (In Thousand Yen) Size, by Average value-added employees per person 1965 1970 1 975 1978 1980 1-9* 479 1,012 1 ,963 2,679 3, 178 10-19 689 1 ,455 2,835 3,852 4,662 20-29 735 1 ,622 3,031 4, 1 09 4,995 30-49 775 1 ,624 3, 136 4,284 5, 180 50-99 848 1 ,791 3,368 4,675 5,531 100-199 976 2,011 3,991 5,662 6,780 200-299 1 ,068 2,345 4,430 6,401 7,988 300-499 1 , 1 54 2,523 5,042 7, 176 9,284 500-999 1 ,357 2,875 5,306 7,874 10,334 1000 - 1 ,633 3,533 5,815 8,822 11,402 Average 974 2, 104 3,749 5,249 6,517 * Gross value-added=value of production (value of shipments, etc.) - value of domestic excise tax included in value of shipments - costs of raw materials used. (Source: Japan, Office of the Prime Minister, Bureau of Statistics, Japan Statistical Yearbook, various years, compiled by the writer.) 1 47 percent of the working population in the manufacturing industry were employed by small businesses. In 1980, this figure decreased to 73.5 percent, but it is clear that small establishments retained a large share of the work force. Table 7 reveals the unmistakable wage differentials related to the size of enterprise between 1965 and 1980. Especially evident are the sharp cleavages between the firms with nine or less employees and the firms with ten to 19 employees. In 1965, the wage differential between the firm with nine or less employees and the firm with 1,000 or more employees was 3.1 times. In 1980, the wage differential between them did not diminish drastically and was still large at 2.9 times. Table 8 shows the average value-added per person in manufacturing, and this table also reveals the same trends shown on Table 7. There are differentials between 1965 to 1980 in productivity according to the size of enterprise. Large gaps are evident between the firm with one to nine employees and the firm with ten to 19 employees. In addition, the productivity differential between the petty firms with nine or less employees and the large firms with 1,000 or more was 3.4 times in 1965, and this became 3.6 times in 1980. Both wage and productivity differentials have been retained to the present. Therefore, based on the statistics, small enterprises still provide a great number of workers with job opportunities. During the period of 1965 to 1980, the 1 48 differentials in wages and productivity between small firms and large firms persisted, and thus proved that the industrial dualism has not disappeared. This is in sharp contrast to North America, where labor mobility is high, which causes the wage differential between small firms and large firms to be little. This also means that large firms in the United States and Canada are unable to increase their international competitive edge in the Japanese way. After World War II, Japan's economy was devastated. However, Japan did not have to rebuild completely for the country inherited the prewar establishment of human resources: a highly educated population, wide diffusion of technical skills, a pervasive work ethic, and managerial experience. Through utilization of the existing human resources, Japan was able to devote capital, skills, and energy to the expansion of the civilian economy because of the abolition'of a Japanese military establishment followed by the slow buildup of a limited defense force. Japan's defense has been provided by United States forces, together with Japan's own Self-Defense Forces and the American nuclear umbrella. To develop the economy, the government has followed an "economics first" policy which has concentrated on economic recovery and development. The immediate postwar situation was similar to that of the beginning of the Meiji period, when the government played a key role in promoting economic growth. As well, there was a focus on large enterprises and heavy and chemical industries. Financial 1 49 support and government guidelines all centered on the large strategic industries. To obtain foreign currency the government encouraged the development of the export sector. Although about half the exports are products of small and medium enterprises,237 this sector was largely neglected by the government. These small and medium enterprises certainly contribute to Japan's export earnings. Since their products are mostly labor-intensive, until the early 1960's they enjoyed advantages in the international division of labor. Foreign currency earned by this sector is utilized to finance imports, including raw materials and equipment which are used by large enterprises. Therefore, the large firms have developed with the help of small and medium firms. According to Shinohara, the labor market, the capital market, and the product market sustain the existing dual structure. In the following passage, these markets are examined in order. 1. The labor market It is a well-known fact that wage differentials in Japan are greater than in other countries, and the explanation is mostly given from the viewpoint of the special character of the labour market. On the supply side of labour, there exists the pressure of excess supply, causing a search for employment at low wages. On the demand side, medium and small enterprises plan production with low-wage labour, whereas large enterprises are able to obtain better labour at wages relatively higher than the difference in quality.238 237Saburo Okita, The Developing Economies and Japan: Lessons  in Growth (Tokyo: University of Tokyo Press, 1980), p. 123. 2 3 "Miyazawa, op_. cit., p. 151. 1 50 It is frequently suggested that there are two broad divisions of the labor market. One is the market for big firms and the other is the market for small firms. Many characteristics spotlighted in the discussion of the employment system belong to the employment system of large companies. In fact, one characteristic of the labor market is that it is a buyer's market with large firm labor being relatively immobile. These characteristics of the labor market for the large firms apply to government bureaus as well. Large firms have a seniority wage system with automatic increases according to service years, based on the premise of lifetime employment. Under this system, regular workers and employees are hired by large firms upon graduation from school or college once a year, and remain in the same companies until retirement, usually at the age of 55. Roughly one-third of Japan's work force is actually employed under this permanent employment system, which affects mainly male workers in large firms.239 From early in the Meiji period, close links were forged between certain universities and a few business houses. Major companies still have exclusive recruitment policies and offer employment to students from particular schools and professors who have maintained placement relationships with 239Bradley M. Richardson and Taizo Ueda, eds., Business and  Society in Japan: Fundamentals for Businessmen, East Asian Studies Program, Ohio State University (New York: Praeger Publishers, 1981), p. 29. 151 specific companies for decades.240 It is no exaggeration to say that the status of the company in which workers are employed reflects the scope of the worker's potential. The stratification among firms has been paralleled by a similar stratification among educational institutions. Educational institutions are ranked in the hierarchy. Entrance examinations to universities and colleges are sorting mechanisms which enable major Japanese companies and the government to take the cream of the crop. Those who work in the large firms can enjoy high monthly earnings and bi-annual bonuses with lavish fringe benefits as well as lifetime employment and a seniority wage system. However, temporary and day workers inside and outside of the large firms are not able to enjoy the same benefits as are permanent employees, and are forced to accept disadvantageous working conditions. Although the rate of labor turnover is low for the large enterprises, there is a considerable flow from large to small enterprises in the form of sending retired workers from parent companies to satellite companies. In contrast, there is little or no flow of labor from small firms to large, except for temporary or subcontract employment. "Employment security and seniority-based wage systems might take away some of the incentives for union organization."241 Nevertheless, a substantial union movement 2 4 0Wilkinson, op. cit., p. 202. 2 4 1 Richardson and Ueda, op_. cit., p. 30. 1 52 has developed in Japan since World War II. Such Japanese unions are called "enterprise unions," or company unions. Shinohara has stated that "the enterprise unions which tended to be stronger in large firms further intensified the segmentation of the labor market there."242 The enterprise union is principally organized around specific enterprises rather than industry or occupation, and both white-collar workers and blue-collar workers are members of the same union except where they have split due to strikes. Consequently, bargaining between union and management tends to focus on individual firms, and the union will make reasonable demands in accordance with their own firms' ability to grant them. The lifetime employment guarantee and the seniority system of wage payment are not traditional devices. According to Sumiya, both of these are to be regarded not as traditional social relations but rather as innovations that developed in response to new needs.243 Indeed, "in most of the large plants in the Meiji and Taisho eras (1868-1912, 1912-1926), there was little sense of common purpose or of reciprocal obligation between management and workers, and the labor turnover was high."244 242Miyohei Shinohara, "Ninon Keizai no Niju Kozo," in Sangyo  Kozo, ed. Miyohei Shinohara (Shunjusha, 1959), p. 105, cited by Yasukichi Yasuba, "The Evolution of Dualistic Wage Structure," in Japanese Industrialization and Its Social  Consequences ed. Hugh Patrick with the assistance of Larry Meissner (Berkeley: University of California Press, 1976), p. 253. 2 4 3Citation by Allen, op_. cit., p. 144. 244Ibid. p. 145. 153 The current system is an institutional device developed by modern firms at the beginning of this century, for there was the need for retaining the new type of skilled male workers. Allen has stated that the lifetime employment guarantee can be traced to the rise of the engineering and armaments industries during the Taisho era.245 For larger, well-established firms, this system has become predominant after World War II. Under these circumstances, the large firms strengthened the institutional barriers in the labor market which became fragmented into many non-competing groups. Workers in small businesses must tolerate low incomes and unstable employment conditions, even though they have the same experience, education and ability as their counterparts in large businesses. This segmented labor market causes gaps between earnings of workers in various size-groups, that is, wage differentials by size of firm. Yasuba's detailed research proved the evolution of dualistic wage structure and concluded: . dualism in the sense of size-oriented wage differentials already existed in 1909, and the degree of duality was considerable; the differentials widened until 1932/33, when a pattern similar to that in a postwar year could be observed.246 2. The capital market There are two reasons why large-scale firms have been able to pay higher wages to workers, particularly to workers 245Ibid., p. 143. 2 4 6Yasuba, op_. cit., p. 261. 1 54 with a lifetime commitment. Shinohara has emphasized two characteristics of large firms that made this possible. One is credit rationing in the capital market and the other is their price-control power in the product market. In the capital market of the prewar period, the zai batsu, or "financial combines," owned the most important private banks and mobilized capital to promote their own enterprises. By World War II, zai batsu controlled much of Japa'nese industry, commerce, and finance, and during the War they had close ties with the Japanese military. Therefore, during the occupation era, the zai batsu were dissolved by the occupation authorities. However, not surprisingly, the economic upsurge of the late 1950's and 1960's was accompanied by the re-emergence of many major firms from the old zai batsu. In the postwar period, those successor firms of the zai batsu have formed looser groupings known as kei retsu. The keiretsu enhanced Japan's competitive position based on economies of scale much as the zai bat su enjoyed in the prewar period, but they were different from the zai batsu with regard to their character, structure, and strategy. First, the prewar zai batsu were tied together by their holding companies, whose diversified interests were controlled by a few wealthy families. These holding companies reflected tendencies of an entrepreneurial system. On the other hand, the postwar keiretsu, a less tightly structured type of associations, are tied rather by mutual convenience and interest. 155 Next, in the zaibatsu, banks played only a subordinate role.247 On the contrary, a major bank stands at the center of most keiretsu, combined with a trading company. Thus, the keiretsu are finance-centered groups. The group's bank and trading company finance their associated firms and subcontractors, which resulted in a corollary of high debt-equity ratio of industrial firms. Although in prewar days, self-finaneing within the group was the rule, a member of keiretsu usually resorted to several banks for its loans. Government banks pumped huge loan funds into the keiretsu to finance new plant and production. Finally, while some of the old zaibatsu firms tended to dominate a particular industry, the keiretsu are made up of companies in many different industries, following a "one-set-of-everything" principle.248 The "one-set" principle implies that a group should be represented to the same degree in each important industry.249 Consequently, there seems to be more competition between the postwar keiretsu than between prewar zaibatsu. In sum, the keiretsu are loosely, vertically integrated groups with a core of a major bank and trading company. The groups are linked by interlocking directorates, mutual stock ownership, supply and marketing agreements, and joint development of new 247Henry C. Wallich, Federal Reserve Board and Mable I. Wallich, "Banking and Finance," in Asia's New Giant; How the  Japanese Economy Works, ed. Hugh Patrick and Henry Rosovsky (Washington, D.C.: Brookings Institution, 1976), p. 294. 2 4 8Duus, op. cit., p. 259. 2 4 9Wallich, Federal Reserve Board and Wallich, op. cit., p. 296. 156 business lines. At present, there are six finance-centered groups: Mitsubishi, Mitsui, Sumitomo, Fuyo (Fuji Bank-centered, formerly known as Yasuda zai batsu), Dai-ichi Kangyo, and Sanwa.250 In addition, there are seven big industry-centered groups: Nippon Steel, Toshiba, Hitachi, Toyota, Nissan, Matsushita, and Tokyu. These groups are vertically integrated operations within a single industry or related industries. In contrast to the keiretsu loosely coordinated by companies, these companies within industry-centered groups are managed as if they were divisions of one giant corporation.251 Since these groups do not include a financial institution, they tend to sell shares in order to meet their capital needs. According to Miyazawa, since the size of owned capital is the fundamental factor for large-scale investment in plant and machinery. Resulting higher productivity permits higher wages, advantages not open to small and medium enterprises. Miyazawa also proved the existence of a capital market side of dualism which reveals size-oriented differentials in interest rates, with large firms borrowing at lower rates than small firms. This is due to an economic principle in which cost of a loan for an individual 250For a detailed discussion of which companies belong to which groups, see Tadanori Nishiyama, "The Structure of Managerial Control: Who Owns and Controls Japanese Business?" Japanese Economic Studies: A Journal of  Translations vol. 11, no. 1 (Fall, 1982): 37-77. 2 5 Jonathan B. Tucker, "Managing the Industrial Miracle," High Technology vol. 5, no. 8 (August, 1985): 26. 1 57 financial institution is higher when the risk is greater and the amount is smaller.252 Various types of financial institutions such as city banks, local banks, and trust banks provide different sizes of enterprises with loans with different terms and at different interest rates. Large banks tend to extend loans to large enterprises at a relatively low interest rate, while providing loans at a higher interest rate for the small and medium enterprises. In addition, banks can maintain their liquidity of assets by offering only short-term loans to small and medium enterprises.253 Consequently, the distribution of funds as a whole is unequal, and loans from financial institutions concentrate on large firms, which can make an investment in new and large-scale plants and equipment. Different levels of capital intensity emphasize the wage and productivity differences. Capital concentration in the large enterprises is noticeable not only in Japan but also in the United Kingdom and West Germany. However, there is a difference regarding the loan-equity ratios. Since World War II the Japanese economy has heavily relied on bank credit. "A typical corporation's capital structure divides into 80 percent bank loans and 20 percent equity—a four-to-one ratio (sometimes ten-to-one) coolly maintained while American firms think 252Miyazawa, op. cit., p. 162. 253Ibid. 158 that one-to-two is scary."25" In other words, Japanese corporations count on borrowed bank money, rather than the sales of stock, to finance growth and production. Furthermore, since the Meiji period the Bank of Japan has been rescuing overextended commercial banks. Consequently, large Japanese enterprises and banks take big risks since they always expect the government bank to bail them out. 3. The product market In the product market, the large firms have price-control power. In the oligopolistic market, a few large corporations tend to set rigid prices. On the other hand, in the competitive market, prices of commodities have elasticity. As the prices of goods produced by the large firms become rigid, their increased productivity brings wage increases for workers with the help of the enterprise union pressure. However, since excessive competition among small and medium firms occurs, their increased productivity contributes to decreasing commodity prices. These price-determining mechanisms in the product market also result in the wage differentials and productivity between the large and small firms. To summarize, the labor market, the capital market and the product market, all maintain the dual structure manifested in the differentials in productivity and wages between large and small enterprises. 25"William H. Forbis, Japan Today; People, Places, Power, with a Foreward by Senator Mike Mansfield (New York: Harper & Row, Publisher, 1975), p. 357. 159 Finally, the relationship between the large and small firms should be considered. Certainly, the large and small enterprises are complementary. The large enterprises utilize the products of cheap labor in small enterprises through the subcontracting system and the formation of related enterprises under their control. This subcontracting system itself had been in use since the mid-1920's. Because of the widening wage differential, usin'g the low-wage labor of the small firms indirectly via subcontracting was more profitable for the large concerns than producing goods themselves.255 This was one of the principal reasons that subcontracting became popular. The large enterprises use small enterprises as a buffer against business fluctuations and adjust their levels of production accordingly. Nakamura has pointed out the merits of the subcontracting system for the parent firms, as follows: Most important among these were capital economies and the spreading of risk, particularly the latter. When business was poor, parent firms would drop their subcontractors and postpone payment on their accounts, while in good times they would increase subcontracting. Then, citing the need for rationalization among subcontractors, they would beat down prices to low levels. It was not without reas