Thank you very much Senator Lugar. As we have listened to the series of presentations so far, it seems that there are mainly two types of countries among our participants. One is very good at changing their top political leader, and the other is not. The Philippines and the United States, both have proved to belong to the former group, Japan and maybe Indonesia, probably belong to the latter. We are not sure about Taiwan, yet.

My presentation today may sound too pessimistic about Japan. Yes, it is true that I am pessimistic about my country's short-term prospect, but I am still optimistic in the longer run. As I recall my days at Harvard, 20 years ago, President Reagan came into office in a situation where the US economy had lost its competitive edge and was suffering the so called "twin deficits", while Japan's economy was praised as "No.1", and its way of business management and industrial policy were perceived to be a model to be learned.

Over the last 20 years our situation have changed 180 degrees. However, this example also shows us that we may not have to be over-pessimistic about Japan's future, but it should be legitimate only if Japan does what it should do to overcome its deep-rooted structural problems.

Underlying Changes

During the last decade of the 20th century, Japan's economy has been stagnant and its politics messy. In the first month of the 21st century, I am afraid to say that Japan appears to be in a chaos, although not in an Indonesian sense. Under these circumstances, however, Japan is beginning to show some fundamental changes, including those that face taboos in the old regime.

Let me discuss two developments here, first of which concerns the public opinion about our Constitution. While a great majority of the Japanese consider the "philosophy of peace", embraced in Japan's Constitution to be essential and therefore, never to be discarded in the future, a growing number of people now believe that Japan should play a more responsible role in both global and regional affairs. Accordingly, more open discussions have begun in recent years with regard to possible revisions of constitutional provisions that define the national policy framework. In the past, constitutional discussions have often centered on Article 9 of the Constitution, which limits the exercise of armed forces, but recent discussions cover wider issues. I should mention that in January 2000, the Research Councils on Constitution were established in both Houses of the Japanese Diet for the first time since World War II. While the Councils are not expected to propose specific constitutional amendments, it will publish a report, which summarizes discussions about major constitutional issues within 5 years.

Another development I would like to draw your attention to is the change in local governments elections. In addition to the famous Governor Shintaro Ishihara of Tokyo, independent candidates supported by no established party have been elected to governors of Nagano and Tochigi prefectures in recent months, defying the traditional election tactics of both ruling and opposing parties. Even in my prefecture, which used to be called "a LDP Kingdom", two candidates have been elected to mayors, defeating candidates supported by both LDP and other opposing parties. All of these and other unconventional governors and mayors separate themselves away not only from the traditional LDP policy platform but also from other established party lines. In other words, voters have expressed discontent with the status quo. In a similar context, there is a growing support among voters and Diet members for election of Prime Minister directly by voters, rather than by votes of members of the Diet, where only "party politics" and "faction politics" work.

Political Mess

Inspired by these voices for change, Mr. Koichi Kato stood up against the incumbent Mori administration two months ago. I was one of his supporters in the Japanese Diet, for I considered him to have a cause. Although opinion surveys showed that a great majority of Japanese people supported Mr. Kato in his attempt, Mr. Kato failed to obtain sufficient support among LDP members in the Diet so that he had to back off at the last minute. In this episode, the LDP, the ruling party and my party, has disappointed the Japanese people, and this has a grave implication for the ruling coalition.

That disappointment turned into a fury two weeks ago, when a LDP member of the Upper House was arrested for corruption. In addition to this politician, Takao Koyama, two ranking LDP politicians -- one cabinet member and Chief of LDP members of the Upper House -- resigned from their respective positions after they acknowledged either receipt of money from the same source as the arrested politician's, or an institution named KSD. I am afraid you should keep this name in your mind for a while, because KSD is likely to become the symbol of LDP corruption just like the so-called "Recruit Scandal" of 1989, which brought down the then Prime Minister Takeshita.

Even before the KSD scandal erupted, Japanese taxpayers had felt a great deal of frustration against policy makers for their inability to address economic problems. Under the prolonged economic stagnation, workers have felt job insecurity as the unemployment rate remained high and wages hardly increased if not decreased. Our future tax burdens now loom uncannily large in view of the mounting public debts. Many people are probably expecting the consumption tax rate to be doubled from the present 5% in several years. It is against this pathetic ethos that suicides are increasing among many middle aged workers and small business owners, and so are juvenile crimes among high school and mid-school students. People are obviously upset by political irresponsibility that persists at a national level.

Let me remind you of another fact, which is as unpleasant as the previous, from a viewpoint of the LDP. The general election of June 2000 resulted in a setback to the LDP, which lost 37 seats in the Lower House. I had to myself experience a very tough campaign myself. With the support of Komei-to and the Conservative Party, the LDP has been able to stay in power, which sometimes masks the political reality that voters have been grossly unhappy with LDP policies or "LDPishness", which is closely associated with the protection of vested interests and pork barrel spending showing no credible scenario for the future Japan.

Last night, Secretary Shultz picked up a very important subject of demography. In the case of Japan, we are suffering both the most rapid aging among industrialized countries, and the low birth rate of 1.38, less and less babies are being born. Concern over future pension benefits is the most frequently discussed issue in town meetings. One good evidence of people's concern over our future is the chart I showed you last year, as some of you may recall, showing the higher saving rate among the aging population, relative to the younger generation, which is quite unusual. People are longing to see a credible future scenario.

On top of these underlying disappointments and dissatisfactions, the KSD scandal broke out. Under these present circumstances, even the most optimistic LDP members would expect a major defeat in the Upper House election scheduled on July 29.

What could the LDP do now? This is of course a different question from "what the LDP should do." The latter question is easier to answer as far as I am concerned. The LDP should depart from its traditional policy and illustrate an alternative scenario in order to attract support from a wider constituency. I am not confident, however, that the present LDP could do so. For one thing, the departure from the old policy platform would mean change in leadership. Therefore, we would have to find an attractive leader within the LDP. More importantly, change in policy platform would carry with it a risk of losing traditional supporters. Because many of the individual LDP politicians have been elected to the Diet, often representing the vested interests, re-orientation of its policy, for example, putting stress on the importance of the fiscal consolidation by cutting expenditures such as public works or social security, would surely meet strong resistance on the party level. But I strongly believe, the time has already come to the point where we, the politicians must face the reality and convince the people to step forward.

You are perhaps interested in knowing what will follow the Upper House election. So am I ! My gross speculation is, if the LDP and its ruling partners lose the majority, this could lead to a general election. All bills have to be passed by both houses in order to become effective with the exception of the designation of Prime Minister, budget and ratification of treaties, about which the Lower House's decision overwhelms. Therefore, if the oppositions control the Upper House, no important laws will be enacted. A split Diet in Japan might as well become messier than a split Congress in the United States.

Economic Problems and Structural Reform

Let me now take up economic issues. Japan' s economy has been in a prolonged stagnation since the speculative bubbles burst in the early 1990s. The average economic growth rate during the 1990s was only 1.3 percent in contrast to vigorous growth in the United States and elsewhere during the same period. This growth performance has been disappointing also in comparison with its own record of 4 percent in the preceding decade. As I emphasized in the past two meetings of this group, Japan's economic problem is more structural than cyclical, and at the core of the structural problem lie non-performing assets in both the financial and non-financial business sectors.

The remedy for this problem is well understood by now, that is to engineer the exit of non-performing assets. Otherwise, capital and other resources would remain locked in the most unproductive activities, hence the returns on assets would remain very low. During the past few years, therefore, we have put pressures on banks to have them discharge bad assets, close insolvent banks while strengthening the safety net in the financial system. In fact, a number of banks and businesses have failed, including those that used to be believed to be too big to fail: LTCB, NCB, Yamaichi Securities, Sogo Department Store, to name but a few.

In general, however, the adjustment took place at a slower pace than being desirable. In addition, the government has applied a lot of sweetener to the adjustment process in the form of public spending. The upshot is, on top of the continued large non-performing assets in the private sector, huge public debts amounting to 130 percent of GDP, far worse than Italy, coupled with non-performing assets in the public sector.

While Japan's economy has been under the balance-sheet adjustment pressure, the global market has become truly global and competitive. All of us in this room know that the global market now covers not only manufactured goods and commodities, but also those goods and services that were believed to be non-tradable a decade ago. Japan has no time to lose not only in cleaning up non-performing assets but also for preparing the system better suited for global competition. In fact, some progress has been made so far. First, we have decided to privatize the accounting standard setting body by this summer. Second, we will launch Real Estate Investment Trust, so called J-REIT, in order to accelerate real state securitization. Third, a comprehensive revision of Japanese Commercial Codes is now underway. My list of further reform items consists of creation of a Japanese version of US SEC, further deregulation coupled with the strengthening of competition policy and overhaul of the tax system. Administrative reform, including the recruitment policy of civil servants is of course a continuing agenda.

In this regard, Free Trade Agreements, which we will start for the first time in our history with Singapore this year, can play a complementary role to the painstaking WTO approach, as well as a catalytic role to expedite reforms on the domestic agenda. It should be added that these challenges benefit not only foreign direct investment to Japan, but also Japan itself, because these reforms will contribute to enhancing productivity growth and thereby rate of returns in Japan.

Implications for Foreign Policy

During the past several minutes, I have discussed domestic politics in Japan, but it has of course implications for Japan's foreign policy. First, the prolonged recession and accompanying economic pessimism have forced taxpayers to reconsider Japan's foreign aid programs. I was Director of the Foreign Affairs Division of LDP Policy Research Council last year, when there was a strong resentment among ordinary Japanese at Chinese maritime activity in Japan's Exclusive Economic Zone. Ordinary people demanded that Japan's aid to China be cut back because it was not serving its national interests. The Japanese taxpayers have obviously become more conscious about cost effectiveness not only with respect to domestic public spending but also spending overseas.

Second, as the oppositions become more realistic with respect to foreign policy, the LDP is losing competitive edge in relative terms. Foreign policy is no longer a one-party show of the LDP, but has an item to be discussed and bargained with other parties. In a sense, this is a good news for the stability in the Asia Pacific, because whichever parties form a ruling coalition, its policy would continue to be realistic. In a different sense, however, this would invite a messy relationship between Japan and the rest of the world because negotiation partners in Asia-Pacific countries may have to begin discussions with a lot more politicians and they often will have to do it from the scratch. In order to contain possible mess to a minimum level, both the LDP and other parties will have to agree to broad bushed principles of Japan's foreign policy. In this regard, September this year marks the 50th anniversary of San Francisco Treaty, whereby Japan was re-accepted to the international community six years after the end of World War II. We should not miss this excellent opportunity for establishment of fundamental foreign policy principles of Japan for the 21st century.

Conclusions

Before closing this rather bitter analysis of Japan's politics, allow me to say a few words somewhat encouraging. It was at the July 1993 general election that the LDP was defeated so badly under Prime Minister Miyazawa that it had to step down. By hindsight, this was "the beginning of the end of an era" in which the old political regime controlled every policy with the support by bureaucracy and businesses. The next Upper House election and possibly ensuing general election may mark "the end of the beginning of a new era", when Japan's policy decisions will be made on a more competitive basis, mustering all knowledge of different constituencies.

Until this new regime is established, the current chaotic situation might continue on the Japanese political scene. At the same time, we all know that Cosmos was born out of Chaos. While Japan has no time to lose in structural reform and therefore Japan's Cosmos should better be born sooner than later, we should also be careful about possible "premature birth". Our experience during the past decade shows that neither quick fix nor forbearance policy will offer any lasting solution. Let me hope that our new Cosmos be born in good health.

Thank you.