1

PROFITABILITY IN CHINA AND JAPAN.

The National Bureau of Statistics of China has recently published its September profit data for

industry enabling profitability for the first three quarters of 2021 to be estimated. For Japan the

data is more dated, but the key is its availability up to 2019, the year before the pandemic hit.

China is key to the world economy. Though US consumers support the Chinese economy as evidenced by

the jump in Chinese exports during the pandemic, it is developments in China which will determine the

course of the world economy. Later, we will have cause to examine the linkage between Japan and China

when we examine Japan and note its dependency on the rhythm of the Chinese economy.

Graph 1. Chinese exports.

In September the Complex Rate of Return remained at its elevated level unchanged from August.

Graph 2.

http://www.stats.gov.cn/enGliSH/PressRelease/202110/t20211028_1823886.html

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CHINA: RATE OF RETURN & TURNOVER

complex rate of return rate of turnover

2

The primary reason for the improvement in profitability was an Operating Margin of 6.96% in September

compared to 5.86% for 2019. The Complex Rate of Return is not commensurate with the Rate of Return

in the West as it includes financial assets, which also disadvantages the profitability of State Organised

Enterprises (SOEs) compared to Private Enterprises because SOEs have large cross holdings. Graph 3 plots

the longer-term annualised rate of return for China. The data for 2021 covers the first 3 Quarters of 2021.

Graph 3.

(2021 average for first 9 months)

This is the first significant uptick in profitability since the 2011 peak taking the rate back to 2015 levels.

This represents a 32% fall from 2011 which is an improvement on the 42% fall registered in 2019.

However, it is likely that the Complex Rate of Return for the whole year will be lower than 6.2%

Graph 4.

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1998 2000 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021

CHINA: COMPLEX RATE OF RETURN

3

The reason for this is found in Graph 4 above where there has been a deceleration in the growth rate of

profits and revenue as the year has progressed. Further, given the growing divergence between producer

price indexes and consumer price indexes, a margin squeeze is in progress. The latest leading soft data -

survey data - confirms that industrial production is decelerating. Thus the outlook for profits, production

and investment in China is deteriorating as Graphs 5 and 6 below point out. (2021 = 9 months)

http://www.stats.gov.cn/enGliSH/PressRelease/202111/t20211101_1824026.html

Graph 5.

Graph 6.

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INDUSTRIAL INVESTMENT ANNUAL GROWTH RATE

4

Investment which increased in 2020 because of the influx of orders due to the pandemic and a switch in

consumption worldwide to industrial goods, heralded an annual rise in investment of nearly 20%. That

rise has been reversed in the first nine months this year and is expected to fall further. Its fall is likely to

deepen given the crisis in the property market and the sharp slowdown in construction there. All in all,

over the next 6 months, unless there is something unexpected, and despite re-armament, the annual

growth in investment will be below 5% once more at best, or what is the same thing, back on trend.

I do not intend to look at Chinese GDP trends as these are the most unreliable. However, even GDP data

is now beginning to decelerate sharply in line with the USA. Some commentators have said tongue in

cheek, that the country which benefited the most from the Covid Relief funds in the USA and Europe, was

China. Those days are behind China and whatever deal Biden manages to cobble together, it is unlikely to

feed goods production as before, something which China excels at producing.

It is clear that we are in the post Covid Relief Age when most of the funds have been spent and where

savings rates have normalised. This reduction in demand will in turn reveal the real damage the pandemic

has done to the economy in the form of unemployment, inflation, bad debts and now the compression of

profit margins. Thus in common with the world economy, and adding to it, the outlook for the Chinese

economy is deteriorating.

Japan.

Unlike the high frequency data produced by the Chinese Bureau of Statistics, Japanese data is more dated.

Most of its data only goes up to 2019 as found in the 2021 Yearbook. This however is adequate because

2019 is the last full year prior to the pandemic, thus the last year in which to examine the underlying

health of an economy yet to be buffeted by the effects of the pandemic. Graph 7’s Rate of Return covers

the whole economy as key data for industry is missing. (For data see the attached spreadsheet.)

Graph 7.

The equation used to calculate the above graph is: National Income less Worker Compensation divided by

Fixed Assets and Inventories, or the entirety of constant capital.

0.0%

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2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

RATE OF RETURN: Whole economy

5

We note that the rate of return peaked in 2015 at 4.2% before falling to 3.4% in 2019. This represented a

twenty percent fall in the rate of return and mimicked the fall in all the major economies beginning with

China earlier. However, changes to profitability were much more subdued compared to the more dynamic

Chinese economy. Profits in China went up 3% between 2005 and 2011 before falling 4% into 2019. In

Japan the movement in both directions was around 1%.

The reason for the fall in Japanese profitability is explained by the three graphs below showing the

accumulation of constant capital versus the rate of exploitation.

Graph 8.

Graph 9.

0.0%

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2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

RATE OF EXPLOITATION

740%

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2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

CAPITAL TO OUTPUT RATIO

6

Graph 10.

We note the rate of exploitation rose between 2008 and 2015 which when combined with a deceleration

in accumulation served to raise the rate of return. Accumulation then accelerates after 2015 only to be

met with a fall in exploitation which is unusual but may be explained by Japan’s deteriorating international

competitive position. It is also likely that post 2015, the profile of trends in Japan was heavily influenced

by China starting to compete more effectively with Japanese producers.

Graph 11.

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WHY THE RATE OR RETURN FELL POST-2015

capital to output rate of exploitation

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JAPANESE monthly MACHINE ORDERS (reverse date order)

whole economy only manufacturing

Linear (whole economy) Linear (only manufacturing)

7

The above graph should be read right to left. On the left is the 2021 data and on the right is the 2005 data.

The series only extends to 2005 unfortunately. In the 3 years up to 2008 there is a sharp rise in investment

which is replicated by Graph 8 with its rise in the capital to output ratio of 10%. From the end of 2009,

measured by peaks, orders rise up to 2015 followed by a fall, once again replicated by Graph 8.

Over the longer term, the data on fixed assets and inventories is available only for the whole economy.

(The data from 1994 for industrial assets does not separate out non-produced assets from produced

assets.) This longer perspective reveals the full extent of the ailing Japanese economy. Over the entire 25

years, the value of gross produced assets in Japan and abroad rose by only 7% in nominal terms (Graph

12) but fell by 9% when adjusted by the Producer Price Index (Graph 14).

Graph 12.

Graph 13.

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JAPAN: PRODUCER PRICE INDEX

8

Graph 14.

The red arrow (Graph 14) encapsulates the period of globalisation proper. This was a period characterised

by the rapid cheapening of means of production which reached its nadir in 2004. The total fall in producer

prices was 15%. Thereafter prices increase but remain below mid-1990 levels until they spike during the

pandemic. The fall in 2016 coincides with what I called the pseudo recession when Chinese and global

production fell sharply at the end of 2015. Had it not been for central bank interventions preventing a

curative rise in interest rates caused by economic stressors at the time, a full-blown recession would have

developed. The Bankers may yet rue the day they prevented such a purging recession.

The red arrow also indicates the period when Japan outsourced production and relocated production to

cheaper waged countries especially China. In the 2021 Yearbook external direct assets rose ten-fold from

17 trillion Yen to 184 trillion Yen. (Table 8.1) Thus in 1994 external assets as a percentage of internal assets

amounted to 3.2% compared to 16.5% by 2019 or a five-fold increase. In the USA the comparative figures

were 6.4% in 1994 rising to 19.8% or a three-fold increase. Thus while US foreign assets exceed Y600

trillion or 3 times that of Japan, it must be remembered that Japan’s 16.5% contains a higher proportion

of external industrial assets than does the USA.

The capital to output ratio combined with the price index post 2008 showed that Japan in common with

its major competitors was sweating its assets, that is a period marked by slowing investment, rising

exploitation and rising prices. As a result of the absence of recession in the post 2015 period exploitation

fell and the employers globally sought to improve their margins through price increases. With regard to

productivity, another factor should be borne in mind. Productivity data relates to production within Japan

only. But the total assets employing workers covers both national and foreign. Deducting the rising

element of foreign based assets turns the real fall of 9% into a fall of 19% within Japan, unlike the number

of employed workers which increased from 66.51 million in 2005 to 68.6 million in 2019. (Note 1.)

Of course this is a quantitative analysis. Ten million Yen in 1994 could have purchased a lathe while in

2019 it could have purchased an industrial robot representing a much more advanced technique of

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PRODUCED ASSETS VOLUME MEASURE

9

production. Nevertheless, the slow investment rate implied by the data goes a long way to explaining why

Japanese productivity improvements, where they occurred, have trailed that of its major competitors.

Further data on Japan.

Over the period 1994 to 2019 the Japanese economy grew by 0.9% on average, below the increase found

in its major competitors, hovering just above stagnation despite all the arrows fired at it.

Graph 15.

I have included a quarterly summary to show that the Japanese economy actually contracted in the last

quarter of 2019. (2020 is not discussed because of the pandemic effects.)

Graph 16.

This coincided with a fall in global production and trade in the second half of 2019 as Graph 17 below

shows. 2019 together with late 2015 and early 2016 were the two weakest periods of growth post-2008.

It is unusual for two near recessionary periods to occur in such proximity to each other despite Central

Bank largesse. It points to fragility in the world economy post-2014, the last peak.

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ANNUAL CHANGE IN JAPANESE GDP

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QUARTERLY JAPANESE GDP (annualised)

10

Graph 17.

In Japan, manufacturing, despite part of it being relocated abroad, is still a significant part of the economy

amounting to 20.3% of GDP in 2019 almost double the figure of 11.1% for the USA. It has fallen only by

3% (GDP) from 1994 and by 1.5% since 2007. The world figure for 2019 is 15.5%. (Worldbank Data.) Thus

the movement of industrial production in Japan influences GDP more strongly. (Note 1, at end.)

Graph 18.

After 2008 the highest peak was below 105 compared to 120 pre-2008. By December 2019, the index had

fallen below 100, to 97.9. The same downward trend in 2019 as found with GDP is found here as well.

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CPB DATA ON GLOBAL PRODUCTION & TRADE

global trade global industrial production

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INDUSTRIAL PRODUCTION INDEXED

11

Japanese workers.

Graph 19.

What is interesting about the above graph when compared to Graph 8, is that whereas the rate of

exploitation fell in the latter graph post-2015, in real terms, wages fell too. This expresses a fall in the

competitive position of the Japanese economy which was not able to raise exploitation despite the fall in

real compensation. It is axiomatic to infer that wages are tied to militancy. Japanese workers have some

of the lowest strikes ratios globally. Below is the data for the period 2009 – 2018 for selected countries.

https://ilostat.ilo.org/topics/work-stoppages/# (International Labour Organisation data). (Note 2.)

Table 1.

Country No. of strikes

Germany 817

Spain 813

U.K. 111

S. Korea 102

Japan 74

USA 13

From this short list there appears to be an association between worker militancy focused on the workplace

and electoral politics. Countries with the lowest average strikes tended to end up with right-wing

bourgeois parties or even populist governments. Other countries such as the Netherlands and Russia also

confirmed this association. On the other hand countries like Spain and Portugal which saw high rates of

strikes also saw the emergence of mass left-wing parties.

Another sign of worker passivity is the length of the working week. Though the official data in the graph

below, which combines hours worked and productivity, shows Japan to be around the average in terms

of annual hours worked, the unofficial figures imply a higher rate of 2000 hours putting Japan in proximity

to India and China. One of the oddities about Japan is, that whereas in most metropolitan areas the last

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2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

JAPANESE WAGES ADJUSTED by the CONSUMER PRICE INDEX

12

underground trains are fairly empty except for party goers, in Japanese cities they are packed with office

workers leaving work at the last minute. In fact, the Japanese government in 2018 was moved to pass a

law restricting overtime working, much of which is unpaid, because of its negative effect on society.

Graph 20.

https://ourworldindata.org/working-hours

Another indicator of worker passivity is the number of days of paid leave won through struggle. In Japan

all workers are entitled to 10 days statutory paid leave after 6 months of employment. This rises to 20

days after 6.5 years of continuous employment. 20 days, but not 10, is about the average globally. For

comparisons sake, the minimum of 10 days compares to 0 days for the USA and 5 days for China. However,

this is only half the story literally, because unusually Japanese workers only use up half their allowances

on average. The table below shows a list of countries where workers forsake paid days of leave in order

to stay at work.

Table 2.

Country Days

Japan 10

Italy 7*

USA 4

UK 1

France 0

Germany 0 (Source: https://viewfinder.expedia.com/how-to-use-your-vacation-time/ * Italy has more generous allowances.)

13

The graph below shows how many fewer days of leave were taken in the teens compared to the noughties.

Graph 21.

(Source: https://www.nippon.com/en/features/h00329/)

Graph 22.

14

Graph 22 describes union density in Japan. Japan has the same union density as Germany with its comparable manufacturing base, it is higher than the 10% found in the USA but lower than the 23% found in the UK because of public sector unions. (For more information on EU workers follow this link http://www.worker-participation.eu/National-Industrial-Relations/Across-Europe/Trade-Unions2) (Note 3.)

It was not my intention to provide comprehensive reasons for the passivity of Japanese workers. This

would require a great deal of research, which is beyond my reach. Instead this post provides a number of

pointers and markers, that is all. However this does not diminish the importance of drawing lessons from

Japan focusing on why Japanese workers have been so passive for so long in the face of a stagnant

economy, despite its adverse impact on their conditions and standards of living, and, secondly, can any of

these lessons be applied to Western workers who are now in the same vortex of worsening conditions

and falling standards of living. Or is there something unique about the culture of Japan, namely “group

think and approval” which means it cannot be readily translated to the West? These are questions which

need addressing which I am sure must have intrigued scholars elsewhere.

Conclusion.

The loyalty of Japanese workers to the system may be slipping forcing the government to beat the

nationalistic drum ever louder to distract from eroding job security, wages, and pensions. The last two

elections saw total voter turnout drop to 29.99% and 31.64% as the Japanese, who used to vote in droves,

were repelled by a jaded government and not enticed by opposition parties which failed to inspire. Clearly

voters did not take Kishida’s promises seriously as less than one in five voters voted for the ruling party.

https://the-japan-news.com/news/article/0007939109 In addition, all the recent economic indicators

point to a further weakening of the Japanese economy.

The same applies to China. Interestingly and unusually, the CCP advised its citizens to stock up on essential

supplies for the winter. This was variously interpreted as fears about COVID or alternatively possible

conflict over Taiwan. It certainly indicates a pause for thought. Whatever the case it will further weaken

consumer confidence already on edge over the crisis in the property sector. Despite slightly firmer

economic indicators in the USA, the global economy continues to decelerate with profits under pressure.

It now appears sagging demand has overtaken supply side issues as the main decelerator.

Note 1. I have not spent much time discussing Japanese productivity. Michael Roberts pointed to low Japanese productivity in a recent post citing a paper by REITI titled ‘Japan's Low Labor Productivity: The gap with the U.S. and complex causes’ which seeks to explain why a country which dominated global production in the 1980s now lags the competition. Having examined Masayuki’s hypotheses and comparing it to the raw data, it appears that the reason for the lag is more straightforward, really a case of underinvestment in Japan itself. https://www.rieti.go.jp/en/papers/contribution/morikawa/12.htmlcauses https://wordpress.com/read/feeds/313842/posts/3632611478 The effect on productivity from the relocation of assets is not straightforward. In so far as there is less investment within Japan this will reduce productivity especially if investment is redirected towards the Tertiary Sector where productivity is much lower. However, in so far as foreign investment reduces the price of inputs it helps to raise productivity at home. This is a complex issue. If transfer prices are below value, that lost value is recaptured after the product is completed and sold. It is realised via the market price in the home market, in this case Japan. This absorption of some of the value produced abroad therefore increases the value added at home which is one part of the productivity equation. The BEA did research on this area and concluded that up

15

to 2014, around 25% of US productivity gains came from cheaper inputs courtesy of China where 50% of the value produced there was realised outside the country. Note 2. The poverty rate in Japan increased to 15.7% in 2020 hitting the elderly particularly hard. https://www.cnbc.com/2020/07/03/japans-middle-class-is-disappearing-as-poverty-rises-warns-economist.html As with many of the other major economies, the middle is being squeezed, erroneously interpreted as the demise of the middle class when really it is the section of better paid workers. Note 3. The reader will no doubt be grateful that Graph 22 is the final graph on this post. It could be said that

a Graph saves a thousand words because it presents in a simplified pictorial image, important trends and

associations. It does. This post is an all-time record for graphs used.

Brian Green 3rd November 2021.