Japan: Selected Issues

Abstract

Japan: Selected Issues

Labor Market and Wage Developments1

Japan’s labor market tightened considerably based on standard metrics. Still wage growth is only gradually picking up. A combination of cyclical and structural factors seem to be at play: a) residual slack in the economy—mainly due to a weak recovery in the manufacturing sector—is putting downward pressure on wages as employment is concentrated in the less productive services sectors and dominated by part-time employees; b) a trend increase in female labor force participation and the reversal of the cyclical decline in participation after the crisis could be dampening wage growth; c) structural characteristics of the Japanese labor market—the low horizontal mobility of regular workers, an industrial relations system emphasizing employment stability over wage increases, and limited wage bargaining power—tend to reduce wage pressures even in the face of a tight labor market. The labor market is projected to tighten further in the medium-term but weak demand prospects, coupled with a sluggish outlook for the manufacturing sector will continue to dampen wage growth in the near term.

A. Introduction

Japan’s labor market has tightened considerably in recent years based on a range of standard metrics. The unemployment rate has declined among all age groups and types of unemployed (e.g., long-term unemployed, involuntarily unemployed). At 3.3 percent it is below its pre-global financial crisis (GFC) trough of 3.7 percent. Alternative measures of labor underutilization taking into account discouraged workers, workers who are marginally attached to the labor force and part-time employment due to economic reasons all confirm a significant reduction in labor market slack.2 Furthermore, long-term unemployed and part-time engaged for economic reasons showed a cyclical increase during the GFC.3 Other indicators such as vacancy rates, the job applicant-to-openings ratio, and survey-based measures all indicate a considerable tightening in the labor market (Figure 1). Nonetheless, wages have remained sluggish, complicating efforts to durably exit from deflation and achieve stronger private-sector led growth.

Figure 1.
Figure 1.

Japan: Labor Market Indicators

Citation: IMF Staff Country Reports 2016, 268; 10.5089/9781475522525.002.A002

uA02fig01

Alternative Measures of Labor Underutilization

(In percent)

Citation: IMF Staff Country Reports 2016, 268; 10.5089/9781475522525.002.A002

Sources: Japan Labor Force Survey; and IMF staff calculations.
uA02fig02

Japan- Real GDP, Employment and Hours Worked

(level, 2007Q1=100)

Citation: IMF Staff Country Reports 2016, 268; 10.5089/9781475522525.002.A002

Sources: Haver Analytics; and IMF staff calculations.

Increasing tightness in the labor market coincided with the narrowing of the output gap, but there remains residual slack in the economy reflecting a slower recovery in the manufacturing sector. Although estimates of the output gap are highly uncertain, a range of estimates indicates it is still mildly negative, or at least not positive. Employment has recently reached its pre-crisis level, but its composition has shifted towards part-time workers, which accounts for the considerable decline in total hours worked. A low sensitivity of employment indicators to the cyclical position as well as labor market rigidities and mismatches could help explain the observed tightness in the labor market amid overall slack in the economy:

  • A weak relationship between unemployment and output in Japan: Estimates of Okun’s Law suggest that a 10 percent increase in output reduces unemployment by 1.2 percentage points based on Steinberg and Nakane (2011), which is lower than estimates for other G7 countries with an estimated response of about 4 percentage points.4 Indeed unemployment in Japan did not increase as much during the GFC, despite the relatively large decline in output. Steinberg and Nakane (2011) relate this feature of Japan’s labor market to the strong employment protection enjoyed by regular workers and high wage flexibility (owing to a relatively high share of bonus payments in total compensation). This suggests that in economic downturns firms tend to hoard labor, reducing work hours and wages rather than employment. In the recovery phase, the decline in the unemployment rate may hide residual labor market slack and not necessarily signal a strong cyclical recovery, consistent with the still-negative output gap and the fact that the unemployment rate has only recently reached its structural level based on some estimates (Figure 2)5.

  • Labor market mismatches: There is some evidence that labor market mismatches have increased—consistent with a shift in the Beveridge Curve in the 1990s—leading to a higher vacancy rate for a given level of unemployment (Figure 2).6 Recent staff analysis also points to increasing labor shortages in the services and construction sectors and among specialists and technicians (Ganelli and Miake (2015)).

Figure 2.
Figure 2.

Japan: Beveridge Curve and Structural Unemployment

Citation: IMF Staff Country Reports 2016, 268; 10.5089/9781475522525.002.A002

B. The Rise of Non-Regular Employment

Hourly wages have stagnated since the GFC, rising only gradually over the past couple of years. While some sectors continued to have positive wage growth (e.g., manufacturing, construction, wholesale and retail trade, communication), others stagnated (medical and health care, finance). Wages of part-time employees have fared better during the GFC, which probably reflects the limited scope to reduce wages given the already low levels of compensation for part-time workers and a lower share of variable compensation in total compensation (for example in the form of bonuses). More recently, the pick-up in wage growth has been more visible in sectors facing higher labor shortages (construction, accommodation and eating) and sectors with higher labor productivity (scientific research, manufacturing). Part-time workers have enjoyed higher wage growth since 2013 (increasing by 1.2 percent since end-2013, compared to a 0.3 percent increase for full-time employees), which probably reflects the rising demand for part-time workers and the stronger cyclical pick-up in the services sector (Figure 3).

Figure 3.
Figure 3.

Japan: Wage Developments

Citation: IMF Staff Country Reports 2016, 268; 10.5089/9781475522525.002.A002

uA02fig03

Real Compensation Growth and Unemployment Gap

(In percent)

Citation: IMF Staff Country Reports 2016, 268; 10.5089/9781475522525.002.A002

Sources: Haver Analytics; and IMF staff calculations

Composition effects (manufacturing versus services) are dampening wage growth, with the rising share of part-time workers playing a central role:

  • Two-speed recovery and the rising employment share of the non-manufacturing sector with lower labor productivity and wages: The great recession had a much larger impact on Japan’s manufacturing sector given declining external demand, a strong yen, and declining export prices. A sectoral breakdown of output and factor utilization since the crisis reveals continued residual slack in the manufacturing sector, while the services sector has performed relatively better (Figure 4). While the shift in employment towards services has been ongoing for some time, dampening wage growth (Sommer, 2009), this trend has accelerated during the post-crisis period with the two-speed recovery. Employment in both the manufacturing and the non-manufacturing sector declined during 2007–09, but while employment recovered in the non-manufacturing sectors since 2009, the manufacturing sector continued to shed employees. Comparing changes in employment for regular versus part-time employees, the differences are striking. Manufacturing has responded to the crisis by reducing its full-time employees, while the non-manufacturing sector substituted part-time workers for regular workers at the peak of the crisis, but afterwards started to employ both full-time and part-time workers. The higher level of and growth in labor productivity and wages in the manufacturing sector imply that the rising share of non-manufacturing employment has been putting continued downward pressure on wages since the GFC.

  • General increase in the share of part-time employment: The increasing share of part-time employment has been a key determinant of declining average wage growth (Figure 5). This phenomenon goes beyond sectoral composition effects. In fact, only 1 percentage point of the increase in the part-time employment share since 2007 can be explained by the change in the composition of employment towards sectors that already had higher part-time employment. The remaining 4 percentage points increase reflects the rising part-time employment within individual industries.

Figure 4.
Figure 4.

Japan: Sectoral Composition of Growth and Employment

Citation: IMF Staff Country Reports 2016, 268; 10.5089/9781475522525.002.A002

Figure 5.
Figure 5.

Japan: Part-time Employment

Citation: IMF Staff Country Reports 2016, 268; 10.5089/9781475522525.002.A002

Consistent with the findings in Sommer (2009) and Steinberg and Nakane (2011), updated estimates of the impact of the aging of working adults using a constant age-earnings profile suggest no negative impact given that the increase in older workers with lower wages is offset by an increase in workers in their peak-earning years and a decline in young workers with similarly low earnings.

C. Sluggish Wage Growth

Lack of strong wage pressures could reflect residual slack in the labor market, associated with a rise in labor force participation. In particular:

  • A reversal of the cyclical decline in the labor force participation rate (LFPR). LFPR declined during the 1997, 2001, and 2008 recessions. However, considering structural changes such as the age composition of the population and the trend increase in female LFPR are important for its behavior over the cycle. Figure 6 (first and second charts) shows that aging of the work force has indeed put downward pressure on the LFPR for both male and female workers, contributing to a decline of close to 3 percentage points since 2007.7 The male LFPR has declined more than explained by demographics alone, while the opposite is true for the female LFPR which has increased despite the downward pressure from aging. The increase in female LFPR could be due to structural factors such as improvements in the availability of childcare and more flexible working hours, but it could also reflect cyclical factors if for instance more women decide to join the labor force to support household income.8 Staff estimates using prefectural level data suggests a modest but statistically significant impact of cyclical conditions on LFPRs, accounting for a decline of about 0.4 percentage points during 2007–15 at the aggregate level.9

  • Trend increase in labor force participation rates among female and older workers. Although Japan’s working-age population is declining, there has been a significant increase in the labor force participation rate, especially for female workers among all age groups and more recently for older workers. While there could be a cyclical element in the increase in LFPR among certain groups, a continued trend increase in participation rates due to structural factors could contribute to labor market slack.10

Figure 6.
Figure 6.

Japan: Labor Force Participation

Citation: IMF Staff Country Reports 2016, 268; 10.5089/9781475522525.002.A002

Source: Haver Analytics.

Structural characteristics of the Japanese labor market tend to dampen wage growth even in the face of a tight labor market. These include:

  • The low horizontal mobility of regular workers. Under Japan’s lifetime employment system, a wage increase in competitor firms may not create wage pressure, because workers are unlikely to switch jobs. By the same token, firms do not have incentives to raise wages to try to fill positions. In addition, Japanese regular workers are typically hired as generalists. They are expected to work in several different positions and duty stations within the company. This employment model reduces incentives and needs for firms to increase wages to attract workers from outside to fill specific positions, because existing workers can be reassigned.

  • An industrial relations system emphasizing employment stability over wage increases. Unions and workers have been willing to accept wage moderation in exchange for low unemployment and employment stability (of regular workers).

  • Limited wage bargaining power. Japan’s labor market is characterized by extreme duality. In the past, most workers were hired under life-time contracts. Wage bargaining took place at the firm level in coordinated industry-wide bargaining rounds, the so-called Shunto (Box 1). However, with the rapid rise in the share of non-regular workers, the importance of the Shunto has waned. Unionization rates have declined and labor conflicts have all but disappeared, suggesting a fall in the wage bargaining power of labor. As a further indication, real wages have not kept up with productivity over the past two decades, more so than in most comparable economies. These developments have contributed to Japan slipping into and staying in a liquidity trap (Porcellachia (2016)).

Low actual and expected inflation have contributed to stagnant nominal wages. An entrenched deflationary mindset and backward-looking inflation expectations are generating weak nominal wage growth. Unions and employees look at past headline inflation in their negotiations, rather than setting wages in anticipation of higher future prices. Public wage setting takes the same approach following developments in the private sector rather than leading in line with the authorities’ inflation targets.

D. Conclusions

Japan’s labor market has tightened considerably, but wage growth remains subdued. A combination of cyclical and structural factors seem to be at play, including a weak recovery in the manufacturing sector, a shift towards the less productive services sectors, a rising share of part-time employees, a trend increase in female labor force participation, as well as structural characteristics of the Japanese labor market—the low horizontal mobility of regular workers, an industrial relations system emphasizing employment stability over wage increases, and limited wage bargaining power. Although, the labor market is projected to tighten further in the medium-term, without addressing these bottlenecks, wage-price dynamics will only very gradually strengthen.

Wage Setting in Japan 1

Private Sector Wages

Japan’s wage setting mechanism, the so-called Shunto, is an annual synchronized wage negotiation exercise. Although wages are formally determined by negotiations between individual companies and their enterprise unions, there is a strong demonstration effect from a handful of firms in major industries (e.g., automobiles and electronics), affecting the entire economy.

uA02fig04

Wage Growth

Citation: IMF Staff Country Reports 2016, 268; 10.5089/9781475522525.002.A002

Source: Ministry of Health, Labor and Welfare

The Shunto system was developed in the 1950s to boost the bargaining power of unions through industry-wide simultaneous negotiations, but its influence has been waning in recent years. With the rise of the share of non-regular workers and reduced reliance on seniority-based wage increases, the influence of Shunto negotiations has been decreasing. Nominal overall wage growth was negative in most years from the late 1990s, despite Shunto wage growth remaining constant at about 2 percent (chart). Many workers in companies not directly included in the Shunto received less than what agreed in the negotiations. The 2015 Shunto resulted in average wage growth of 2.2 percent for large enterprises and 1.9 percent for SMEs, compared to the union request for a hike of 3.7 percent. The early results of the 2016 Shunto suggest weaker base pay hikes relative to last year.

The government has become involved directly in discussions on wages with employers and trade unions through the Tripartite Commission (TC). Through the TC, the government has been exerting “moral suasion”, by explicitly asking profit-making companies to increase wages. While this strategy has probably contributed to the positive nominal wage growth observed recently, it is not delivering the substantial wage growth which Japan needs to get out of deflation.

Public Sector and Minimum Wages

Under the current institutional arrangements, the government has limited room in influencing average wage growth through public worker wage increases, since the latter follow those in the private sector. Every year, the National Personnel Authority (NPA) publishes a recommendation for public wage hikes, which is expected to ensure appropriate remuneration of public employees in accordance with general social conditions. In practice, the recommendation implies that wage developments in the public sector follow those in the private sector.

uA02fig05

Average Minimum Wage

(In yen; per hour)

Citation: IMF Staff Country Reports 2016, 268; 10.5089/9781475522525.002.A002

Source: Ministry of Health Labour and Welfare

In November 2015, the Abe administration called for raising the minimum wage by 3 percent per year, as part of its efforts to increase the nominal GDP to JPY 600 trillion (see also Chapter 3). Japan has a minimum wage system which, although set at the prefectural level, can be significantly influenced by the central government. The Central Minimum Wage Council, an advisory body for the Ministry of Health, Labor and Welfare, makes recommendations on prefectural minimum wage increases. Based on the panel’s recommendations and taking local conditions into consideration, local councils decide on the actual minimum wage level for each prefecture. Although the recommendation by the central council is not legally binding, in practice it provides a lower bound. The announced intention to raise the minimum wage by 3 percent per year, which will result in a hike from JPY 798 per hour to over JPY 1,000 by fiscal year 2023, seems an ambitious target in a historical perspective (see chart). Staff estimates suggest that increasing the minimum wage can help boost average wage growth: a 1 percent increase in minimum wage growth is estimated to increase average wage growth by about ½ percentage points (Aoyagi, Ganelli and Tawk, 2016).

1 Prepared by Chie Aoyagi, Giovanni Ganelli, Naoko Miake, and Nour Tawk.

References

  • Aoyagi, C., G. Ganelli, and N. Tawk, 2016, “Minimum Wages as a Policy Tool,forthcoming IMF Working Paper.

  • Balakrishnan, R, M. Das and P. Kannan, “Unemployment Dynamics during Recessions and Recoveries: Okun’s Law and Beyond,World Economic Outlook, April 2010, World Economic and Financial Surveys (Washington).

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  • Ganelli, G. and N. Miake, 2015, “Foreign Help Wanted: Easing Japan’s Labor Shortages,IMF working Paper 15/181.

  • Ganelli, G. and N. Miake, 2016, “A Silver Lining?: Elderly Employment in Japan,forthcoming IMF Working Paper.

  • Hara, N., N. Hirakata, Y. Inomata, S. Ito, T. Kawamoto, T. Kurozumi, M. Minegishi and I. Takagawa, 2006, “The New Estimates of Output Gap and Potential Growth Rate,Bank of Japan Review, 2006-E-3.

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  • Kawata, H. and S. Naganuma, 2010, “Labor Force Participation Rate in Japan,Bank of Japan Review, 2010-E-7.

  • Naganuma, S. and Y. Uno, 2016, “Long-term Unemployment in Japan”, Bank of Japan Research LAB No. 16-E-1, April 13, 2016.

  • Porcellachia, D., 2016, “Wage-Price Dynamics and Structural Reforms in Japan,IMF Working Paper 16/20.

  • Shibata, I, 2013, “Is Labor Market Mismatch a Big Deal in Japan?IMF Working Paper 13/196.

  • Sommer, M. 2009, “Why Are Japanese Wages So Sluggish?IMF Working Paper 09/97.

  • Steinberg, C. and M. Nakane, 2011, “To Fire or to Hoard? Explaining Japan’s Labor Market Response in the Great Recession,IMF Working Paper 11/15.

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1

Prepared by Elif Arbatli (APD).

2

Workers who are marginally attached to the labor force are those who currently are neither working nor looking for work but indicate that they want a job and have looked for work sometime in the past 12 months. Discouraged workers, a subset of the marginally attached, have given a job-market related reason for not currently looking for work. Persons employed part time for economic reasons are those who work less than 35 hours per week and want to work more hours.

3

Naganuma and Uno (2016) find that long-term unemployed (unemployed for more than one-year) do not have a significant effect on nominal wages in Japan.

4

Steinberg and Nakane (2011) find that the response of unemployment to output is asymmetric and depends on the position in the cycle, with a larger response in downturns (a coefficient of 0.24) than in recoveries (a coefficient of 0.12). See Balakrishnan, Das, and Kannan (2010) for G7 estimates.

5

One approach following Hara et. al. (2006) is to calculate “structural” unemployment over time using the position of unemployment and the vacancy rate at any point in time relative to the 45-degree line and assuming a similar slope as observed during 1988-1993 to compute the level of structural unemployment. To control for the impact of demographic changes on the unemployment rate over time, we conduct this exercise using a demographics-adjusted unemployment rate constructed by holding the age-composition labor force constant over time (at 1990 levels).

6

Findings in Shibata (2013) indeed suggest an important role for labor market mismatches in Japan.

7

Figures show the impact of the changing age composition of the labor force, holding the level of age-specific LFPRs constant at their 2007 level, and projecting aggregate LFPR based on actual population dynamics.

8

Kawata and Naganuma (2010) note that there were both “discouraged worker” and “household assistance” effects in Japan’s LFPR behavior after the GFC.

9

The estimates use prefectural data to exploit heterogeneity in cyclical conditions. The degree of cyclical downturn is proxied using the percentage change in employment during 2007–09 which was regressed on the change in LFPR during 2007–15, controlling for prefecture-level changes in the population’s age composition.

10

Recent work on the employment of older workers in Japan suggests that there is scope to further raise the labor force participation of this group (Ganelli and Miake (2016)).

Japan: Selected Issues
Author: International Monetary Fund. Asia and Pacific Dept