The Journal The Authority on Global Business in Japan

Over the past two decades, Japan’s labor productivity has been hovering at around 20th among member nations of the Organisation for Economic Co-operation and Development (OECD) and in the last place among the G7 nations.

Contrary to the popular perception of Japan as having long working hours, macro statistics show that per-head labor input—or actual working hours—has been steadily declining over the past 20 years and is now in line with most European countries as well as the United States and Canada.

What is the outcome of shorter working hours combined with low productivity? It’s simple math. Japan’s per-capita gross domestic product is less today than that of half the top European countries and two-thirds of the United States.

Something I call “labor market dualism” is at work behind the scenes in Japan, causing serious structural issues. Irregular workers, most of whom are women, now comprise about 40 percent of the total labor market, which has almost doubled in size since the 1980s.

The majority of these irregular workers have limited or moderate working hours and less compensation than full-time workers. While most regular workers spend insanely long hours on the job, the increasing portion of irregu­lar workers makes the macro data look as if Japanese people are working less.

Addressing the issue of labor-market dualism may help Japan find solutions for this productivity conundrum Allowing irregular staff to work longer hours or simply paying higher salaries is not the solution, in my opinion. Rather, convertibility between regular and irre­gular workers based on merit, as well as greater job mobility, would lead to a more optimal allocation of talent within companies and in the broader economy.

By deregulating labor law, the lifetime employment system and seniority-based promotion scheme in Japan—both of which apply only to regular workers—should eventually be replaced by a merit-based approach. Instead of age, gender, or even nationality, determination of one’s qualifications should be based on skill level.

Most companies in Japan are not embracing merit-based human capital management. However, there are encou­raging signs that suggest a gradual change. For example, some companies now give their high-performing, irregular workers the option to convert their employment contracts to those of regular workers. Others have started to allow employees to have second jobs, a practice that was unthinkable just a few years ago. Laterally hired employees, who have traditionally been sidelined from main career tracks, are starting to enjoy upward mobility within their companies. And the newly introduced workstyle reform bill, which has been designed to promote equal pay for equal work, will hopefully accelerate these trends.

Another important element to improve labor productivity is Japan’s business dynamism. The rate at which Japanese companies exit and enter business is ex­tremely low in Japan, at about 5 percent. This is compared with double-digit rates in most OECD countries. Simply put, there are too many old zombie companies in Japan and smaller companies rarely grow due to high barriers.

Innovative entrepreneurship is a critical component of driving new business, which then becomes a force in reallo­cating financial and human resources to growth segments of the economy. Policies to encourage industry diversi­fication should be given priority on the Japanese government’s agenda. Revision of the bankruptcy law to provide better protection of personal assets, for example, would stimulate the risk appetite of young entrepreneurs.

The good news is that Japan already has a number of the ingredients needed to boost its labor productivity, such as a highly educated workforce, ample capital, a solid social infrastructure, and advanced technologies. Even a shrinking population could potentially work in Japan’s favor as it forces society to embrace the techno­logical revolution to compensate for the dwindling number of workers. For Japan to make a leap, it must implement much needed structural reforms. They are not pain-free, but the results will be rewarding.

Yumiko Murakami is head of the Tokyo Centre for the OECD.