1. Introduction
The North America Free Trade Agreement (NAFTA) has brought diverse changes to Canada, the United States and Mexico after it was enacted in 1994. According to Article 102 of the NAFTA, it details of the objective of this world’s largest free trade agreement; which is to “liberalize the trade between Canada, Mexico and the United States with stimulating economic growth and give the NAFTA member countries the equal access to each other’s”(CBP) . There are much concerns that NAFTA has brought trade deficit to U.S. labor market, ~, ~ and etc. However, trump announced his intention on renegotiation of NATFA recently. Is it a right timing to do renegotiating NAFTA for the United States? Why Trump has decide to renegotiate NAFTA? And, in fact, could it bring better benefit to the United Sates rather than breaking out NATFA? This paper will give the answer to those questions. I will prove that Trump’s decision on renegotiation of NAFTA, rather than breaking it, was completely rational and will bring positive impact on the U.S. My main researching time frame is from the 1990s to 2007 and I will use some later years data (from the early 1990s to present) to compare and support my findings. There is the reason for choosing that period because NAFTA took effect on Jan. 1, 1994. After this date, NAFTA immediately eliminated tariffs on the most of the goods produced by the signatory nations.
My main finding is that the rational decision was made after considering between costs and benefits. Renegotiation, on the other hand, could be beneficial if the political minefield along the way to its completion can be successfully navigated. Realistically, there are no changes to NAFTA that can stop the slow decline of manufacturing employment in the United States, which is caused much more by automation and technological advance than anything else. But, as an agreement negotiated a quarter-century ago, there is plenty of space for the Trump administration to propose an update to NAFTA that would favor U.S. workers and competitiveness. (Revise this in an easy & simple sentences, and put the citation please)
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? 2. Why Trump administration initiated NAFTA renegotiation process?
https://www.ft.com/content/4c1594c6-e18d-11e6-8405-9e5580d6e5fb
? sources from the above website. Please revise these.
?Everyone agrees Nafta is in need of an update Mr Trump is not the first American president to call for the renegotiation of Nafta, or to see it as politically toxic. Barack Obama vowed during his 2008 campaign to renegotiate Nafta to update its labour and environmental standards. His administration argued that it delivered on that promise with its negotiation of the 12-country Trans-Pacific Partnership, which includes Canada and Mexico. Mr Trump killed that larger deal on Monday by signing an executive order to pull out of the TPP. But in a strange way the Obama administration may have already laid the groundwork for a renegotiation of Nafta. During his confirmation hearing last week, Mr Trump’s pick for Treasury secretary, Stephen Mnuchin, acknowledged as much. “I would hope that the starting point is the work that you’ve done,” he told one TPP backer. . (Revise this in an easy & simple sentences, and put the citation please)
https://www.ft.com/content/4c1594c6-e18d-11e6-8405-9e5580d6e5fb
First reason of – economical reason – trade balance (please graph)
Second reason of – political reason
3. If breaking out OF NAFTA, FIRST negative impact on U.S.
– no tariff elimination from terminating NAFTA- > high MFN % ? harm on U.S. Industry and Agriculture
4. CASE STUDY: US agricultural exports, writer, do you think it can bring any benefit?
American farmers have benefitted from NAFTA: Since the agreement’s implementation, US agricultural exports have nearly doubled to Mexico, and have increased by about 44% to Canada, according to the Office of the US Trade Representative.
https://www.thestar.com/business/real_estate/2017/06/01/nafta-renegotiation-could-spare-energy-sector.html
5. If breaking out OF NAFTA, SECOND negative impact on U.S.
– if withdraw : Bad impact on U.S. auto companies in economic scale.
6. Case study: Auto – writer, do you think it can bring any benefit?
Additionally, NAFTA has been credited with helping the US auto sector become globally competitive due to the cross-border supply chains. Even though it is criticized with labor employment loss in America, there is no doubt that NAFTA contributed on increasing U.S. car brand competitiveness.
?Rules of origin:
? Plus, it seems that they are going to renegotiate about the revising the ratio
7. By the renegotiation, NAFTA’s signatory countries can spare energy sector.
Ex) a report by the America’s society/ council of the Americas concludes: “Mexico’s energy reforms will benefit North America broadly, by providing an opportunity for North American leaders to develop a fully integrated North American energy sector”
6. Textiles ?
7. Also, American will benefit from NAFTA renegotiation if they try to modernize NAFTA to take advantage of new technologies
8. Renegotiating FTA will provide opportunity to fix the non-trade issues by the inclusion of environmental and labor regulations . this also support that renegotiation NAFTA will bring positive impacts on workers and environment.
Finally, renegotiating NAFTA provides an opportunity to fix its biggest flaw: The inclusion of non-trade issues such as environmental and labor regulations in politically motivated “side agreements” that accompanied the trade deal.
In 1993, Rep. Jim Kolbe, R-Ariz., observed: “We should keep in mind that NAFTA is first and foremost a trade agreement. It is not a labor or environmental pact.”
Subsequent trade agreements gradually increased environmental and labor mandates. For example, President Barack Obama called the proposed Trans-Pacific Partnership, which included a minimum wage provision, the “most progressive trade deal in history.”
Inclusion of environmental and labor mandates risks turning trade agreements into multinational regulatory arrangements that restrict trade flows rather than free them. It also obscures the fact that trade is good for workers and for the environment.
Data presented in The Heritage Foundation’s annual Index of Economic Freedom demonstrate that countries that are more open to trade not only have stronger economies, they also score higher on the global Environmental Performance Index.
The U.S. trade representative is committed to an “America First” trade policy aimed at encouraging companies to stay in the U.S., create jobs in the U.S., and pay taxes in the U.S. . Revise this in an easy & simple sentences, and put the citation please)
http://dailysignal.com/2017/04/28/trump-plans-to-renegotiate-nafta-heres-how-it-can-be-improved-to-benefit-america/
Fowling is the example of writing format. Please put the graph, and write in an organized form.
Source: Financial Statements Statistics of Corporations by Industry (Nonfinancial Corporate Sector), Ministry of Finance Japan
Moreover, at that time, the bond issuance is strictly regulated by the government (Horiuchi, 1991) which implies that more cost would be associated with the process of bond issuance. For example, all types of bonds, including straight bonds and convertible bonds have to be secured by collaterals which are mainly real estate assets. Bond Issue Arrangement Committee (BIAC) under MOF was established to monitor and determine the eligible requirements for the bond issuance. The banking sector, which has the vested interest in the restriction of bond issuance, has created influence on the BIAC to secure their borrowing to companies. Thereby, the process of issuing bond has become more difficult and costly. This became the reason why since the late 1970s, many firms has issued bond abroad that leading the phenomenon of “hollowing out” domestic funds. All in all, in 1955-1975, taking all these cost disadvantages into account, choosing bank borrowings is certainly more beneficial and that is a rational choice of most of Japanese firms.
Another kind of benefit comes from the relationship with the main bank. There is no formal definition of a main bank, but in Japan the term is referred to the particular bank from which companies obtain their biggest share of loans. Making a good relationship with one of the major banks or; for smaller firms with a regional bank; is one of the key elements leading to business success. The main bank not only provides borrowings, but also holds equity which is widely viewed by many scholars and regulators as a tool to monitor firms’ business activities. Being provided a large and stable source of funds for investments, being helped in supervising the business activities, Japanese corporations receive huge benefits from the ties with the main bank. There was no reason for them not to borrow from banks and use a different financing tool. In other words, they would have no longer refused that benefits and risked their companies with other uncertain sources of funds and unforeseen benefits.
In terms of cost, thanks to the above-mentioned relationship with the main banks, firms can overcome the cost of financial distress. That is the reason why Japanese companies accept the high risk although one may argue that the cost of financial distress associated with debt financing is unexpectedly huge. For the cost of agency problem, the lending and shareholding practices of the main bank at firms and the interlocking relationship in regard to reciprocal shareholding arrangements and interlocking directorship inside the keiretsu system help to mitigate agency costs of managerial discretion. Meerschwam (1991) suggested a further reason as follows: “Institutional features of the Japanese system helped to “socialize” some of the risks and costs associated with high leverage and financial distress” . The institutional system mentioned is obviously the main bank and the system of Bank of Japan (BOF) and Ministry of Finance (MOF).
In time of financial difficulty, a main bank may not call back the loan; on contrary, it would do all to rescue the company. As mentioned by Aoki, Patrick and Sheard (1994) “In times of corporate distress, the main bank is expected to play the leading role in overseeing and organizing a financial rescue or restructuring” of the firm, and “to bear a disproportionate share of the costs of associated financial assistance (interest deferrals and/or exemptions), loan losses and new funding requirements” . The main bank, in turns, was assisted by the BOJ acting as a guarantor of principal loans made to the keiretsu, meanwhile “the BOF coordinated with the MOF in assisting the rescue operation of city banks by extending emergency loans to those banks” (Aoki et al., 1994). To be noted that the relationship between BOJ and city banks is strong. The BOF provides lending more to these banks than a private bank and encourage them to focus on meeting the demands of firms for borrowings without worrying about going bankrupt. In fact, no bank in Japan has failed in postwar. The BOF, in turn was guaranteed by the Banking Bureau of the MOF which “regulates most Japanese banks, including the long-term credit banks and the Bank of Japan, by monitoring the funds used by these banks” (Ballon and Tomita,1988). Besides, the MOF gives more favor to city banks that agreed to rescue firms in case of financial failures. MOF fears that one’s failure may drag along others’ failures, which is the so-called domino effect of the whole business. Furthermore, the bankruptcy of large company leading to the lay-off of a large number of employees might have caused serious social problems. The expected cost of financial distress, thereby, has been “socialized” by the institutional system and the regulatory environment. Obviously, it is rational for Japanese firms to use bank borrowings as their main source of financing, because they obliged that they will be rescued by the main bank in case of financial failure.
3. Firm’s size and debt financing
Japanese firms have been said to take the goal of sales growth and market expansion more seriously than the goal of high return. Abegglen and Stalk (1985) found the result in a survey of Japanese companies that on a 1-10 scale of ranking by importance “Market Share” was in the first position with 4.8 average points, while “Return on Investment (ROI)” followed in second place (4.1 points). Meerschwam (1991) also pointed out that if “market share and growth objectives are taken seriously, then high leverage is a natural outcome; rapid sales growth typically leads to asset growth”. It is easy to understand that by sacrificing profits and dividend paid back to shareholders, a firm with high leverage may be able to cut prices, make more investments in R&D project and thus acquire the greater market share. “The Japanese companies typically borrowed more, spent more, made less a percentage of revenues, paid less in dividends, and grew faster than their American competitors” (Min Chen, 2004). A positive correlation between firm’s size and leverage is also consistent with the trade-off theory. Large firms tend to be more diversified and have the capability to collaterize their assets (including land, plants, and machineries) to acquire the loans. Thornhill et al. (2004) noted that “firms with high collateral assets should have greater access to bank funding”.
Meanwhile, to recall, “Return on Investment” (ROI) is just in the second rank of importance for Japanese companies. The pecking-order theory says that there is a negative correlation existing between profits and leverage . When a firm earns profit, accumulates capital as internal funds and pays off debt, leverage will fall automatically. Myers and Majluf (1984) also draw a conclusion from the pecking order theory that the hierarchy of using funds is internal resources, debt, and then equity. The theory is consistent with the financing behavior of Japanese companies because profit maximization is not their ultimate goal. Thus, they still have to resort to the debt instrument. Using debt is very rational which is coming from the goal of market maximization of Japanese firms. So what was the rationale behind the goal of profit maximization?
It could be explained by a factor embedded in the Japanese society called “Ie” (household). The concept of ie was preserved since the samurai era until now, in which family continuity is greatly valued, especially with management of the household value. In the entrepreneurial families, “the concern with maintaining the quality of family managerial talent” implies the maximization of growth rationale and the strong emphasis of reinvestment should be seen as one of the business goals (Yasuzo Horie, 1966). However, beside that social reason, I suggest another reason for the ultimate goal of maximizing market share of Japanese companies. It is intuitive that being a giant in the market, a company would have more a bigger voice, a greater influence in both economic and political issues. Thereby, it is easier for them to gain more side-benefits from the government.
Bigger firms, more borrowings?
Table 3.1: Bank borrowings of manufacturing industry (Japan, 1955-1975, hundred billion yen)
Year Big size Medium size Small size
1960 81 26 16
1961 101 31 17
1962 135 35 21
1963 181 40 22
1964 223 45 27
1965 255 49 35
1966 276 54 44
1967 295 61 55
1968 363 73 69
1969 433 87 84
1970 509 102 101
1971 633 124 123
1972 720 148 152
1973 767 173 192
1974 900 208 230
1975 1,090 246 281
Source: Financial Statements Statistics of Corporations by Industry (Nonfinancial Corporate Sector), Ministry of Finance Japan.
Table 3.1 shows that bigger firms have always enjoyed a greater amount of bank borrowings than the medium and small firms do since 1960. Bank loans borrowed by bigger firms was about 4 times more than the medium size companies in 1960, but the rate has increased to about 50 times in 1975. The borrowing rate of big size corporations itself also went up at a substantially high speed (nearly at an average of 18% every year in 15 years). Ballon and Tomita (1988) found out that “the majority of the city bank loans are made to large Japanese companies whereas the majority of the local bank loans are made to smaller Japanese companies”. It proves the fact that larger firms are likely to access to the greater bank loans sources thanks to their power and influence on the banking system, MOF and MITI as well. Herbert Glazer (1967) proposed that “the government has sometimes rewarded firms holding large market shares by allocating important inputs subject to exchange control in proportion to shares of sales or capacity”.
Therefore, Japanese companies were increasingly trying to expand the business, establish more branches and hire more employees. It could be said that market maximization goal supports the life time employment practice, not the other way around. There were some giant groups companies or conglomerate which is the so-called keiretsu in Japan. The keiretsu system with its interlocking relationship of shareholding and managerial directorates with the main banks and their group members help them not only to borrow easier but also borrow at preferential rates. Frankel (1991) compared the sources of funds with free-lunches and stated that “Such sources of funds were not available to the man-in-the-street, or even to the corporation-in-the-street. To those favored corporations who did have access to such funds, such as members of the industrial groupings known as keiretsu, the number of profitable investment projects typically exceeded the supply of funds available.” As long as the relationship still benefits them, indusial groups will continue to choose bank borrowings as a source of financing. It is undoubted that they behaved very rationally. Small and medium firms, on the other hand, lack this strong tie with major banks have surely less incentives to increase their bank borrowings.
Big size companies received another benefit from amakudari, former officials of MOF who might be their directors or high-position employees. Through amakudari, they can make the influence on MOF. The MOF, in turns, influences the long-term credit banks through their amakudari who are former MOF officials now working for these banks. Amakudari might make use of their relationships to borrow more funds at preferential rates or ask for help from the regulatory system when being at a financial distress situation. Small and medium size companies which could not have amakudari in their executives boards have struggled in acquiring more borrowings from banks.
To recall, in the good time, the strong tie between banking system and the industrial conglomerates is really good, helping Japanese firm grow with extreme speed and even dominate the world market. In contrast, in the bad time, Kang and Stultz (2000) argued that “the close relations between banks and borrowing firms can be detrimental during the recessionary period such as 1990s”. As can be seen in figure 3.1, since that late 1980s, Japanese firms cut the debt amount and use more capital stock to finance the business. The debt to equity ratio increasingly increased until 1988 when it reached about 7.5, but since then it experienced a continuous fall. Due to the financial bubble and the burden of huge bad debt amounts, the bank system has been trying to rescue itself rather than helping their business partners. Therefore, corporations also had to find the way to save themselves. They realized that they could not depend on their main bank anymore. They started to use indirect financing since borrowing from bank would no longer bring benefits to them. The booming of financial market also helped firms to access to cheaper sources of funds more easily. This again proved the fact that companies always made the decision after calculating the expected gains and losses.
Figure 3.1: The total borrowings and capital stock ratio of non-financial sector in Japan (1955-2015)
Source: Financial Statements Statistics of Corporations by Industry (Nonfinancial Corporate Sector), Ministry of Finance Japan
4. Conclusion
Despite not a few critics about the interventionist regime of bureaucracy, the extreme speed of development of Japanese economy has still made an impression to other countries all over the world. Within a relatively short period of time, Japanese companies owned largest shipbuilding, steel-making and textile-manufacturing industries in the world’s market. This phenomenal growth could not have been achieved without very aggressive corporate financial policies, in other words, the debt financing policies. Understanding the rationale behind their financing behavior, however, is important for the government, and the policy makers to reconsider their intervention in the market and the wrong signals they give to the private sector, especially big corporations. That is the guarantee of the government, or the so-called “too big to fail” term which is usually mentioned during periods of financial spiral.
The guarantee of the government which resulted in the rational choice of Japanese companies in respect to the high ratio of debt to equity financing created a hidden danger to the financial system. Since companies were guaranteed, they were not able to aware of the high risk of using high financial leverage. The government even did not foresee and take the risk to the whole financial system into account. In the good times, Japanese companies continue to grow and increase their market share; but in the bad times, when the possibility of default by one firm would lead to the default of others and go beyond the control of the banking system as well as of the government. This so-called systemic risk would result in a financial crisis which was proved to happen in Japan during the period of economic bubble.
Even in the period of bubble burst, firms were still waiting for the government to save them. In a survey of carried out in 1989 of Shiller, Kon-ya and Tsutsui, 68 per cent out of 139 Japanese institutional investors agreed with the statement “The Ministry of Finance will take steps to assure that stock prices in Japan will not lose too much of their value”. The lesson, therefore, can be drawn from the financial bubble in Japan is that wrong incentives given to companies by the government may be highly risky to the economy, in this context, to the financial system. Corporations always act on their interests, thus are rational with their financing choices. Advice should be given to the government that to never become “the insurance” for any entities in the economy.
It is noteworthy that Ministry of International Trade and Industry (MITI) has also played a role in manipulating the financial market through giving favors to some targeted industries. Together, the MITI, the MOF, the BOF, and the long-term credit banks influence the allocation of credit to Japanese companies in certain industries. Ballon and Tomita (1988) presented their findings about MITI’s intervention as follow “MITI emphasizes the development of particular industries (e.g., knowledge-intensive industries) and facilitates this development. For example, MITI uses administrative guidance to grant tax incentives to the industries that it targets. Moreover, the long-term credit banks encourage companies in such industries to borrow funds in order to finance growth”. MITI officials also influence these industries through Amakudari who work these companies after retiring from MITI. However, due to the lack of bank borrowings statistics by industry sector, it is difficult to provide a complete analysis. Further research on this issue is expected to carry out in the future.
5. References
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– Yasuzo Horie (1966), “The role of the Ie in the economic Modernization of Japan”, Kyoto University Economic Review, vol. 36
– Herbert Glazer (1967), “Capital Liberalization” in Robert J Ballon, ed. “Joint Ventures and Japan” (Tokyo: Sophia University)
– Caves and Uekusa (1976), Industrial Organization in Japan
– Stephen Bronte (1982), Japanese Finance: Markets and Institutions
– Auerbach, A. (1985), “Real Determinants of Corporate Leverage” in Corporate Capital Structures in the United States
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– J. Mark Ramseyer (1987), Takeovers in Japan: Opportunism, Ideology and Corporate Control
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– Karel Van Wolferen (1989), The Enigma Of Japanese Power
– Jeffrey A. Frankel (1991), The Japanese Financial System and the Cost of Capital: A survey
– Melissa J. Krasnow (1993), Corporate Interdependence: The Debt and Equity Financing Of Japanese Companies
– Fukuda, Atsuo, and Shinichi Hirota. (1996). “Main Bank Relationships and Capital Structure in Japan.”
– Min Chen, (2004) “Asian Management System: Chinese, Japanese and Korean styles of business”, p.171 Thom Learning.
– Thornhill Stewart, Guy Gellatly and Allan Riding (2004), “Growth History, Knowledge Intensity And Capital Structure In Small Firms”, Venture Capital, Vol. 6, No. 1, pp. 73 – 89
– Rahul Kumar (2008), Determinants of Firm’s Financial Leverage: A Critical Review
– Koji Sakai (2010), Financing Behavior of Japanese Firms
– Financial Statements Statistics of Corporations by Industry (Nonfinancial Corporate Sector), Ministry of Finance Japan and US Federal Reserve
– https://www.cbp.gov/trade/nafta
