JAPAN'S REFORM AGENDA - PLENTY OF FOREST BUT FEW

C O N F I D E N T I A L SECTION 01 OF 06 TOKYO 002964 SIPDIS SIPDIS USTR FOR CUTLER, BEEMAN, MEYERS NSC FOR TONG GENEVA FOR USTR PARIS FOR USOECD DOC FOR 4410/ITA/MAC/OJ/MELCHER TREASURY FOR IA/DOHNER, HAARSAGER, CARNES AND POGGI STATE PASS TO FEDERAL RESERVE BOARD FOR JKOHLI STATE PASS TO FEDERAL RESERVE IN SAN FRANSISCO FOR AMAYEDA AND RNAYLOR STATE PASS TO OCC FOR RGAFFIN AND SHOPKINS STATE PASS TO FDIC FOR JDICLEMENTE E.O. 12958: DECL: 06/19/2017 TAGS: EAGR EAIR ECON EFIN EINV ETRD JA PGOV SUBJECT: JAPAN'S REFORM AGENDA - PLENTY OF FOREST BUT FEW TREES REF: A. TOKYO 387 ¶B. TOKYO 7064 ¶C. TOKYO 2464 ¶D. TOKYO 2180 Classified By: Ambassador Schieffer for reason 1.4 (b/d) ¶1. (C) Summary. The Council for Economic and Fiscal Policy (CEFP),the Council for the Promotion of Regulatory Reform (CPRR),the Asia Gateway Strategy Panel (Asia Gateway),and the Innovation 25 Strategy Council (Innovation 25),all advisory bodies to the Prime Minister's Cabinet office, each issued reports over the past several weeks recommending structural and administrative reform of various aspects of Japanese government and society. While each of the Councils initially seemed poised to make fairly forward-leaning recommendations, fierce ministerial resistance resulted in final reports that are long on rhetoric and short on details. The CEFP, which serves as the Government's uber-Council and bases its recommendations on inputs from the other bodies, had previously served as a vehicle for then-Prime Minister Koizumi to force such controversial issues as Japan Post Privatization through the bureaucracy. The Abe administration seems less willing to use the Council as a means to overcome bureaucratic inaction. The CEFP's report, which also serves as the foundation for the Government's budgetary process, stresses that spending cut targets laid out by the previous council will be adhered to but appears to be the victim of bureaucratic piling-on to ensure that pork-barrel projects receive funding. Most of the recommendations of all the bodies were vague or cautious, making the Abe administration appear tepid in support of reform. It is unclear if this will change after the Upper House elections in late July. End Summary. ¶2. (U) In the lead-up to the July Upper House elections, the Council for Economic and Fiscal Policy (CEFP),the Council for the Promotion of Regulatory Reform (CPRR),the Asia Gateway Strategy Panel (Asia Gateway),and the Innovation 25 
Strategy Council (Innovation 25),all advisory bodies to the Cabinet office, issued reports recommending structural and administrative reform of various aspects of the Japanese government and society. This cable explores the role of each of the advisory bodies and their respective influence on policy makers, their initial proposals and final recommendations and gives a "grade" to each of the sector recommendations put forth that are of interest to American industry and the U.S. government. Economic Advisory Bodies: Who's Who The Council for Economic and Fiscal Policy -------------- ¶3. (U) Established in 2001 under the "Act to Establish the Cabinet Office" by then-Prime Minister Koizumi, the CEFP is one of four "councils on important policies" that provide advice to the Prime Minister and his cabinet. The remaining three councils are: the Council for Science and Technology; the Central Disaster Management Council and; the Council for Gender Equality. The law stipulates that the CEFP consist of no more than eleven members, that forty percent of those members come from the private sector and that the Prime Minister, the Chief Cabinet Secretary and the Minister of State for Economic and Fiscal Policy all sit on the Council. Currently, the CEFP's four private sector representatives include Canon CEO and Japan Business Federation (Keidanren) President Fujio Miterai and prominent academic, Tokyo University Professor Takatoshi Ito. The six cabinet-level advisors include Minister of Finance Koji Omi, Ministry of Economy, Trade and Industry Akira Amari and Council Chair, Minister of Economic and Fiscal Policy Hiroko Ota as well as Bank of Japan President Toshihiko Fukui. ¶4. (U) Every year, the CEFP releases the "Basic Policy for Economic and Fiscal Management and Structural Reform" report which serves as the Government's macroeconomic and reform TOKYO 00002964 002 OF 006 agenda for the ensuing year. The report is meant to be comprehensive in nature and, as such, is based upon the recommendations of other Cabinet advisory bodies. The agenda is formally adopted by the Cabinet after which the Council issues a series of budgetary recommendations and, ultimately, the "Course and Strategy for the Japanese Economy" framework. Importantly, if a particular issue is not/not discussed within the CEFP's report, it is unlikely to receive funding during the regular budgetary process. ¶5. (SBU) Koizumi originally established the CEFP with the intention of wresting policy making from government bureaucrats and forcing the budgetary process to be more open and transparent. Under his leadership, such controversial issues as Japan Post privatization were forced through the bureaucracy despite fierce Ministerial opposition by using the CEFP as the decision making body. The Abe administration, however, appears less willing or able to use the Council as a vehicle to overcome bureaucratic inaction. The most recent report, issued June 4, is a whopping 51 pages yet contains relatively vague recommendations addressing four goals - increasing labor productivity, promoting the openness of Japan's economy, reforming administrative and fiscal systems and, "creating the foundations in which people can live without anxiety." In fact, the Council notably dropped "Structural Reform" from the document's title. Press reports have been largely critical, stating the report touches on many subjects but provides few details or numerical targets. Others suggest that the length of the document reflects bureaucratic piling-on to ensure that pork-barrel projects receive funding. The Council for the Promotion of Regulatory Reform -------------- -------------- ¶6. (U) The CPRR is ONE of eighteen advisory councils set up under the Cabinet Office. Established under Koizumi in 2004, the CPRR has tended to be more forward-leaning in its positions than other advisory councils. It consists solely of private sector members and is chaired by shipping company NYK Line Corporation President Takao Kusakari (reftel A). The Headquarters for the Promotion of Regulatory Reform, a parallel body to CPRR, consists of the Prime Minister's entire cabinet and the Prime Minister himself. Unlike in the case of CEFP, however, the Prime Minister rarely attends Council meetings. ¶7. (C) Typically, the Council issues an interim report in June and final recommendations in December. All final recommendations are laboriously negotiated with the individual Ministries, however, so there has often been a wide gap between what is put forth in the interim report and what is actually in the final iteration. This year, as the CEFP was working to develop its new reform strategy, the CPRR issued a fully-negotiated interim report on May 30 with the intent that it be incorporated into the longer-term plan. As with the CEFP report, the CPRR proposals fall far short of what several of the Council's members had told us they had hoped to achieve. Kosuke Furutachi, Deputy Director at the Cabinet Office for CPRR told us that the report was merely a rehashed version of previous years' work and that the Council had been tacitly instructed to refrain from addressing controversial topics ahead of the July elections. The Asia Gateway Strategy Panel -------------- ¶8. (U) In his maiden speech to the Diet in September 2006, Prime Minister Abe called for rapidly strengthening "the functions of international airports in Japan, including efforts to enhance their usability," a stance that later became a central part of his "Asia Gateway Vision." Abe created the Asia Gateway Strategy Panel in October 2006 to identify specific policies under the initiative. The panel was composed of seven prominent academics and business people and was led by Special Advisor to the Prime Minister on the Economy, Takumi Nemoto. Its report, issued May 16, served as TOKYO 00002964 003 OF 006 the basis for the aviation reforms recommended in the CEFP's plan. The panel was subsequently disbanded. ¶9. (SBU) While disappointing to the Embassy and to American industry, Tokyo University Professor and CEFP member Takatoshi Ito told us he believes the Asia Gateway report will result in greater liberalization of Japan's international and regional airports and that the panel's work was well-received by the larger Council. The Innovation 25 Strategy Council -------------- ¶10. (U) In a separate speech at the beginning of his administration, Abe also called for a strategy to foster more innovation that would contribute to Japan's economic growth through the year 2025. He established the Innovation 25 Strategy Council and gave Minister of State Sanae Takaichi the additional portfolio of Minister in charge of Innovation. Takaichi set-up the Innovation 25 Special Mission within the cabinet office, supported by the Strategy Council comprised of seven members from academia and industry. The Council issued an interim report on February 26 and its strategic policy roadmap on May 25. Innovation 25 sets five goals for the year 2025 based on predictions that Japan will face, in the next twenty years, a decreasing population, an aging society, sustainability challenges and the continued rapid development of an information society. Its recommendations largely focused on science and research and development issues, though there was some discussion of financial market reform which fed in to the CEFP report. The Score Card by Sector Agriculture Reform: C -------------- ¶11. (SBU) The CEFP's Agriculture and EPA working group produced some forward-leaning recommendations intended to push Japan in the direction of more outward-oriented trade policies. There is clear recognition among CEFP private sector members that the country's inefficient farm sector is an impediment to pursuing effective trade policies. The final CEFP report proposes some farm sector reforms, but many of the more far-reaching measures of the working group, including proposals to make it easier for farm ownership to change hands which could enable corporate ownership, were muted by the full Council. Whereas the working group had specific reform ideas, the final report calls on the Agriculture Ministry to identify a reform agenda by fall 2007, something akin to putting the fox in charge of the hen house. ¶12. (SBU) The working group had outlined an ambitious program to promote Doha and a more open trade regime, including eliminating some tariffs; reviewing other extremely high tariffs, presumably including those on rice; abolishing the gate pricing system for pork; and reviewing the minimum access system for rice. By the time the full CEFP tabled its report, bromides had replaced some of the proposals -- Japan should be "proactive" in reducing tariffs and narrowing down the extent of cross border measures, and the gate pricing system should be "discussed." On EPA/FTA policy, the final report also takes a step back from the Agriculture and EPA working group's initial call that Japan launch joint studies with the United States and the European Union as a preliminary step down the road to negotiating EPA/FTAs. Instead, it says only that FTAs with the United States and EU should be "future topic." Civil Aviation Reform: C- -------------- ¶13. (C) Japanese reformers' key goals in the civair sector were to achieve greater and quicker internationalization of Haneda Airport, currently primarily serving the domestic market, and the further liberalization of other regional and TOKYO 00002964 004 OF 006 international airports. While the CEFP did recommend some small changes regarding Haneda such as permitting late evening and early morning international charter flights and charter flights to Beijing for the 2008 Olympics which could set a precedent for further reforms in the future, the Ministry of Land, Industry and Technology (MLIT) managed to hold at bay more "radical" proposals and imposed its own agenda on other changes. The Asia Gateway panel and the CEFP had originally proposed: allowing international flights at Haneda and increasing slots at Narita before 2010 as is currently planned; deregulating Kansai and Centrair airports without further negotiations; dropping the perimeter rule which limits international flights to domestic airports and; considering Japan-E.U. aviation liberalization. None of these were accepted by MLIT. Instead, the CEFP report recommends that China and other Asian countries be the focus of aviation liberalization and that any new international flights at Kansai and Centrair be negotiated bilaterally, putting MLIT in control of the pace of change. The report also adopted the Ministry's language critical of an "American-style" open skies. U.S. industry reaction has been pessimistic with some suggesting that many of the measures MLIT did allow, and in particular the late evening/early morning international charter flights, are patently designed to disadvantage U.S. airlines. Financial Market Reform: Mixed -------------- ¶14. (C) Defined Contribution Pensions: C-. The CEFP basic policies framework only vaguely refers to the review of the defined contribution pension system, presumably in deference to the Ministry of Health, Labor and Welfare (MHLW) study group considering the issue which has not yet issued its final report. This is disappointing as it provides no direction from the Cabinet to the MHLW group. A critical issue to expanding the use of defined contribution pensions is to increase the tax deductible contribution limits. Though the Ministry of Finance (MOF) has not yet officially weighed in on the topic, in the past they have expressed an unwillingness to forgo tax revenue by increasing the limits and skepticism at the need for tax-advantaged treatment of the pensions, which they consider just another savings vehicle. ¶15. (SBU) Financial Services - C . The Abe administration has identified the internationalization of Japanese financial markets and the development of Tokyo as an international financial center as ONE of it key goals. As a result, this topic has been addressed by no fewer than five different governmental advisory groups. The CEFP report, which took into account the deliberations of those five advisory groups, calls on the Financial Services Agency (FSA) to formulate an overall plan for strengthening Japan's financial and capital markets by the end of FY2007. The plan is expected to focus on four areas: (1) strengthening the competitiveness of exchanges by considering measures enabling the listing on the same exchange of a wide range of products including stocks, bonds and financial and commodity futures; (2) reviewing existing firewall regulations; (3) improving the market surveillance system by strengthening the quasi-judicial function of the Securities and Exchange Surveillance Commission (SESC); and (4) undertaking comprehensive efforts to increase competitiveness through such measures as enhancing transparency and predictability of regulatory supervision and improving urban infrastructure. ¶16. (C) Comment: Some of these areas have been discussed under the U.S.-Japan Regulatory Reform Initiative and are of great interest to U.S. financial firms. The FSA's plan and the degree of support it receives in the post-election administration will indicate whether meaningful progress in the four identified areas can be expected, but the identification of these issues as areas for reform is a helpful step forward. Still, it is disappointing that more of the 27 topics put forth in the CEFP's own working group on financial services reform were not included in the final TOKYO 00002964 005 OF 006 report. End Comment. Fiscal Policy: B- -------------- ¶17. (SBU) While the CEFP report calls for "maximum" spending cuts to be made in formulating the FY08 regular budget, it fails to lay out concrete commitments to spending targets. The Council's private sector members had initially proposed a further three percent cut in public works spending for the coming year, but specifying this just before the elections was vetoed by the LDP. The framework did indicate, however, that fiscal consolidation measures would be carried out in line with the medium-term fiscal consolidation plan approved by the Cabinet as part of last year's basic policies, which specified spending cut targets for major budgetary categories over a five-year period. ¶18. (SBU) On the tax side, the report states that a full-fledged discussion of Japan's tax system will be conducted commencing in the fall, and indicates that "drastic" tax reforms, including the consumption tax, will be addressed in FY2007. The report calls for a study of taxes on financial instruments, a review by the central government of local government taxes, and revenue sharing and subsidy programs for local governments, including a scheme which could allow taxpayers to pay a portion of their local residential tax to the local government where they were born and raised but are no longer living. (Note: No specific mention was made of the Japan Business Council's request to lower the effective corporate tax rate, though presumably this too will be considered during the tax reform discussion. End Note.) Labor Market Reform: D -------------- ¶19. (C) What is most noticeable about the CEFP's labor proposals is their relative absence from the agenda. In December, CEFP private sector member and labor economist Naohiro Yashiro described grand plans for a "labor big bang" as a centerpiece of the Council's work in 2007 on the premise that improving labor productivity is key to addressing Japan's already-decreasing workforce and other longer-term demographic challenges. Yashiro argued persuasively for a deregulatory approach including creating a U.S-style "white collar exemption" from mandatory overtime pay and loosening the law governing temporary workers. Six months later, the MHLW legislation on a "white collar exemption" has been postponed, and the CEFP is no longer using the term "labor big bang." Instead, Yashiro has told us, labor reforms are on hold until after the Upper House elections. Several minor labor bills were presented at the Diet session, he explained, but political sensitivities prevented the CEFP from moving forward with the labor reform agenda. Medical Reform: C -------------- ¶20. (SBU) The CEFP report does not contain an extensive discussion of medical devices, but it does call for the steady implementation of the Five-Year Strategy for Innovative Pharmaceutical and Medical Devices Development put forth in 2006. That strategy includes some key issues that were brought up in the U.S.-Japan Regulatory Reform negotiations including shortening the time needed for launching new drugs, fostering medical venture capital companies and improving the environment for clinical trials, all of which were well-received by U.S. industry. The report also touches upon promoting the use of information technology in healthcare through such things as allowing online medical fee payments and receipts. However, CPRR's Furutachi told us that the CPRR had wanted to include specific steps and timelines in its report for medical sector reform in order to wrest control from the National HEALTH Insurance Organization (NHIO) and the Social Insurance Medical Fee Payment Fund (SIMF),two organizations that review all medical bills to ensure consumers are not overcharged for their treatments. TOKYO 00002964 006 OF 006 NHIO and SIMF are filled with former MHLW officials and, as such, any change to the status quo faces stiff opposition. Furutachi lamented that, even though the Ministry allowed some recommendations calling for reform, the wording is so ambiguous as to leave the Council's intent open to interpretation. The wording in the CEFP report reflects this ambiguity. Comment -------------- ¶21. (C) In September 2005, former PM Koizumi based the Lower House elections squarely on the issue of economic reform and won an historic victory. Less that two years later, his successor has apparently decided to downplay reform before the Upper House election. The LDP is widely expected to lose seats in the election but, if the loss is not considered too high, Abe is expected to remain PM. Under that scenario, it is unclear to us whether Abe will give decisive support to his reformist advisors in the battle with the bureaucracy and conservative LDP elements or continue to be unwilling or unable to lead a strong charge for economic reform. SCHIEFFER