Japan vs. South Korea redux

The headlines are currently dominated by South Korea and Japan’s dispute over a set of tiny islands, but having just returned from a trip to South Korea, what impressed me was how Korean industry and technology is doing to Japanese industry what the Japanese did to U.S. industry in the 1970s-80s. What’s interesting is that it’s for many of the same reasons.

In the 1970s-80s, American industry often came out first with new technologies and products like transistors, color TV, and video recording. But it lost out to the Japanese in actually commercializing the products and especially in making and selling them. Over the past thirty years, the Japanese have been first with products like the Walkman, DVDs, advanced memory chips, and flat panel television, and they subsequently dominated these markets globally. More recently, however, the picture has changed. In 2004, Sony had the first e reader with electronic ink, and Japan’s mobile phone makers were light years ahead in smart phone technology. But it has been Amazon, Apple, Google, and Samsung that have actually commercialized and sold products like the Kindle, iPhone, Android, Galaxy, and the most advanced semiconductor memories.

Indeed, Sony, Sharp, and Panasonic managed to lose a combined $20 billion last year and Sharp is now tottering on the brink of bankruptcy as Sony reorganizes yet one more time and Panasonic withdraws from consumer electronics. It looks so much like Detroit and Silicon Valley in the 1980s.

One problem for the Japanese has been that like the U.S. market of the earlier period, today’s Japanese market has become too big and comfortable. It was always highly protected, both formally and then later informally. But initially it was not large enough to support competitive scale manufacturing. So Japanese producers had to design and produce with the world market in mind so that they could capture the exports necessary for achieving economies of scale. But as it became one of the world’s largest markets , Japanese producers found that they could make a nice living by focusing mostly on the domestic market. Thus the mobile phone makers developed Japan-only standards and produced spectacular phones that were unusable in the rest of the world. They thus squandered their technological leadership by locking themselves into the odd ball Japanese market.

Another problem has been the exchange rate of the yen versus the Korean won and the Chinese yuan. Several factors have combined to drive the yen to record heights in recent years. One is loss of confidence in the Euro in global financial markets. Investors have been forced to seek other reserve currencies and the yen is one into which they have poured funds as they have shifted out of Euros. In addition, Japan has been the recipient of a large and growing flow of dividends and interest payments on its overseas investments. These, of course, have to be changed in to yen when they get to Japan, and that exchange has also been pushing the yen higher.

The strong yen has increasingly made Japan based production uncompetitive in global markets. It has been interesting to watch this because for years, the competitive problems of American industry were always described in Tokyo as issues of quality, service, delivery, and productivity. But it now seems that no more than American producers can Japanese producers make profits or invest in R&D and new production facilities in the face of a very strong currency.

The currency problem is exacerbated by the fact that China, Korea, and a number of other Asian countries have continued to intervene in currency markets in ways aimed at helping their exporters. Japan, has also intervened in attempts to drive the yen down, but it has not been able fully to offset the effect of the other factors at play in the market.

The final factor, as several Korean executives explained to me, is that Japanese business has lost its dynamism and willingness to take risk. To remain at the cutting edge of the memory chip industry or the flat panel display industry takes massive and timely investment. Six months too late, and the investment will be wasted because competitors will already have gotten down the cost curve with economies of scale and will have taken a dominant market share. But the investment required just for a single factory can be on the order of $7-10 billion. This is company betting territory.

In the old days, the Japanese out-invested the Americans, partly because they had an implicit guarantee of government protection and support, but also partly because the industrial pioneers of Japan’s post -war recovery saw themselves as risk taking samurai committed not just to making a profit but to remaking Japan. Now, a second and third generation of Japanese executives has become more bureaucratic and risk averse. Today, it’s the Koreans who are placing the big bets.

Of course, it could all go wrong. But, for the moment, they’re running the table.