Nurturing SMEs, the Japanese way

How can Japan have the narrowest income gap in the world, with its history of dominant zaibatsus, the traditional large conglomerates that controlled large segments of the Japanese economy? Why is our own income gap one of the widest among our Asian neighbors, including the much poorer ones? While the average income of the richest one-fifth of Filipinos is nearly 10 times that of the poorest one-fifth, that same ratio is only 3.4 times in Japan, the lowest in the world.

The answer appears to lie in small and medium enterprises (SMEs). Japan has done a superior job in nurturing SMEs to the point that they have assumed a strong role in propelling the Japanese economy alongside the large enterprises (LEs). Consider the numbers: Around 99.6 percent of Philippine enterprises are SMEs (including micro enterprises). LEs—i.e., those with more than P100 million in capital or more than 200 employees—comprise less than 0.4 percent. But these relatively few LEs account for more than two-thirds (68 percent) of our economy’s total output and incomes. SMEs account for less than a third (32 percent) of output, and 69.9 percent of employment.

Japan’s SME shares, in terms of numbers and employment, are similar to ours: 99.7 percent of all firms are SMEs, accounting for 69.6 percent of jobs. But the difference lies in their contribution to output (value added) and incomes, which is 60 percent in non-manufacturing and 37 percent in manufacturing. Our Asean neighbors’ SME output shares also well exceed ours, going as high as 57 percent in Indonesia. Their employment contribution also tends to be higher, with 73 percent in Cambodia, 77 percent in Thailand, 81 percent in Laos, and 97 percent in Indonesia.

It wasn’t always like that in Japan. It took deliberate moves by the Japanese government to achieve a vibrant SME sector largely instrumental to its highly egalitarian (hence low-crime) society today. The LEs—traditional zaibatsus like Mitsui, Mitsubishi and Sumitomo—are still there, along with the relatively newer ones like Honda and Sony, which started as small family businesses. But SMEs actively coexist with them, not necessarily in direct competition, but usually as support firms supplying the intermediate products and services that go into the big firms’ products. The most prominent example is how large auto assemblers like Toyota and Nissan depend on SMEs for the parts and components of the vehicles they assemble. The same pattern is repeated in other types of manufactures, in what I like to call inclusive value chains.

I recently received a briefing on Japan’s SME policies from an official of the SME Agency of Japan’s Ministry of Economy, Trade and Industry. What I learned was interesting and instructive, with lessons that we could apply in our own attempts to boost the role of Philippine SMEs.

The two key pillars in Japan’s SME policy have been the SME Agency that was established in 1948, and the SME Basic Act enacted in 1963, and subsequently revised in 1999 and 2013. SME policies had been adjusted to suit changing circumstances and requirements through time.

The SME Agency provides an impressive array of support functions needed by SMEs, spanning business stability, research support, provision of finance, coordination of SME-related taxes, fair trade, improvement of business management, developing new business, support for overseas operations, and technology improvement. To address SME financing needs, government established and supported three focused financial institutions. The Shoko Chukin Bank, set up in 1936, provides loans for member-SME cooperatives, and since 1951, directly to the cooperatives’ individual members as well. Initially funded with a special public bond issuance, government continues to support it with loans from the Bank of Japan (central bank), from the general account, and from the Fiscal Investment Loan Program that consolidates funds earned by various government corporations. The People’s Finance Corporation (1948) provides small loans to individuals unable to access private sector credit, and was originally capitalized by government, supported subsequently by government loans and investment funds as above. The Japan Finance Corporation for SMEs (1953) provided long term funds for SMEs’ plant and equipment needs and other long-term requirements.

Public SME financing includes financing for startups, overseas development (policy financing), and enterprises whose business conditions are temporarily deteriorating or stressed by natural disasters (safety net financing). In 1973, a Management Improvement Loan Program was introduced in cooperation with chambers of commerce and industry. Here, unsecured financing without guarantors is extended to SMEs that undergo training from the chambers on accounting and business plan formulation.

There’s a lot more I learned, but I was able to glean three key principles from how Japan nurtured its SMEs. First, SME development need not happen at the expense of large firms. In Japan, SMEs are largely a boon, rather than a threat to the LEs; the latter only need to engage them as such. Second, attaining a vibrant SME sector entails all-out government institutional support. Third, sustaining credit delivery mechanisms for SMEs requires support with public funds. With its inherent difficulties, SME financing will not be provided by private markets adequately. Taxpayer money is well spent making it easier for SMEs to access funds, and provide them technical and managerial support to thrive. After all, we all stand to benefit from a strong SME sector and the egalitarian economy it has brought Japan.

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