Australia and Japan - How distance and complementarity shape a remarkable commercial relationship
Key points
- Japan continues to be a vital partner in Australia's prosperity, supplying Australia with much-needed imports and buying more of Australia's exports than any other country.
- The trade relationship is changing: many of the inputs previously sourced from Japan that have helped Australia lift its productivity (such as computers and electrical equipment and machinery) are increasingly imported from Japanese firms in third countries, especially China and ASEAN nations. These changing business patterns are also resulting in increasing exports by Australia to those countries.
- Investment in Australia by Japanese firms, which played a crucial role in the development of major export industries (resources, energy and agrifood), is continuing, with Japanese firms increasingly having a more direct involvement than in the past.
- Portfolio investment and other capital flows are an additional, important connection between the two economies.
- Beyond the relatively clearly defined and well-known strengths, the trade and investment relationship in areas such as services seems less robust than might be expected.
Chapter 1 - A remarkable relationship
Most of the world's largest bilateral commercial relationships are between countries that are geographic neighbours, share a common cultural, political or legal heritage, have former colonial ties and/or are partners in a preferential trade agreement. None of these link Australia and Japan, yet the commercial relationship between them has been and remains both huge and crucial to the economic fortunes of both countries (Figure 1.1). Japan was Australia's largest single trading partner from 1971-722-for all but a few years in the late 1990s and early 2000s when it was a close second to the United States-until that position was overtaken by China in 2007. And Japan remains (as it has been since 1966-67) Australia's largest export market for goods and services, by a margin of 25 per cent over China for exports of goods alone. All in all, Japan bought just under 19 per cent of Australia's merchandise exports in 2007.
Figure 1.1
Australia's economy has grown strongly in tandem with trade with Japan
Australia's total imports from and exports to Japan, and Australian GDP, 1955-56 to 2007-08
Note: As services trade data are not available before 1966-67, the figures for those years are for merchandise trade only.Sources: DFAT STARS database; ABS (2008a, 2008c, 2008d).
Confirmation that China has outstripped Japan as a trading partner in terms of total trade (goods and services) may well provoke some soul-searching about the future of the relationship. But a quick look at some more detailed statistics demonstrates just how large and healthy the relationship is and how important to the economic well-being of both countries are the goods each imports from the other; and a qualitative analysis underlines the significance to both countries of the vast trade in energy, resources and food.
One indication of just how remarkable the trade relationship is can be gleaned from the indexes of bilateral trade intensity (Table 1.1). These show that Japan's imports of goods from Australia are considerably greater than would be expected given the share of the two countries in world trade (an index greater than 1 shows higher than expected trade). The same is also true for Australia's imports of goods from
Japan (although the index is much lower) and, perhaps surprisingly, for services trade in both directions.
Table 1.1
Australia and Japan trade more than might be expected
Trade intensity indexes for goods and services trade between Australia and Japan
| 2002 | 2003 | 2004 | |
|---|---|---|---|
| Goods: Australian exports to Japan | 4.32 | 4.40 | 4.73 |
| Goods: Japanese exports to Australia | 1.86 | 1.85 | 1.70 |
| Services: Australian exports to Japan | 1.80 | 1.63 | 1.55 |
| Services: Japanese exports to Australia | 1.40 | 1.43 | 1.16 |
Note: This table shows the basic trade intensities for trade between Australia and Japan. An index above 1 indicates that bilateral trade is greater than proportional to the role of each in world trade.Source: Corbett et al. (2008).
Another statistical indicator of the importance of the relationship is that Australia has had an often sizeable trade surplus (exports of goods and services minus imports) with Japan. This matters not because a surplus is of itself desirable (as the mercantilists thought) but because it reminds us that a critical element of trade is the benefit derived from importing what one needs. Thus, while a long-term constant in trade between Australia and Japan, Australia's surplus has rarely been an issue in a relationship that has delivered significant benefits to both countries. The magnitude of the surplus puts the size and importance of the relationship between Australia and Japan clearly into perspective: in 2007, it was of the same order as Australia's total trade in goods (exports plus imports) with its fifth-ranked trading partner, New Zealand; and the growth in Australia's merchandise trade with Japan between 2003 and 2007, at more than $14 billion, was greater than its total 2007 trade in goods and services with the fastest-growing major trading partner in that period, India. Trend growth in Australian merchandise exports to Japan over the five-year period to 2007 was a robust 10.7 per cent.
Japan is a key destination for much of what Australia exports. Japan buys more than any other country of five of Australia's ten most valuable merchandise exports: coal, aluminium, natural gas, bovine meat and copper ores. Of the remaining five, it ranks second among purchasers of iron ore, Australia's second most valuable export; and third among buyers of crude petroleum, Australia's fourth most valuable export. It also is the largest customer for Australian cheese and curd, seafood, uranium,3 woodchips, animal feed and liquefied butane and propane gas.
Australia, though a much smaller economy than Japan, ranks fifth among its trading partners as a source of imports. Australia's exports of raw materials have played an important role in Japan's own development. Starting with coal and wool, and later including iron ore, non-ferrous metals and liquefied natural gas (LNG), these imports from Australia were vital inputs to the manufacture of products whose export helped Japan develop into an economic giant. Japan already sources more of its energy imports from Australia than any other country, outstripping Saudi Arabia; and Australia's position will only be enhanced by the entry into force of a range of major LNG contracts from 2015 at the same time as Indonesian and Malaysian exports to Japan wind down; and by increased Japanese interest in uranium as a source of energy. In 2007 Australia supplied the majority of Japan's imports of coal (62.5 per cent), iron ore (52.4 per cent), silica and quartz sands (62.6 per cent) and zirconium (56.6 per cent). In addition, it was the principal supplier of uranium, gold, lead, ferro-manganese, bauxite and alumina, titanium and ilmenite; and the second-ranked source of imports of aluminium, nickel, zinc and manganese.
Australia has been an avid consumer of Japanese products throughout the postwar period as well. Imports from Japan were crucial from the early post-war period in meeting demand in Australia for both consumer goods and industrial equipment and machinery. In the late 1940s, for example, Australia's requirement for ceramic insulators-essential in the development of its electricity grid-was a significant factor providing impetus to its efforts to reopen trade with Japan in the post-war period (Rix 1986). The propensity of Australia's people to buy Japanese goods is extremely high by comparison with comparable trading partners; and growth in per capita purchases has also been relatively rapid in recent times (Table 1.2).
Table 1.2
Australians lap up Japanese products
Japan's exports per person in importing country, 2002 and 2007 (US$)
| 2002 | 2007 | |
| Australia | 435.0 | 716.9 |
| New Zealand | 455.3 | 687.4 |
| United States | 432.6 | 494.8 |
| United Kingdom | 215.0 | 256.5 |
| New Zealand | 455.3 | 687.4 |
Sources: UN data on the DFAT STARS database; IMF World Economic Outlook database.
The connection is particularly strong in the automotive sector:4 many more passenger motor vehicles are imported into Australia from Japan than from any other country, and Japanese firms are major investors in the industries of two of the other key exporters of these products to Australia-Thailand (fourth in 2007) and South Africa (sixth in 2007). Japan is also the largest exporter of motorcycles and rubber tyres to Australia, and the second-largest source of imported vehicles for transporting goods (after Thailand, where Japanese investment again plays a major role in production), other motor vehicles, and motor vehicle parts. Despite its relatively small population, Australia is the third-largest single market for new passenger motor vehicles manufactured in Japan. Underscoring the closeness of the relationship in this sector, Toyota Australia, a Japanese-owned company, is the largest exporter of passenger motor vehicles from Australia. A significant proportion of the production from Toyota's Altona factory in Victoria is exported (approximately 100,000 vehicles in 2007), to 23 markets mostly in the Middle East and Persian Gulf but also in South-East Asia, South Africa and the Pacific.
The example of the automotive industry demonstrates the multifaceted nature of the interaction between the economies of Australia and Japan. In many areas- notably computer equipment, televisions and other consumer electronic and electrical goods, and communications equipment-Japan has lost its former preeminence as an exporter of manufactures to Australia, often to Japanese affiliates now located in other parts of the region as a result of the investment and trading decisions of those companies. These affiliates, in turn, are contributing to demand for Australian exports of raw materials to other parts of the region-in a similar way to that exemplified by wool (see Box 1.1), where direct exports to Japan, once huge, are now negligible, but Japanese demand remains important to Australia's wool trade.
Box 1.1 The evolution of Australia's wool trade with Japan
Wool became an important component of trade between Australia and Japan in the late 19th century, as natural fibre processing and textile manufacturing formed an important part of Japan's early industrialisation. A Japanese delegation visited Australia in 1878 to examine the possibility of buying Australian wool. In 1888 the first exports were recorded, for the significant quantity of 196,561 pounds' weight of wool from Victoria, and, the year after, a small Japanese trading house was established to facilitate the trade. Japan's purchases of wool continued to grow-with the big trading houses (sogo shosha) becoming involved in the 20th century-and by 1935 it was a major component of trade between the two countries.
The significance of wool in bilateral trade was again evident when trade resumed after World War II. By the mid-1950s, three-quarters of Japan's imports from Australia were wool, and Japan was Australia's largest export market for wool. Even as late as 1989 wool was Australia's fourth-largest export to Japan by value, and wool exports were worth almost as much as exports of iron ore (see Figure 1.5).
However, changes and restructuring in the global production of fibre, textiles and apparel, with substantial relocation of fibre processing and textile and apparel manufacturing to lower-cost economies, together with declines in domestic demand and changes in Japanese retailing and distribution (AJRC 2003), caused major adjustments in the size and quality of the wool trade with Australia. Japanese firms were at the forefront of this restructuring and, from the late 1980s, moved a major part of their wool processing capacity to China to take advantage of lower labour costs, as well as the highly labour-intensive stages of production such as apparel making.
Consequently, in a few years in the early to mid-1990s Japan went from being the world's largest importer of wool to the fourth largest. Japan imported 81,277 tonnes in 1994 from Australia, which was worth $573 million, but, by 2007, imports had shrunk to 3,845 tonnes worth $30 million. The composition of Australian wool exports to Japan also changed. By 2001 virtually no greasy wool was being exported to Japan, and much of the processed wool was fine or super-fine (<20 microns).
While direct trade in wool between Australia and Japan may be 'dead' (AJRC 2003: 1), to some extent it has been replaced by indirect trade, often to Japanese firms operating offshore and sometimes to local firms in China, Malaysia, Taiwan and Thailand where early stage processing (converting raw wool into tops) is now taking place. Taiwan and Thailand produce no wool domestically and Malaysia only a little. As well, China, principally, and other countries in the region are also the sources of Japan's increased imports of yarn and clothing. All are major export markets for Australian wool. This suggests that, for the Japanese market, Australian wool is exported indirectly, after processing offshore. Change continues: as with some other industrial products (such as flat-screen televisions) some specialised production is returning to Japan. Processing and production of wool yarn and wool fabrics increased in 2006. As well, other firms involved in the industry continue to restructure their operations (for example, Itochu Corporation withdrew from auction-based wool sales in 2007 after 40 years of being the largest purchaser at such sales).
'Made in Japan' has increasingly become 'made by Japan elsewhere'. The ratio of manufacturing by Japanese (multinational) companies outside Japan to manufacturing production within it has moved significantly in favour of the former. Toyota, Honda, Sanyo, Sharp, Sony, Hitachi, Panasonic and others continue to record strong sales in Australia, but these sales (from offshore affiliates in China and the ASEAN countries) may no longer show up in Australia-Japan bilateral trade statistics.
Likewise, demand from Japan (and to some extent involvement by Japanese trading houses) still drives many of Australia's wool exports-but, as Box 1.1 shows, the fragmentation of production and growth of supply chains means that initial processing, once done in Japan, now takes place in ASEAN countries or China. Accordingly, the 'reality' shown by the trade figures-that there is only a minuscule bilateral trade in the commodity that once accounted for some 75 per cent of Australia's exports to Japan-is a misleading one. While quantification is difficult, it seems clear that Japanese firms still account, in one way or another, for much more of Australia's trade in both directions than the raw figures show.
The close link between direct investment and trade
The importance of the contribution made by Australian primary products to Japan's 'economic miracle' and the critical need for Japanese purchasers to achieve reliability of supply quickly drew Japanese consumers and Australian producers into a cooperative relationship. Japanese demand for raw materials and Japanese investment have been crucial in the development of many of Australia's key export industries and, consequently, central to Australia's own prosperity.
Box 1.2 The big picture
Japan is an important investor in Australia. The total stock of Japanese investment in Australia in 2007 was slightly more than $57.5 billion.5 This was
3.5 per cent of total foreign investment in Australia, with Japan ranking third as a source of investment, behind the United States and the United Kingdom and ahead of New Zealand, Hong Kong, the Netherlands and Singapore, a ranking it has held for many years. Almost half of this ($27 billion) was direct investment. This was 7.2 per cent of the total stock of foreign direct investment in Australia- and, as for total investment, Japan ranked third. Since 2001, while the stock of total Japanese investment has been steady, direct investment has increased by 65 per cent, driven by rising investment in finance and insurance in particular and, to a lesser extent, manufacturing. Notwithstanding this rapid increase, Japan's share of inward direct investment in Australia has fallen slightly as inward investment from other countries has grown more quickly.
Australia has figured prominently as a destination of choice for Japanese investors. In 2007, 2.7 per cent of Japanese direct investment was in Australia and Australia ranked eighth among the destinations for such investment. According to Japanese data, while the stock of investment grew almost 25 per cent between 1996 and 2007 and Australia's ranking was similar, Australia's share of Japanese foreign direct investment had fallen from 3.6 per cent.
In contrast, Japan is a prime destination for portfolio investment from Australia but not for direct investment. The stock of total Australian investment in Japan in 2007 was $35.1 billion. This was 3.6 per cent of Australian investment abroad. The fall in Australian investment in Japan in 2007 meant that Japan's ranking slipped from fourth-behind the United States, the United Kingdom and New Zealand, a ranking it had held for many years-to sixth, as more Australian investment went into Germany and the Netherlands. The vast majority of this was portfolio and other investment; the Australian Bureau of Statistics recorded Australian direct investment stocks in Japan of only $386 million. (Japanese authorities have a higher figure and anecdotal evidence suggests direct investment is more substantial; a partial explanation for the discrepancy may be that Australian companies book the investment through other foreign subsidiaries, with the result that the investment is not recorded as coming from Australia.) This was 0.1 per cent of the stock of Australian direct investment abroad and, while data confidentiality means an accurate ranking is difficult, Australian direct investment in a large number of North American, European and other Asian countries exceeds that in Japan. While Australian direct investment in Japan has never been great, there has been some disinvestment in recent years, with the stock falling from $811 million in 2002.
The small stock of Australian foreign direct investment is consistent with the low levels of direct investment from all sources in Japan: Australia ranks 14th among foreign investors in Japan, with almost 0.5 per cent of the stock of foreign direct investment in Japan. Australia's ranking among foreign investors in Japan has remained steady during the past decade, even though the stock has increased from 1996 when, according to Japanese data, it represented less than 0.08 per cent of the stock of foreign direct investment.
Starting in the 1890s, Japanese trading houses helped develop an alternative export market for wool-until then almost the entire clip had been shipped to Britain. Similarly, in the 1960s and subsequent decades, long-term contracts from Japanese users of minerals and energy and investment by trading houses such as Mitsui and Mitsubishi enabled mines and gas fields to be developed and the necessary infrastructure to be put in place to exploit these resources and then export them, both to Japan and to third countries.
Box 1.3 Japan's role in developing Australia's resources and energy industries
Japanese trading companies remain important players in developing Australia's resources and energy industries. One of the early investments, which was critical in the growth and expansion of the coal trade between the two countries (and the development of Australia's coal export industry to other markets) was in 1963 when Mitsui, which had a contract to supply three million tonnes of coal a year in Japan, participated in a joint venture with Australian mining contractor Thiess Brothers and US coal company Peabody to develop the Moura coal mine (now part of the Dawson complex) in central Queensland.
Many subsequent investments in the resources and energy sectors followed the same model: partial investment by one or more Japanese trading companies based on long-term contracts with Japanese customers-direct investment by the customers was less common-including the development of the necessary infrastructure to ensure efficient transportation of the resource to a port from where it could be shipped to Japan. This investment extended across those mineral and energy commodities of interest to a rapidly growing Japan with few resources of its own, especially iron ore, steaming coal (for electricity generation) and metallurgical coal (for steel production). Examples include the participation by Mitsui, Nippon Steel and Sumitomo in the development of the Robe River iron ore deposits in north-west Western Australia, and the one-sixth interest of Japan Australia LNG (MIMI) Pty Ltd (jointly owned by Mitsubishi and Mitsui) in the North West Shelf gas fields.
A number of aspects of this approach helped to make it work well. One central element was the use of long-term contracts which, by guaranteeing Japanese demand, provided a secure base for investment by the Australian partners. Another key element was the joint venture structure, based on minority shares in the project, rather than full or partial control of the Australian firms with which they were partners.
There have been some changes to this model, chief among them an increase in investment level by Japanese investors. In Australia's coal industry, for example, some Japanese firms are now significant investors, in both mines and coal-related infrastructure. Mitsubishi is a 50 per cent shareholder with BHP Billiton in its coal mine operations in the Bowen basin in central Queensland. This includes 50 per cent ownership of the Hay Point Coal terminal where the coal is loaded. Japanese companies are also investors in the Newcastle coal terminal. Mitsubishi is also a 50 per cent shareholder in the company selected to develop a deepwater port north of Geraldton through which iron ore from the mid-west region of Western Australia could be exported.
Another change is that, increasingly, the end users of the products in Japan are becoming directly involved in the projects, rather than relying on investment by, or in conjunction with, trading houses.
For example, two of the major customers for LNG from the North West Shelf, Tokyo Gas and Kansai Electric, have become partners of Woodside in the development of the Pluto field (Kansai Electric has established an office in Western Australia to manage its involvement; Tokyo Gas and other utilities such as Osaka Gas already have Australian offices); and Tokyo Electric and Tokyo Gas, together with Japanese oil and gas firm INPEX, are partners in the joint venture developing the Bayu-Undan gas field between Darwin and East Timor. One example that highlights both these trends is the Ensham coal mine in central Queensland, which is 85 per cent owned by Idemitsu, a privately owned energy company, with another 10 per cent held by J-Power, a power utility company (Mayne 2008).
These trends may develop further if the approach taken to investment in and development of the Ichthys gas and condensate resource off Western Australia's Kimberley coast is followed. This is seen as a 'flagship' Japanese national project. It is the first time that a Japanese firm (INPEX Corporation) has taken the reins as operator of a major LNG project in Australia. The role of INPEX is also notable because its major shareholder is the Japanese Government. Other shareholders include Japanese oil and gas suppliers and trading companies. This project will likely be one of the largest, if not the largest, single investment in Australia by Japan.
An additional dimension to Japanese investment in the resources and energy sectors is the establishment or expansion of Australian operations by specialist service providers. For example, Komatsu, the heavy equipment manufacturer, expanded its mining equipment repair facility operations in 2008 in response to the growing demand from the mining boom; and Chiyoda Corporation, which manages the construction of LNG plants, established an Australian unit as part of its work with Woodside.
More recently, as Japan's market for beef opened, Japanese investment and demand have been key factors in the development of a grain-fed beef industry in Australia. As Box 1.4 demonstrates, this is but one aspect of a wide-ranging trade and investment relationship in the agrifood sector. These developments have had a major impact in increasing the number and quality of jobs available to Australians.
Box 1.4 Agrifood investment closely linked to trade
Food and agriculture are important components of the commercial relationship between Australia and Japan. As Japan's self-sufficiency in food production declined during the 1960s and subsequent years, Australia became an important source of imports for a wide range of agrifood products, supplying 9 per cent (in total, by value) in 2007 and ranking behind only the United States (31 per cent), the European Union (13 per cent) and China (13 per cent) (MAFF 2008).
Japan is-and has been for several decades-the single largest export market for Australian agrifood products. In 2007, of Australia's total agrifood exports to the world of $22 billion, $4.3 billion worth was exported to Japan, over $1 billion more than to the next largest destination, the United States. Even as other markets have been growing in significance, especially in Asia (where 12 of Australia's top 20 agrifood export markets were in 2007), Japan has continued to purchase over 20 per cent of Australia's agrifood exports to the world, including during the 1990s decade-long slowdown of the Japanese economy.
Of particular importance for Australia's farmers, fishermen, and food and beverage producers, Japan purchases a broad range of Australian agrifood products, in contrast to the often much narrower range of products accounting for Australian exports to other significant markets (for example, since the mid1990s, 60-70 per cent of the United Kingdom's agrifood imports from Australia have been wine). Japan is one of the most important markets for Australian beef and veal, fish and seafood, and pet food, as well as for Australian processed foods and beverages, such as ice cream, chocolate, pasta and fruit juice. In addition, Japan is also a leading customer for wheat, sugar, barley, livestock feeds such as hay, and certain oilseeds (mainly canola and cottonseed).
Japanese direct investment continues to play a major role in driving the development of Australian agrifood exports to Japan. Australia has generally tended to develop strong market shares in Japanese imports in products where there has been strong Japanese direct investment in that sector in Australia, with beef the most prominent example. Australian agrifood exports to Japan have tended to perform less well in sectors where there is little Japanese direct investment, such as in wine.
Similarly to the way that the big Japanese trading houses played a fundamental role in establishing reliable global lines of supply for sourcing minerals and energy materials as crucial inputs for Japan's post-war industrial growth, so they also moved to form close relationships with major international suppliers of key agrifood materials, in particular grains, oilseeds, meat and dairy ingredients, to supply to Japanese food processors. This was the key driver of the first stage of Japan's outward direct investment in agriculture and food production.
The initial focus of the big trading houses in relation to Australian agricultural and food materials after their establishment (or re-establishment) of subsidiaries around the time of the 1957 Agreement on Commerce was on sourcing grains, livestock feed, oilseeds and dairy ingredients; as Japanese incomes rose and food consumption expanded in volume, range and quality, sourcing also embraced meat (mainly beef) and seafood.
In the 1970s there appeared to be the start of a second stage in Japanese outward direct investment in agriculture and food production, as leading Japanese agrifood companies started to make their own direct investments in agricultural production and food processing, some in joint ventures with the trading houses, and some independently or in joint ventures with local companies. Examples included leading beer company Kirin in barley malt production in Western Australia, leading dairy company Snow Brand in dairy ingredients processing in Victoria, and Nippon Meat Packers in cattle raising, feedlotting and processing in eastern Australia. While the main purpose of this investment was still primarily to supply the Japanese market, it also indicated closer integration of supply chains between Australia and Japan.
Changes in the 1990s-the appreciation of the yen, the higher level of incomes in Japan, greater price consciousness among Japanese consumers following the end of Japan's economic 'bubble' with consequently greater competition among Japanese food companies and lower margins, and the rising incomes and changing consumption patterns in other Asian economies-contributed to a rethinking of long-term growth strategies by leading Japanese food companies. This set off a new stage of Japanese outward investment in agricultural and food production abroad, aimed at supplying not only Japan but also other markets, and at positioning these companies as regional or even global players.
As part of this, Australia was perceived as both a prospective consumer market for a range of Japanese-style food products (for example, in 1993 lactic beverages maker Yakult established a manufacturing plant at Dandenong in Victoria to supply the Australian market), and a good food production base for supplying other markets (for example, in 1993 Snow Brand Milk Products established its plant at Tatura in Victoria for processing infant milk powder for supply to Asian markets). As agricultural production contracted in some sectors in Japan, Australia was also regarded as a viable alternative production base.
Examples include leading Japanese beverage maker Ito En's setting up operations in Australia in 1994 to contract Victorian farmers to grow green tea for processing in the company's purpose-built plant near Wangaratta for export back to Japan; and Nippon Meat Packers' investment between 2000 and 2008 in establishing a state-of-the-art integrated piggery (with a 50,000pig capacity) in the Darling Downs region of Queensland, to supply both the local and export markets. Of particular note has been the expanding role of the Kirin Group in Australia's agrifood industry. From 1998 it began building up its major shareholding in the Lion Nathan brewing group; in 2006 it acquired South Australian alcoholic beverage company Two Dogs; in 2007 it added premium Tasmanian brewer J Boag to its stable as well as dairy and juice producer National Foods; and in 2008 it acquired Dairy Farmers (DFAT forthcoming).
Australia has also come to be regarded as a significant partner for R&D in agrifood, seen for example in Sapporo's R&D partnership with the University of Adelaide in developing malting barley varieties (DFAT forthcoming).
With the advent of heightened global consumer sensitivity to food safety, product integrity, component traceability, and minimal environmental footprint, as part of the modern package of food quality, Australia's reputation for high standards and proven integrity in all these areas has been a further spur to link-ups between Japanese food and beverage companies and Australian agrifood producers all along the chain.
The benefits of trade with Japan (and the associated investment) extend beyond sales in the Japanese market. This trade played an important role in the expansion of Australia's agrifood sector in the post-war period, and in assisting Australian producers to adapt to non-Western consumer demands, with spinoffs for other markets. At the same time, the reliable supply links developed with Australia have contributed significantly to the growth and expansion beyond their home market of many of Japan's agrifood companies and the food businesses of the Japanese trading houses. With the continuing strong growth of global agrifood demand, especially in the developing economies of Asia, there is considerable scope for greater interaction between Australia and Japan (DFAT forthcoming).
While the resources and energy sectors have been focal points for Japanese investors, Japan has also been vital to the development of one of Australia's largest manufacturing export industries, passenger motor vehicles. This began in 1963 when Toyota built its first factory outside Japan in Port Melbourne. It was followed, especially between 1973 and 1978, by rival car producers and associated component suppliers. The 1990s and 2000s saw more automotive components manufacturers invest in Australia: as in East Asia and other parts of the world, parts and components suppliers (such as Denso and Hirotech) followed the vehicle manufacturers with which they were linked in Japan (Toyota and Mitsubishi respectively). Toyota's decision in 2008 to invest in the production of the Camry Hybrid will expand both the range of vehicles produced in Australia and the technology embodied in them.
Other Japanese manufacturing firms have also invested in Australia, with some firms establishing a presence before the 1940s (Hutchinson and Nicholas 1994). In the 1980s a number of consumer and industrial electronics assemblers established plants in Australia.
While some manufacturing plants have closed (including Nissan, Mitsubishi and most of the electronics assemblers), others have stayed, sometimes expanding their operations. Some of the companies that withdrew their production from Australia transformed their operations here into global research and development centres. (Similar changes occurred with many Japanese financial service providers, tourism operators and real estate purchasers: many of the investments made during the bubble years in the late 1980s, and in the early 1990s, when the flow of Japanese investment to Australia was equal to that from the United Kingdom and the United States, have since been sold.)
Getting behind the tariff wall to produce for the domestic Australian market was often an important initial motivation for investment in Australia but, as Australia's barriers have come down, the focus of some Japanese investors has broadened, with production for third-country markets growing in importance. This can be seen in the volume and importance of Toyota's exports to markets in the Middle East and Persian Gulf.
In the area of services, too, investment has been significant. Japanese investment in Australia's tourism industry played an important role in establishing Australia as a major holiday destination for Japanese holiday-makers. While Japanese tourist numbers have been declining, the importance of investment is now being seen in the other direction. Where, to date, Australia's wide open spaces, pristine beaches and unique wildlife have been major attractions for Japanese travellers, increasingly now the reciprocal benefits of Japan's fields of powder snow, allied with the favourable exchange rate between 2003 and early 2008, have drawn more Australians northwards to enjoy cross-seasonal skiing. Bilateral investment, again, has been a key element of this relationship.
Box 1.5 Australian tourism to Japan booms on the back of investment in Hokkaido
Like Japanese direct investment in Australia, investment in Japan by Australian entrepreneurs has-on a smaller scale-led to increased trade. Several Australian tourism firms have invested in the Niseko area of Hokkaido, Japan's northernmost major island. It is now possible for Australian skiers to be fitted (and pay) for the hire of skis and other equipment in Australia before travelling-during the Australian summer-to Japan's northernmost major island, Hokkaido. Some firms in the Niseko area allow travellers to pay in Australian dollars.
Importantly, one of the factors influencing the decision of Australian firms to invest and the timing of the investment was more investor-friendly regulations, in this case tax accounting reforms that clarified land values. The factors we discuss in Chapter 2-complementarity and relative distance-have influenced the success of this investment: the difference in seasons means that Australians are able to have a skiing holiday during the Australian summer, the traditional holiday period in Australia; and, while Japan is not next door, it is closer and more accessible than alternatives for skiing at that time of the year such as Canada, the United States or Europe.
Portfolio investment growing in size and importance
Portfolio investment is also becoming a significant part of the relationship, increasingly for structural reasons. The connection between Australia's need for external savings to finance economic development (leading to relatively high interest rates) and Japanese savers' need to find higher returns on their savings in the face of continued low interest rates in Japan-increasingly vital as retirement looms for larger proportions of the population-has resulted in a significant expansion of Japanese portfolio investment in Australia by both Japanese mutual funds and personal investors. The stock of Japanese portfolio investment in Australia, which peaked in 2004 at $24.8 billion, increased marginally from $19.9 billion in 2001 to $20.1 billion in 2007. While overall levels have remained fairly stable, one change has been in Australia's importance as a destination for the offshore investments of private mutual funds: in 2007 it was estimated that about 12 per cent of these investments were in Australia, second only to investment in the United States (approximately 43 per cent); in 2001, by contrast, Australia had been the 12th-ranked destination, accounting for less than 1 per cent of such offshore investment (Australian Financial Review 2007).
Complementing the demand from Japanese investors for Australian dollar- denominated instruments, banks and companies in Australia have been looking to Japan as a source of funds. This can be seen in the growth of so-called 'uridashi' bonds (since 2001 in particular) and samurai bonds since the mid-1990s (see Box 1.6). These transactions arise from the combination of high levels of savings in Japan seeking reasonable returns and banks and companies in Australia being unable to raise capital as cheaply in the domestic Australian market or other international markets. The nature of the foreign-exchange exposure of the two countries also suggests that they are natural counterparties for swaps and derivatives to hedge foreign exchange risk: Japanese investors and firms tend to have US dollar-denominated debt assets, while Australian investors and firms tend to have US dollar-denominated debt liabilities.
Box 1.6 Raising funds in Japan: uridashi and samurai bonds
Uridashi bonds are the instruments through which many Japanese investors have invested in Australia. They are bonds issued in Japan by a company or bank (including international financial institutions such as the Asian Development Bank) denominated in a foreign currency (in this case, the Australian dollar). Typically, the foreign-exchange risk is borne entirely by the purchaser of the bonds. While these bonds were purchased by institutions, between 2003 and 2007 most were sold to individual investors (in parcels as small as A$20,000) through Japanese securities firms. The first uridashi bonds were issued in the mid-1990s, but it was not until 2001 that they became a significant component of portfolio investment flows (Figure 1.2).
Figure 1.2
The value of Australian corporate bonds issued in Japan is significant
Australian corporate bond issuance in Japan, 1990–2008
Notes: Excludes asset-backed securities and government entities’ issuance; 2008 data are to
30 September.
Source: Reserve Bank of Australia.
In contrast, samurai bonds minimise the exchange-rate risk for the purchasers because they are denominated in yen. (The risk for the issuers is also minimised through foreign exchange swaps and the use of derivatives.) In contrast to uridashi bonds, samurai bonds are 'placed’ with financial institutions. Before July 2007, samurai bonds were issued only by non-bank corporations because Australian banks raised their funds elsewhere.
In 2008, the importance of Japan as a source of funds has increased significantly
as a result of tightening conditions in Australian and global credit markets during
the global financial crisis. In particular, Australian banks have been targeting the
Japanese market. The total value of samurai bonds issued by the four major
banks in the first quarter of 2008 was in excess of A$4 billion (Lefort 2008).
This, together with samurai bonds issued by other Australian corporations,
represented more than 10 per cent of all Australian corporate bond issuance
offshore in the first three quarters of 2008, and brought the total percentage of
funds raised in Japan to almost 13 per cent, up from the levels around 4 per cent
of the previous seven years (Figure 1.3).
Figure 1.3
Japan grows in importance as a source of corporate funding in response to the financial crisis
Bonds issued in Japan as a share of total Australian bond issuance overseas
Notes: Excludes asset-backed securities and government entities’ issuance; 2008 data are to
30 September.
Source: Reserve Bank of Australia.
Not all rosy ...
The clear picture from the discussion above is one of a huge and successful relationship. Nevertheless, it is also true that some further critical examination is needed of where commercial relations with Japan are headed. For although it has been highly successful in some areas, the relationship seems to have been less so in others.
There is an unusually clear distinction between the types of products sold by Australia to Japan and those sold by Japan to Australia. Japan's exports to Australia almost wholly comprise manufactures (Figure 1.4), whereas Australia's exports to Japan are heavily concentrated in primary products (Figure 1.5).
Figure 1.4
Australia's major imports from Japan comprise automotive, electrical and other equipment and machinery
Australia's merchandise imports from Japan by major category, percentage share by value, 1989-2007
Source: DFAT STARS database.
Figure 1.5
Japan's major imports from Australia are primary products
Japan's merchandise imports from Australia by major category, percentage share by value, 1975-2007
Sources: METI, White Paper on International Trade, 1977-1986; UN data on the DFAT STARS database.
The concentration of Japan's imports from Australia in bulk commodities is also reflected in the number of firms that export from Australia to Japan. Whereas Japan is the largest export market for Australia, it is only the ninth-ranked market in terms of the number of exporters from Australia.
These export patterns are, in fact, significantly at odds with both Australia's and Japan's patterns of trade with the world as a whole. That is because the evolution of trade patterns that is occurring in many other relationships does not appear to be happening in this one.
Increasingly, with the emergence of regional and global production networks and value chains, trading partners, particularly in the Asia-Pacific region, are seeing an increase in 'intra-industry' trade, in which similar items are being traded back and forth across borders. Consistent with this, Japan, while a major exporter of elaborately transformed manufactures (Figure 1.6), is also a major importer (Figure 1.7). Australia's imports, too, are dominated by elaborately transformed manufactures (to some extent a reflection of its comparative advantage in primary products), but, in addition to Australia's strength in primary products, elaborately transformed manufactures make up a significant proportion of its exports as well (Figure 1.8). However, Australia's exports of elaborately transformed manufactures to Japan are very small and not growing (Figure 1.9).
Figure 1.6
Elaborately transformed manufactures dominate Japan's merchandise exports ...
Japan's merchandise exports to the world by category, 1989-2007
Note: 'Other goods' are gold and confidential items that comprise almost entirely primary products or simply transformed manufactures. Source: DFAT STARS database.
Figure 1.7
... but are also highly significant in its imports
Japan's merchandise imports from the world by category, 1989-2007
Note: 'Other goods' are gold and confidential items that comprise almost entirely primary products or simply transformed manufactures. Source: DFAT STARS database.
Figure 1.8
Australia exports proportionately far more elaborately transformed manufactures to the world ...
Note: 'Other goods' are gold and confidential items that comprise almost entirely primary products or simply transformed manufactures. Source: DFAT STARS database.
Figure 1.9
... than it does to Japan
Australia's merchandise exports to Japan by category, 1989-2007
Note: 'Other goods' are gold and confidential items that comprise almost entirely primary products or simply transformed manufactures. Source: DFAT STARS database.
Moreover, as a closer examination of the statistics on manufactures exports from Australia makes clear, the growth trend in Australia's manufactures exports to Japan (Figure 1.10) is not consistent with the trend of Australia's manufactures exports to the world (Figure 1.11).
Figure 1.10
The gap between Australia's simply and elaborately transformed manufactures exports to Japan widens ...
Australia's exports of simply and elaborately transformed manufactures to Japan, 1989-2007
Source: DFAT. STARS database.
Figure 1.11
... even as elaborately transformed manufactures exports lead the way in trade with the rest of the world
Australia's exports of simply and elaborately transformed manufactures to the world, 1989-2007
Source: DFAT STARS database.
... in services as well as goods
Services trade poses a similar conundrum. For some time, both Australia's and Japan's economies have been dominated by services-in excess of 75 per cent of Australia's GDP and even more in Japan.
This has led many commentators on the relationship to posit that there is scope for a significant increase in bilateral services trade (see, for example, de Brouwer and Warren 2001). But such an increase has, to date, proved elusive. Despite the vastness of the overall trading relationship, Japan ranks only fifth as a trading partner (sixth as an export market) for Australia in services; and, worse, trade in this sector is actually falling-whereas with other major Asian trading partners (and the world) it is rising significantly (Figure 1.12).
Figure 1.12
Australia's services trade with other East Asian countries grows more rapidly than with Japan
Australia's exports and imports of services, selected countries, 1999-2007
Source: ABS (2008f).
Australian services exports to Japan show tourism and transport services as the dominant components, with both declining over time (see Figures 1.13 and 1.14). Financial services exports, increasingly regarded as a significant Australian strength, are minuscule. Education and business-related travel are relatively moderate, both in absolute number-Japan (with the second-largest trade relationship) ranked sixth as a source of business visitors-and, by comparison with other markets, as a share of the total number of travellers, and show no significant signs of an increasing trend.
Nor would the situation be likely to improve if exports delivered through 'mode three'-commercial presence in the other country-were able to be included.6 A survey of services trade in 2002-03 by the Australian Bureau of Statistics found that exports delivered in this way represented approximately 65 per cent of total sales of services overseas (and over 90 per cent of total sales of financial services) by Australian companies (ABS 2004). However, sales of services by Australian companies located in Japan represented only 11.8 per cent of Australia's total services sales to Japan, the smallest proportion of any major market.
Figure 1.13
Travel and transport dominate Australian exports of services to Japan
Australia's exports of services to Japan, 1999-2007
Source: ABS (2008f).
Figure 1.14
Japanese visitor numbers to Australia trend downwards
Total visitor arrivals from Japan (holiday, visiting friends and relatives, business, education, employment and other), 1991-2007
Source: ABS (2008g).
Australia's imports of services from Japan are similarly focused around transportation-unsurprisingly in light of the size of the goods trade between the two countries (Figure 1.15).
Figure 1.15
Transport services are larger than all other Australian imports of services from Japan
Note: No data are available for royalties and licence fees in 2006 and 2007, or for communications in 2007.Source: ABS (2008f).
Again, business travel is conspicuously smaller than the size of the overall relationship would suggest, with Japan (Australia's largest export market) ranking just seventh as a business travel destination for Australia. Though education-related travel also looks relatively small, and is not growing, Japan is in fact the third-largest destination for Australians studying overseas in terms of expenditure per year. The overall picture on services, then, appears to be one of little dynamism and much reliance on external factors-such as volumes of goods trade.
Conclusions and implications
The data on trade and investment remind us that the bilateral commercial relationship between Australia and Japan is based on substantial flows of goods, services and capital; that the relationship is closely aligned with the strengths and needs of each economy; and that, as those needs and strengths have evolved, the relationship has evolved too. It is clear, also, that as Japan's and Australia's commercial interests in East Asia broaden and change, the two countries continue to benefit from their partnership in a wider range of ways, even if this is not reflected in bilateral trade and investment data. In this light, it is clear that talk of decline in the importance of the Australia-Japan relationship is indeed premature.
The same trade and investment data, and the comparison with other markets, however, make clear that commercial relations between Australia and Japan, while remaining strong and vital, are operating on two tracks. Japan is an enthusiastic customer for Australian primary and simply transformed manufactures, just as Australia is (still) for Japanese firms' manufactures, whether they are made in Japan or elsewhere. Trade in such products, even where there are very substantial barriers in place (such as in agriculture), is flowing at quite high levels. The picture on Japanese direct investment is similar: with Japanese investment in Australia's car industry now focused on Toyota and its suppliers, Japanese direct investment related to goods, too, is increasingly concentrated around energy, resources and agrifood. But beyond these relatively clearly defined and well-known strengths, the trade and investment relationship seems less robust than might be expected.
Does this matter? In one sense, the answer might seem to be no. Japan will continue to be hungry for Australian minerals and energy and, for some products, long-term contracts already in place will cement Japan's position as a dominant customer. While it is unclear whether future movements in commodity prices will continue the 2003-08 trend of increasing values for imports from Australia even while volumes varied little, contracts in place for LNG will see the volume of Japan's purchases of LNG from Australia, already larger than those of all Australia's other overseas customers combined, increase still further. The security of food supply provided by agricultural trade between Australia and Japan, equally, should ensure a healthy future for that part of the relationship. There are, therefore, strong grounds for expecting that the relationship will remain of huge importance for the foreseeable future.
But there are dangers in the relationship remaining too lopsided. The high degree of direct contact implied by healthy trade in areas such as education and business and financial services of itself creates a virtuous circle enabling early identification and exploitation of future opportunities. The lack of such contact can also be (detrimentally) self-reinforcing, as lack of knowledge leads consecutively to a failure to identify opportunities; thence to a perception that opportunities no longer exist; and then to a further loss of incentive to develop additional contact and knowledge; and so on. These themes are explored in subsequent chapters.
Footnotes
2 Australian historical data are only available for the Australian financial year, which runs from 1 July to 30 June.
3 Uranium exports, Australian statistics for which are in any case confidential, do not show up in bilateral export figures, as most Australian uranium goes to third-country destinations for processing before reaching its final destination in Japan. Japan received approximately 28 per cent of Australian uranium exports in 2007.
4 Interestingly, the Agreed Minutes attached to the 1957 Agreement on Commerce make specific reference to expanding the opportunities for imports of motor vehicles-but into Japan from Australia!
5 Investment, especially foreign direct investment, is notoriously difficult to measure accurately. While the reasons for this are many, one is the difficulty of capturing borrowings and reinvested earnings by foreign companies. The data used here are drawn from the Australian Bureau of Statistics (ABS 2008e), and the Japanese Ministry of Finance and the Bank of Japan databases.
6 'Mode three' exports are generally not included in trade in services data from the Australian Bureau of Statistics-a significant gap. In 2002-03, sales of goods and services by Australian affiliates overseas, at around $142 billion, were approximately equal to all goods and services exports from Australia (ABS 2004).