The End of Japanese-Style Human Resource Management?

A plethora of articles in the popular business press in both Japan and the United States have reported the end of the Japanese-style human resource management system, in particular, the demise of lifetime employment and seniority-based wages and promotion in large Japanese firms.1 While many companies are making changes, it is inaccurate to proclaim the end of the current system, since the system has been evolving, rather than remaining stable in the long term. Moreover, evidence shows that while changes are occurring, they are generally limited to seniority-based pay and promotion, whereas lifetime employment remains intact in most large companies. In addition, only a minority of large firms (approximately 10 percent) have substituted performance-based pay and promotion systems (nen posei) for seniority-based wages (nenko), and even some of these firms guarantee wage levels, which is contrary to a pure performance-based system.

My evidence comes from the results of published surveys by the Japanese Ministry of Labor (JMOL), the Federation of Japan Employers or Nikkeiren (FJE), the Japan Productivity Center (JPC), and the Japan Employment Information Center (JEIC). From these surveys, I was able to obtain a broad-based picture of large Japanese companies’ employment policies, in particular, lifetime employment and seniority-based wages and promotion. I used the survey results to examine the first issue: Are Japanese employment practices undergoing fundamental changes, and, if so, how much change?

A second issue is why employment practices are changing. While popular press reports commonly point to two factors in particular — slow growth and a recessionary environment during the past six years and an excess of older white-collar employees whose productivity needs to improve2 — this categorization omits a range of other reasons, including changes in Japanese companies’ international competitive positions, the structure of the Japanese economy, and employees’ attitudes toward work.

A third issue is what strategic implications the changes have for both Japanese firms and the Western companies they compete with. Again, contrary to a popular view that Japanese firms are becoming more like Western firms in both their human resource policies and overall strategies (for example, emphasizing profits over market share), I show why large companies will continue to place strong emphasis on both growth and market share as corporate strategies, and put even greater emphasis on product, marketing, and service innovations. Moreover, in order to deal with high labor costs in Japan and to create these innovations, large firms will continue to rapidly shift lower-value-added manufacturing overseas while simultaneously increasing performance-based pay and promotion systems within Japan to foster greater white-collar productivity and innovation.

All these changes will result in an evolutionary rather than revolutionary change in large firms’ human resource policies and corporate strategies. They have varying implications for the Western companies that compete or cooperate with them.

Are Japanese Employment Practices Changing?

The JMOL defines lifetime employment as the “practice of companies to hire their core employees primarily from among new graduates and other young persons, to plan their continual training and development, to continue their employment within the company group over a long period of time [usually until age 55 or 60], and not to discharge or lay off such employees except in very unusual circumstances.”3 First, it is important to note that this definition refers to core employees. The system does not apply and never has applied to all employees (it leaves out temporary workers, subcontractors, seasonal workers, part-timers, and dispatched employees).4 Second, the JMOL definition doesn’t refer to the fact that lifetime employment is limited only to larger companies. Third, the definition refers to core employees’ long-term training and employment within the enterprise group or keiretsu. It does not state that they never leave their particular companies, either for another company within the keiretsu or to pursue a career at another company.

For example, according to a JMOL 1993 survey of manufacturing companies with more than 1,000 employees, the following percentages of university graduate white-collar male workers remained with their initial company of employment: age thirty, 78.9 percent; age forty, 70 percent; age fifty, 66.2 percent; age sixty, 33.6 percent.5 As a result, we can conclude that lifetime employment in large companies for white-collar male employees means that, on average, roughly two-thirds of employees stay with the same company until age fifty, while, by sixty, this figure declines to 33.6 percent as many employees retire and move to subsidiaries.

JMOL surveys of companies also point to recent changes in the system of lifetime employment. Since 1969, the percentage of the total labor force under lifetime employment has gradually decreased, accompanied by a gradual increase in the service sector as a percentage of Japan’s economy and an increased number of part-timers in all companies. At the same time, between 1973 and 1993, there was increased lifetime employment among male workers forty-five to forty-nine years old in large companies with more than 1,000 employees.6 As a result, in the twenty years between 1973 and 1993, lifetime employment had already begun to decline as a percentage of the total labor force while, at the same time, slightly increasing in its application to older workers in large companies.

Still unanswered is what has happened to lifetime employment since the beginning, in 1992, of the current protracted period of low growth. The JMOL did an early survey on this in 1993 among large manufacturing companies with more than 1,000 employees; 70 percent of companies indicated that they had adjusted their labor forces during the then ongoing recession. However, only 2 percent indicated they had laid off workers or suggested voluntary retirement. In a later 1994 JMOL survey of similar large manufacturing companies, 56 percent of companies, in answer to a question on their plans for lifetime employment, “plan to maintain lifetime employment in the future”; 35.7 percent replied that “partial changes in the system are unavoidable,” and only 5.8 percent said that “fundamental revisions are necessary.”7 Finally, in January 1996, the JPC surveyed personnel managers of Tokyo Stock Exchange-listed companies; 82.4 percent replied that their companies supported “maintaining the lifetime employment system as much as possible.”8

Based on these results, it seems clear that the general trend among the majority of large companies is to maintain the lifetime employment system, not abolish it. This conclusion is not changed by the fact that some companies have used and continue to use early retirement options for employees over forty-five or fifty. The percentage of companies offering such programs is still a minority, and such retirement systems themselves do not necessarily signal the end of the lifetime employment system because they have been used in past recessions. Moreover, the phrase, “as much as possible” is the same qualification that most companies previously offered employees. It indicates that lifetime employment has never been an ironclad guarantee but only a statement of principle backed by legal constraints in Japanese labor law.

Seniority-Based Pay and Promotion

Larger firms, however, give considerably less support for the future maintenance of the seniority-based pay and promotion system (nenko wages). In fact, a majority of companies support its gradual weakening and, in many cases, complete abolishment. But what does seniority-based pay and promotion refer to? The JMOL definition is “a system or practice which emphasizes number of years of service or age and educational background in determining pay and promotion.”9 This does not mean that seniority measured by the number of years with the company is the only means used to determine pay, but rather is a primary means.10 Thus, even in companies that use a seniority-based pay and promotion system, there has always been a fair amount of competition among same-year entrants to the company. Informal evaluations of individual performance begin soon after new employees enter the company, even though they are treated equally in terms of pay and promotion for a number of years.

For example, according to a 1994 JMOL survey of 2,000 firms with more than 1,000 employees, slightly more than half (50.3 percent) gave their first promotion to all new employees hired in the same year at exactly the same time (an average of 6.3 years after entry). However, after the first promotion, further promotions and wage increases were also tied to individual employee merit, although the merit component in a traditional seniority system is much smaller than seniority as a determinant of overall wage levels. Moreover, in the past ten years, it appears that a wage structure based on seniority is weakening in large companies. For example, in 1993, the ratio of average wages of forty-five- to forty-nine-year-olds compared to twenty- to twenty-four-year-olds was 277.0 percent, while, in 1983, a similar comparison of the wages of these age groups yielded a ratio of 303.9 percent. In other words, from 1983 to 1993, the difference between the average wages of older and younger workers decreased, indicating a flattening of the wage curve and thus a weakening of wages based on seniority. As a result, egalitarianism in wages, already a strong characteristic of large Japanese companies, has increased.11

According to the above mentioned JPC 1996 survey of Tokyo Stock Exchange-listed companies, only 10 percent of large companies support maintaining the seniority system as is. Their responses divide as follows:

• “The lifetime employment system should be maintained to the extent possible but seniority-based pay should be abolished.” (76.1 percent)
• “Both lifetime employment and seniority-based pay should be abolished.” (12.0 percent)
• “Both lifetime employment and the seniority system should be maintained.” (6.3 percent)12

Again, the emerging consensus among larger companies seems to be that, while lifetime employment will be retained, seniority-based pay and promotion will generally be phased out.

Annual Salary Systems

Given that major changes are and will be taking place with the seniority system, let’s look in more detail at what these changes have been so far. Modifications to the seniority system began in the 1950s, when a few companies in the private sector introduced “job-based wages” (shokumu-kyu) as one part of overall pay, though they were never popular with workers and unions and didn’t fit well with the rapidly changing technology environment at the time, which tended to transform the content of many jobs fairly quickly. As a result, job-based wages didn’t come to be widely used until after the first oil crisis (1973 to 1974), when the need for more specialized skills became clearer and “job ability-based wages” (shokuno-kyu) became popular to determine part of overall pay using a measure of an individual’s overall job abilities along with other components that were still clearly seniority-based. Since the early 1990s, a minority of companies have further developed this system of job ability-based wages to focus solely on individual worker performance over one year compared to goals set at the beginning. As a result, this new system is much closer to a true performance-based pay system and has been given a new name, “annual salary system” (nen posei). Moreover, interest in it has grown enough that such organizations as the FJE and JEIC have published guidelines on how to use it.13

Companies’ growing use of such annual salary systems has also been the target of an increasing number of surveys during the past several years (see Table 1). Based on Table 1, we can draw the following conclusions:

• About 10 percent of large companies have introduced an annual salary system.
• Companies use an annual salary system primarily for managers and general managers, not for lower level jobs or employees, though they use it to an extent for specialists, especially in technical areas.
• Large companies use such systems slightly more often than smaller companies.
• The introduction of annual salary systems did not begin with the recent recession but, in at least a quarter of companies, began in 1990 or before.
• The primary reason for their introduction is to support individual employee evaluation systems based on performance during the previous year.

More specific data from the JPC survey in January 1996 also shows that companies use new annual salary systems to prevent employees from assuming that salaries automatically increase every year, regardless of their performance. For example:

• In companies using annual salary systems, one of ten employees under the system has had a decrease in salary from the previous year.
• In companies using annual salary systems, one of four or five employees under the system has had no raise in salary from the previous year.
• 53 percent of companies using annual salary systems have set no lower limit for salary decreases for employees under the system.
• 28 percent of companies using annual salary systems have set lower limits to pay decreases for employees under the system.14

At the same time, this survey also indicates that the most important goal of companies using annual salary systems has been not simply cutting white-collar labor costs through pay decreases but raising white-collar productivity. For example:

• 43 percent of companies currently using annual salary systems said that, on average, the increase in employees’ salaries was similar to the increase before introducing the system.
• 37.8 percent of companies reported that the number of employees with a greater rise in salary than before introduction of the system increased.
• 18.9 percent of companies indicated that the number of employees with a smaller rise in salary than before introduction of the system increased.15

Company responses to a question on the major merits of an annual salary system also reflect the primary justification for introducing annual salary systems as boosting productivity. The first and second most frequently mentioned merits of the new system, for example, were “increasing employee motivation to work harder” and “clarifying performance evaluations,” while “cutting labor costs” was eighth. Moreover, among surveyed companies that had not yet introduced an annual salary system but either had specific plans to do so or were considering introduction, the major reasons for considering future introduction were “clarifying performance evaluations” (74.4 percent) and “helping carry out a system of management by objectives” (42.2 percent).16 Again, this indicates that the aim of introducing annual salary systems seems to be less a short-term perspective of simply cutting labor costs through wage decreases and more a long-term perspective of increasing productivity through establishing performance as the prime factor in setting pay and promotion.

Companies in the JPC survey that have not yet introduced annual salary systems cited two major factors as most crucial for its future spread: (1) a weakening of a seniority-system mentality among employees (56.9 percent) and (2) clearer standards for employee evaluations (43.4 percent).17 Both these factors indirectly point to potential employee backlash as an obstacle to the wider spread of performance-based systems.

In summary, recent major changes in Japanese companies’ domestic employment practices have centered on revisions to the seniority system and not to lifetime employment. As a result, it seems the seniority system is being replaced by a new job performance-based pay system increasingly labeled as an “annual salary system.” However, while such performance-based pay systems may eventually replace current seniority-based or “job-ability-based” wage systems in the majority of larger Japanese firms, so far this has occurred in only about 10 percent of firms. Moreover, even within these firms, the new “annual salary systems” usually apply to only a minority of employees, in most cases, general managers and managers.

At the same time, press reports about the end of the lifetime employment system clearly seem premature. A majority of large companies indicate plans to retain it. The system continues to have a number of strong positive effects. It encourages strong employee loyalty and motivation and fosters excellent internal communication and long-term training systems within the company. At the same time, its drawbacks in terms of fixed labor costs seem manageable, given the fact that it has never applied to all employees, and that a number of mechanisms, including early retirement and transfer to other group companies, exist to alleviate rigidities.18

Why Are Employment Practices Changing?

Large firms’ current employment system, primarily defined by lifetime employment and seniority-based wages and promotion, is generally a product of the immediate post-World War II period, although important antecedents can be traced to the wartime period (1940 to 1945) and the 1920s. Beginning in 1941, for example, wages based on levels of experience, education, sex, and region became institutionalized, and a guarantee of wages based on workers’ minimal living costs was widely used. In 1942, yearly wage increases based partly on age and length of service became obligatory in many industries. At the same time, labor mobility and companies’ ability to dismiss workers were curtailed.19

In the early postwar period, unions fought to preserve this guarantee of living wages (seikatsu-kyu). In particular, the electrical power industry workers’ trade union reached an agreement with management on setting wages based on a worker’s stage in life and marital status; the idea was to guarantee wages at a time when high inflation was hurting Japanese workers’ ability to keep up with costs. This agreement, reached in 1946, quickly spread to other industries and was eventually adopted by most managements in exchange for labor peace. The system then became the basis for seniority-based wages and promotion and, together with the lifetime employment system, was viewed by management as a way to secure labor peace and retain skilled workers.20

From the unions’ viewpoint, on the other hand, lifetime employment and seniority wages were ways to stave off management’s tendency to lay workers off to adjust labor costs and to beat the threat of an inflated cost of living. Various labor court rulings in the 1950s that established “principles regulating the right to dismiss” and required that companies specify “legitimate reasons for fair dismissal” also supported lifetime employment. (Such laws tightened further in the 1960s.) At the same time, to achieve flexibility in labor costs and provide lifetime employment to a core workforce, management limited lifetime employment to the core group, created a separate group of temporary workers it could lay off easily, instituted twice-yearly bonuses based on company financial results, varied workers’ overtime hours, and squeezed suppliers in times of recession to adjust overall system labor costs.21 In this sense, management alone did not create these systems in the postwar period. Nor were they simply the result of Japanese cultural values. Rather, they were the direct result of unions’ demands for living wages and no layoffs, followed by management accession to these demands for core employees, incorporating them into a system that maintained overall labor cost flexibility.22

Following their initial introduction in the late 1940s and early 1950s, however, seniority-based wages and lifetime employment remained in place into the 1960s and 1970s, even after inflation fell and wage levels rose beyond living costs, because of these factors:

1. A long period of high economic growth rates that allowed large companies to pay steadily increasing wages to all workers, guarantee employment, and not tie wages to specific jobs or individual performance because high growth had created work for everyone.
2. An economy based on catching up with prewar levels of Japanese output and with levels of technology in the West. In such an economy, mass production and process-oriented innovation were most important. As a result, human resource strategies could focus on training and development of generalist workers able to absorb and improve existing technologies rather than specialists or workers focused on innovative technology.

3. A labor force that consisted of many young workers and to which the application of seniority-based wages with steep wage or age curves (i.e., low wages for young workers) meant overall low wage costs.
4. Labor union support for lifetime employment and the seniority system and opposition to the introduction of individual performance-based pay systems.

In the 1980s and 1990s, however, a number of factors, both internal and external to large firms, have contributed to increasing pressure for change in the seniority system. Major internal factors have been:

1. Falling profit margins, predating the early 1990s recession but becoming acute after its inception.
2. A rising percentage of employees in white-collar jobs with much slower productivity growth than blue-collar workers.
3. A rapidly aging workforce, with an excess of older workers, especially among white-collar staff (estimated between 10 percent and 20 percent of all white-collar workers in 1994).
4. Changes in employee attitudes toward work and the seniority system, especially among the younger workforce.

Falling Profit Margins

Falling profit margins in large firms began after 1970, when average operating margins for Tokyo Stock Exchange-listed firms were still as high as 6 percent on average for nonfinancial companies. Operating margins thereafter began to drop, especially after the first oil shock when they fell to below 4 percent, before recovering and climbing more than 4 percent in the 1980s, and then falling again to less than 2 percent during the early 1990s. Return-on-equity trends were similar, starting as high as 16.6 percent in 1970, dropping to 9 percent after the first oil shock, then climbing back above 13 percent in the early 1980s, before dipping below 6 percent in the early 1990s and, by 1994, falling as low as 2 percent.24

Two causes for this gradual long-term deterioration of returns are: (1) large firms overwhelmingly emphasize retaining market share rather than profitability, itself made possible by relatively tolerant, long-term-oriented shareholders, and (2) low white-collar productivity as the percentage of total white-collar workers increased dramatically from 36 percent in 1970 to 50 percent in 1990. One survey of 1,000 large firms from 1982 to 1992, for example, found that while blue-collar productivity allowed average gross profits to rise by 68 percent, when white-collar employee costs were added in, there was only a 6 percent gain in operating income for the same time period.25

Aging Population

Another major factor, of course, is the rapidly aging Japanese population and its equivalent within the Japanese company, an age chart of the labor force that is no longer pyramidal but elliptical, with an excess of baby-boomer employees in the middle who contribute to steadily rising labor costs under traditional seniority-based wages.26 An excess of middle-aged and older workers was more easily tolerated when the economy was growing fast and profit margins were higher. Now that this is no longer the case, the productivity of such excess staff becomes a major issue.

Finally, attitudes among younger employees are much more attuned to the principle of equal opportunity that a performance-based pay system implies. At the same time, they are increasingly less tolerant of the principle of equality of results and patiently waiting for the promotion implied by the traditional seniority system. Such younger workers are generally less loyal to the company and more family- or leisure-oriented than older generations and so display less effort for the company. They are also somewhat more prone to changing jobs than their elders, though this seems at least partly due to the seniority-based pay and promotion system itself, which does not reward young high achievers fast enough. Higher job mobility also seems to be the result of a changing economy and an increase in specialized jobs in areas such as software and certain engineering fields that face shortages of qualified workers.27

External Factors

When we analyze environmental factors outside the large firm, the role of non-cost-based factors becomes even larger. Such major external factors are:

1. The maturing of the Japanese economy, in terms of both lower growth rates and growth of the service sector (which has traditionally been more performance-based in employment practices), and the end of the catch-up economy, with further economic growth increasingly dependent on internal technical innovation, a move to higher value-added products, and major cuts in government regulation.
2. A decline in large Japanese companies’ international competitive position, primarily due to yen appreciation and companies’ declining ability to squeeze more costs from suppliers and factory production. As a result, large firms are in fierce competition with both Western firms in high-value-added products on technological grounds and price, and in lower-value-added products with firms in Korea and Taiwan. The result is simultaneous pressure on firms both to develop more high-value-added products through innovation and to shift more of the manufacture of their lower-value-added products out of Japan. This requires greater white-collar innovation and productivity at the same time that it eliminates both white-and blue-collar jobs within Japan. Although such jobs are usually lost through attrition rather than layoffs, the Japanese government and Japanese companies (urged on by the government) are mounting a major effort to replace these lost jobs within Japan with new jobs in high-growth areas.
3. Increasing internationalization of Japanese companies’ operations, which creates the need for more specialist tracks for Japanese employees and exposes management to foreign ways of managing workers.

These factors indicate that greater innovation is a key to competition in the higher value-added sectors where large Japanese manufacturing companies compete. High-quality production of standardized products in mass quantities, or even large varieties of quality products in smaller lots, is no longer sufficient. Rather, large firms increasingly need to develop unique or highly innovative products that cannot be easily copied and continually move up the value-added chain with new innovations. They also need to develop entirely new technologies more often and more quickly. Performance-based wages help by motivating the more innovative workers and forcing slackers to either improve their performance or risk lower pay and demotions. They also allow for more specialist employee tracks rather than generalist routes to greater status. Moreover, performance-based wages allow companies to more easily hire mid-career specialists necessary to develop new technologies or enter new fields.

Such rapid internal technical innovation and movement into new fields is also necessary since an earlier Japanese strategy of dependence on Western technology is less feasible. This is both because Western firms are less willing to sell advanced technology and, in many areas, Japanese companies have no option but to develop new technologies themselves since Western firms’ technologies are less advanced.28

Large companies, therefore, see seniority-based wages and promotion as needing revision. Performance-based wages and multitrack or specialist track employment are increasing. Although these trends began in the 1980s, during the 1990s they are slowly becoming mainstream.29

What Are the Implications of Changes?

What are the strategic implications of the changes in human resource policies, both for large Japanese firms and for the Western firms competing with them?

Emphasis on Growth

To the extent that the majority of large firms retain lifetime employment for core employees, the need to guarantee employment means that companies must emphasize growth as a core strategy. Moreover, with increased concerns in both the government and private sector about a major “hollowing out” of Japanese domestic manufacturing as companies move more lower-value-added manufacturing overseas,30 both companies and the government advocate creating new jobs in growth sectors of the economy. Yet, for individual firms, this focus on growth is not only on creating new jobs in new industries but on growing market share in existing markets at the expense of other companies.

This is readily apparent in such industries as the auto industry where the major companies, including Toyota, Honda, Nissan, and Mitsubishi, are locked in a battle for share in a domestic market with little or no growth. On the other hand, efforts to create growth through the creation of entirely new markets also exist in areas such as multimedia and telecommunications, and through expansion of existing markets in areas such as personal computers and software.31 In all cases, however, companies’ behavior and the hollowing-out effect of the shift to overseas manufacturing imply that large Japanese companies’ emphasis on growth versus profitability has not and will not change that much, though they will try to increase profitability ratios from their historic lows. Western companies therefore should not expect a complete reversal of Japanese companies’ previous market growth and market share-oriented strategy but only minor adjustments to it, with growth still a primary concern for most large Japanese firms.

Innovation and Labor Productivity

The new international competition that large Japanese firms face is forcing them to strategically emphasize innovation in products, services, and market positioning, and in labor productivity improvements. In addition, Japanese companies are aware that to be more innovative, they must foster greater free thinking and creativity among their employees.32 As a result, Western firms competing with Japanese firms should be prepared for an onslaught of innovative and nontraditional products and services coming from Japanese companies, combined with nontradi-tional marketing and partnering strategies as well.33 As productivity increases, helped by performance-based pay systems, and the shift to more overseas production gradually kick in, Japanese companies’ overall cost-competitiveness also will improve and be reflected in their pricing of products.

White-Collar Productivity

Although early retirement plans and implicit layoffs at some larger Japanese companies have been emphasized in the Japanese press, most companies’ focus is not on layoffs but on the long-term objective of improving white-collar productivity to enhance competitiveness and grow faster. The reasons are simple. Layoffs have mainly negative effects for large Japanese companies, not only in terms of public image, but for both current employee morale and new recruitment efforts. As U.S. companies have found, although layoffs can alleviate short-term cost problems or boost short-term profitability, they do not address long-term growth issues.34 As a result, large Japanese firms are more concerned with the productivity of the majority of white-collar employees who remain with the company, since it is their productivity that will have a greater effect on long-term competitiveness. Although performance-based pay systems are an important means to increase such productivity, they are not the only means. Japanese companies have already begun and will continue to redesign white-collar work processes to increase productivity. Given their track record in managing work-flow on the factory floor, there is good reason to believe they might do an equally good job in the office over time. Western firms therefore should be prepared for a gradual but steady resurgence in Japanese firms’ overall competitiveness and productivity levels.

Keiretsu

It is not likely that there will be any breakup of the large keiretsu, based either on major sales of interlocking shares or complete breakups of existing supplier networks. At the same time, keiretsu will become more open in accepting outsiders and new suppliers and in allowing some sales of interlocking shares. The reasons have much to do with the continuing advantages of keiretsu affiliation. With regard to employment systems, it is large companies’ stated intentions to continue to offer lifetime employment for core employees that is important, and to do this, keiretsu affiliations are a major advantage. Again, this does not imply that large companies will guarantee lifetime employment; it is only a statement that the principle will be upheld as much as possible. For example, transferring employees to other group firms, sometimes permanently, and early retirement with extra pay will continue.35 Moreover, although supplier groups will become more open and memberships more changeable, there are important strategic reasons for large firms to keep key suppliers for the long term, both to preserve confidentiality of technologies and maintain low-cost communication and coordination among established parties. The implications for Western firms are that, while opportunities to enter into Japanese keiretsu networks as suppliers will increase, such entrance, unless it involves proprietary technology, may or may not involve a long-term relationship.

Overseas Production

Perhaps least surprising is that the continuing high cost of labor in Japan will drive more large Japanese manufacturing companies to shift production overseas, particularly to Asia. Asia is the logical choice not only because of proximity, growing local markets, and low labor rates, but because it is the only major overseas market where Japanese manufacturing companies have consistently made profits, while Japanese manufacturing facilities in the United States and Europe have much lower profit margins on average. Recent economic problems in Asian countries such as Malaysia, Thailand, and Indonesia probably won’t change this trend since currency devaluations plus increased localization efforts only increase their attractiveness over the long term as bases for low-cost manufacturing. Western firms thus can expect continued fierce competition in local Asian markets and lower prices from Japanese competitors in more mature product sectors as they move them increasingly to overseas production.

Conclusion

Although lifetime employment and seniority systems can be partly explained as the natural response of postwar Japanese firms to a fast-growing environment and a catch-up economy, a comparison with Korea in the 1970s and 1980s shows that equally high growth rates and a similar catch-up economy can be accompanied by a higher rate of labor mobility and layoffs and a more flexible lifetime employment system.36 How can we explain this? The answer seems to be that the particular forms of lifetime employment and seniority practices in Japan are ultimately the product of specific decisions made in the early postwar period by unions and managements and the institutionalization and gradual adjustment of these practices over time. Although such practices became partly unaligned with large companies’ needs as time passed, they were gradually adjusted to fit the changing needs of the business environment. This process continues today and explains the evolutionary rather than revolutionary pace of change.

Given past history, there is reason to think that more adjustments, even major ones such as a gradual elimination of the seniority system and its replacement with a new system based primarily on individual performance, may eventually occur in most large companies, at least for managers and upper management. Such a change could occur at the same time that Japanese-style lifetime employment continues in most companies. This is possible because Japanese-style lifetime employment never has been lifetime for everyone and has coexisted with systems allowing early retirement and intragroup transfers for selected older workers, contract employment for a part of the labor force, and mid-career hiring for specialists. As such, the system is flexible enough to adjust to most environmental changes without eliminating the principle of lifetime employment for core employees. In addition, while the system clearly has contributed recently to higher white-collar costs and a lack of productivity growth, these problems seemingly can be resolved to a great degree by the introduction of performance-based wages and the gradual retirement of excess baby boomer employees currently in their forties and fifties.

Recent JMOL survey results support the notion that such adjustments, rather than a shift to an entirely U.S.-style system, are the most probable future course for large Japanese companies. The results indicate that most companies continue to maintain as their goal “keeping the merits of the existing system while getting rid of its demerits.” In practice, this means maintaining lifetime employment for a majority of employees, while introducing performance-based wages for managers, expanding mid-career hiring for specialists, and increasing the number of contract employees. At the same time, companies see the main challenges of establishing new performance pay systems as creating evaluation standards that employees view as fair and evaluation criteria that do not overly focus on short-term performance detrimental to the company’s long-term interests.37

In short, continuing evolution rather than abrupt revolution seems to best characterize the current process of changes in the human resource practices of large Japanese companies. While some observers argue that such incremental changes only postpone the larger transformation necessary for large firms to regain greater competitiveness,38 the evidence for drastic employment practice changes (for example, abolishment of lifetime employment altogether) is weak. Instead, both government policies and national attitudes favor social stability and gradual change as superior to maximizing short-term corporate profitability through massive layoffs. The most likely course for most large companies will be to accept redundant employees while gradually decreasing their numbers through attrition and increasing overall labor productivity levels through squeezing more productivity from all employees. Most large export-oriented companies already have had tremendous experience in such squeezing during the past twenty years at the factory level. The new performance-based wage systems and redesign of work processes, including faster, more top-down decision making, will make it even easier to do the same for the office level. Consequently, the pieces seem to be in place for large firms to manage their current employment issues through a shift to performance-based pay without eliminating the principle of lifetime employment for a majority of employees.

Perhaps the strongest evidence for this course, however, is the recent success of companies such as Honda, Fujitsu, and Sony, three of the first firms to institute performance-based systems for all managers. All three have been able to revitalize themselves without layoffs of core employees by using such performance-based pay systems along with a strong focus on new product innovation and partnering strategies.39 Similar reforms underway at Nissan, Toshiba, Matsushita, and other large export-oriented firms indicate that, while change will be gradual and vary by individual company, most large companies will eventually follow in the same direction.