Reason Magazine - Staff

More Bang For the Yen?

info@reason.com (Michael J. Oakes) — Wed, 01 Apr 1998 00:00:00 EST

As Asian currencies and equities dropped last year, International Monetary Fund analysts and global fund managers discovered yet another important "Asian value": denial. Thai banks "can't imagine what will happen if they tell you the truth," a director of a Hong Kong-based investment management company told Dow Jones News Service in October. "As long as they still say there are no problems, I say stay away."

This failure to face reality is largely the result of an inability to define reality. Lax reporting and disclosure standards make a true accounting of Asia's bad debts extremely difficult. When capital allocation decisions are based on political rather than financial criteria, the incentives are to keep such reporting ambiguous.

But don't ask Indonesia's President Suharto and his Asian colleagues to shoulder all the blame on this point. After all, they had a highly regarded model: Japan.

Japanese government officials and business leaders have been suffering their own extended case of denial since the bursting of an economic bubble in 1991. For nearly the entire past decade, bad loans and stock market losses have been swept under the nation's tatami mats. The reflex to cover up has been aided by vague reporting practices and widespread fears that a public comeuppance would reveal too much about the links between bad loans and government officials. The nation's leaders also simply waited and hoped that the export machine, hero of so many previous domestic crises, would lift Japan's economy again, and that rising equity and real estate markets would make all bad things go away.

Unlike Thailand, Indonesia, and the others, Japan's currency devaluation stretched out over the past three years (rather than about three weeks), from a peak of [yen]80 to the dollar in 1995 to nearly [yen]135 in January. But Japan shares with its less-developed Asian neighbors the same kind of outdated, autocratic financial sector, leashed closely to politicians and their bureaucratic henchmen.

Modernizing and opening up these institutions are the ostensible goals of Japan's "Big Bang." The namesake of more narrowly focused security-market deregulation in England in the mid-1980s, Japan's Big Bang implies that a thunderous liberalization of the financial sector is taking place. That's what Japanese leaders want everyone to believe, but it's not that at all.

True, the package of official reforms will induce more competition in banking and securities markets and offer attractive opportunities for foreign financial expertise. But critical components of the fossilized structure responsible for a long list of financial market problems remain beyond the reach of reform.

Some of the most significant change is promised by two important measures. Foreign exchange controls will be eliminated April 1. At the same time, brokerage commissions were deregulated on trades greater than [yen]50 million (about $400,000). Commissions have been both standardized and steep for decades, one of many factors freezing individuals out of equity markets.

In addition, this spring, banks may once again establish holding companies (a structure banned by the United States during the postwar occupation). Barriers between banks and brokerages will be eliminated sometime in early 2000. And by late 2001, the insurance market may be opened to banks and brokerages as well.

These are all good things. They will almost certainly increase competition and spur some much needed innovation in those two now noticeably state-run industries. The new currency policy, for example, allows any individual or business to swap yen for foreign currency. Official commentators frequently mention that this means McDonald's and L.L. Bean can accept payment in dollars. Though a public boost to continuing "internationalization" rhetoric in Japan, that kind of talk shifts attention from the much bigger benefits that would result from yet freer exchange.

Japanese save a lot--roughly 12 percent of disposable income, or about three times the comparable U.S. rate. Only about 10 percent of total personal financial assets flows into stocks and securities. (Americans place more than 50 percent of their financial assets in stocks and other securities, according to Bank of Japan comparisons.) Sadly, more than half of Japan's considerable savings sits in deposit accounts earning only about 1.5 or 2 percent. Better access to foreign currencies, through retail banking and securities markets, will offer better access to much higher returns available overseas.

Despite all that savings to target, Japanese financial institutions have so far failed to offer the kinds of retail products widely available to investors in the United States. (The type of money management account pioneered years ago by Merrill Lynch, for example, is one of the "innovative" new products several firms now are planning to offer.) There are complex reasons for this, and not all of them are addressed by Big Bang measures.

Still, most observers agree, banks and brokerages can't help but get more dynamic. The big four securities firms get an average of nearly one-third of their income from stock commissions. For second-tier brokerages, commissions total 40 percent of income. Eliminating these standardized income sources should not only reduce investors' expenses but also send securities managers scrambling to develop new products to gain competitive advantage.

Many of those new products will very likely come from foreign firms. Financial industry managers in Japan are woefully inexperienced at chasing higher returns, managing risks, and marketing sophisticated financial products. Even in pre-Big Bang conditions, the hip bank for new ideas was Citibank, whose customers still are the only ones with access to a 24-hour ATM network. As reform unfolds, there is an unusually hospitable environment for foreign expertise. Last fall, Swiss Bank Corp. announced a joint venture with Long-Term Credit Bank of Japan to enter the retail securities market. Smith Barney, Bankers Trust of New York, and Barclays Bank also announced tie-ins with Japanese partners.

The biggest move came from Merrill Lynch. Already an established competitor in institutional accounts, the brokerage announced plans to establish a retail network in Japan. That prospect sent a "chill of fear through the domestic industry," according to Japan's most prominent business newspaper. A big part of that network will be built on the rubble of Yamaichi Securities' bankrupt branches. Yamaichi, Japan's fourth-largest brokerage, failed last November, leaving several thousand unemployed. That not only gives Merrill Lynch a public relations edge, it also helps illustrate for the Japanese that, in competitive systems, something new and better often springs from failure.

Though clearly good, these reforms by themselves are not good enough. Certainly, they are not worthy of the "Big Bang" label and do not constitute the kind of wholesale reform needed to modernize the financial industry. They consist of a gradual and "organic" reform process, according to Alicia Ogawa, managing director and head of equity research at Salomon Brothers Asia Ltd. At a forum in Tokyo last summer, Ogawa noted the drawn-out pace of the reforms and suggested that the phrase "Long Bang" is more accurate. Akio Mikuni, president of an independent bond rating agency in Tokyo, called the reforms "mostly cosmetic policy changes dished up largely for the purpose of mollifying Japan's trading partners."

How is eliminating fixed commissions and removing barriers between industries just "cosmetic"? Because critical, older game rules, responsible for shaping the current system, haven't been touched.

Taxes, for instance. Japanese haven't accumulated large savings merely because of cultural preferences. The tax system encourages savings and discourages participation by individuals in stock and bond markets. (Dividends are double-taxed, while interest income is taxed at a flat 20 percent.) Tax treatment for corporate ownership of stock encourages stock holding. Companies can use unrealized gains or losses to their advantage on balance sheets, while capital gains on sale of stock are taxed at an effective corporate income tax rate of almost 50 percent.

The tax structure, however, remains untouched by reform. So do accounting practices designed primarily for Ministry of Finance controls and not for public disclosure. In fact, most firms don't even regularly issue detailed reports to the public. The MOF gets the details and releases its own reports weeks later. Firms issue summarized versions to shareholders and prospective investors.

Without a tax system which at least treats savings and investment more evenly, and without meaningful public financial reporting, even aggressive companies like Merrill Lynch may find it difficult to either attract new customers or adequately evaluate the health of the firms in which those customers might invest.

But these are small matters compared to the impact on the financial industry of [yen]230 trillion ($1.8 trillion) held in postal savings accounts run by the government and untouched by any deregulation. One-third of Japan's total savings is thus under government control. These funds, together with an additional [yen]100 trillion ($800 billion) from postal insurance contracts, are managed by the Ministry of Finance. Special tax treatment--it's the government post office, so there are no taxes paid on those revenues--give postal savings accounts higher interest rates and a clear advantage compared to banks.

Then there is the finance ministry itself. MOF officials establish financial policy, license financial institutions, and supervise their performance. Until recently, the ministry ran the Bank of Japan too (and many believe it still will, though more indirectly, under a revised law). As the financial reporting practices illustrate, institutional management systems are designed with MOF control in mind. Revealing serious problems with banks, brokerages, or insurance firms is, in practice, the same as revealing bad news about the MOF itself. No wonder that, as the end of the decade approaches, there is still little accounting of the bad loans stemming from the crash of the bubble economy in 1991.

While the supervision of institutions will later be folded into a new agency reporting directly to the prime minister's office, no one believes the MOF has given up its control of financial markets. Staffers at the new agency, for example, will come from the MOF. Critical decisions will be a collaborative effort between the finance minister and the head of the agency. But the MOF controls the agency's budget.

None of this is especially surprising. The Big Bang is a political initiative. Prime Minister Ryutaro Hashimoto announced it in late 1996 as one of six areas of reform to which his administration had dedicated itself. Reform proved a popular theme in that year's national campaign.

A year and a half later, the final shape of the Big Bang proposals reflects their political roots. The reforms opening up banks and securities markets to greater competition targeted two industries politically weakened by scandals and a massive public bailout of failed housing loan corporations. But as the proposals targeted areas with more political clout, they were either delayed or dismissed altogether. Threatened with having their well-protected industry opened to bankers and stock brokers, insurance industry leaders pressed their case to ruling Liberal Democratic Party members receiving considerable financial support from the industry. Any significant move to spur more competition in insurance was delayed until fiscal 2001.

Postal services employ 300,000 people eager to work for LDP candidates during elections and fund-raising events. Their objections to privatizing postal operations gained support from several party members. Thus, there's not even a tiny bang for postal savings and postal insurance. These funds are scheduled to be transferred to a special government corporation in 2003. But that's just shifting them around the bureaucratic table.

Political influence may even yield some unexpected benefits. Evolving scandals, which led to the recent arrests of MOF officials and the subsequent resignation of the finance minister, are eroding the ministry's ability to shape details of the reforms to suit its purposes.

It's still common for observers of Japan to speak of a unique governing system, one that rather mysteriously lacks input from its large, free electorate. Of course Japan is different, as all countries have unique characteristics. But the financial reform process suggests Japan's system is not unrecognizable. Special interests, including middle-class savers (who wanted hands kept off their privileged postal savings accounts), applied as much pressure as they could to preserve their protections and handouts. Japan's government responded in essentially the same way other modern democracies would.

Think of the half dozen or so "reforms" of the American Social Security system in the past 20 years. Think of the Contract with America. You'll see Japan's Big Bang picture clearly enough.

Shaky Recovery

info@reason.com (Michael J. Oakes) — Thu, 01 Jan 1998 00:00:00 EST

On January 17, 1995, an earthquake measuring 7.2 on the Richter scale rocked the port city of Kobe, Japan. The quake, which came almost exactly a year after one of a similar magnitude in the Los Angeles suburb of Northridge, dominated the news with the images of ruin and desperation that inevitably follow such a disaster: displaced residents mourning the dead and worrying over the missing; elevated highways turned perpendicular to the ground; buildings reduced to rubble. The toll of the Kobe earthquake was stunning: 6,400 dead, $100 billion in damage.

Confusion and disruption are the rule in an earthquake and its aftermath. This is to be expected when solid earth turns to shifting mass, when streets split open and buildings fall under their own weight. But such a crisis tests far more than the faith of victims and the integrity of existing structures. It also tests the limits of how social, political, and economic systems--and the people operating within those systems--adapt, recover, and rebound from dramatically changed circumstances. An earthquake is a special case, one that brings to light usually subterranean organizing principles even as it brings down buildings and roadways. In this sense, the story of how Kobe responded (and continues to respond) to the quake is about much more than a city righting itself after a natural disaster. It is about how underlying rules and customs either facilitate or retard not just recovery from a natural disaster, but the ability to adapt and develop over time.

This is, then, a frustrating story. It is one that raises serious questions about Japan's much-vaunted devotion to top-down order and stability and its implementation of a "plan-rational" at almost every level of society. Over the past two decades and as the first of the great Asian tigers, Japan has been hailed for the success of its "administrative guidance," its ability to implement elite economic planning that somehow managed to steer clear both of the "excesses" of unbridled capitalism and the poverty of a command economy. As its economy went into recession in the '90s, enthusiasm for Japanese-style economic management and planning understandably waned. A close look at the Kobe earthquake and the city's slow recovery efforts suggests reasons for the larger problems in Japan's economy.

The disaster in Kobe reveals a set of guiding principles that not only hampered rescue efforts but even contributed to the quake's damage. Indeed, those policies have helped ensure that more than 27,000 families are still living and working in temporary buildings three years after the disaster--despite Japan's wealth. By substituting bureaucratic regularity for entrepreneurial innovation, government dictates for market processes, and vague group ownership for clear-cut property rights, the status quo in Japan has helped make the rebuilding of Kobe immeasurably more difficult than it needs to be.

Such problems became evident as soon as the earth stopped shaking. A post-quake report issued by the Kobe YMCA is filled with anecdotes such as this one: Three days after the quake, two women from Kobe Citizens Central Hospital appeared at city hall asking for 10 volunteers to help carry water at the hospital, located about a mile away. Water duty, they explained to city workers, pulled too many skilled nurses from more-urgent medical tasks. Officials on the first floor of city hall turned the women away. Yet on the eighth floor of the same building was a list of 5,000 registered volunteers willing to help any way they could. When the women came back for more help, officials told them to return later with a written request.

Similar bureaucratic procedures beset rescue and recovery efforts at the national level as well. Officials turned away doctors from the United States because they were not certified to practice medicine in Japan. They quarantined European search dogs while Kobe residents picked through the rubble by hand. Even offers of help from within Japan were refused: Although a disabled phone system presented a critical problem to search-and-rescue efforts, officials refused to distribute cellular phones donated by Nippon Motorola because they didn't want to issue the required telephone identification numbers. Officials initially rejected an early offer of medical help from the Japanese Association of Acute Medicine because they were unfamiliar with that organization; they changed their minds a week later as a flu virus raged through evacuation shelters.

The director of Kobe's international affairs division, Kiyoyuki Kanemitsu, exemplifies the distaste many officials show for stepping out of their regulated routine. When asked about the frequently hostile attitude toward volunteers wanting to assist rescue and emergency care operations, Kanemitsu explains, "In order to coordinate [the volunteers] it would take a lot of time, and we needed a bigger picture of the total damage. Also, we didn't know much about the people who volunteered. Frankly, we couldn't verify the trustworthiness of the people who volunteered, so we could not take responsibility for them."

Once a "bigger picture" developed, however, officials seemed no more interested in expediting recovery efforts. In Japan, plumbers are certified by municipal authorities and are prohibited from working outside their particular area. In the weeks after the earthquake, plumbers from Osaka, Kyoto, and other cities could not legally work in Kobe, even though the water supply system was in desperate need of repair. For Kanemitsu, the earthquake wasn't enough of a reason to relax such rules. Plumbers, he states firmly, "have to be qualified for our city. They have to be qualified to use the right tools....We will have another problem if we start another system. It's not good for us in the long term to consider this kind of action." A similar problem afflicted construction workers, especially carpenters who specialize in building traditional Japanese homes. Normal operating procedure requires craftsmen to be certified for such work. The post-quake need for repairs--and the strictly limited supply of labor--was no cause for change. As one city official told the Los Angeles Times, "Even in an emergency, we don't desire letting in simple laborers." (More than a year later, some of the requirements affecting carpenters were finally relaxed.)

Such responses were in marked contrast to succor offered from less-official sectors of Japanese society: Immediately after the earthquake, the Kobe YMCA was swamped with volunteers, many of whom had been turned away by city hall. YMCA managers quickly established an emergency headquarters and organized the volunteers into teams that canvassed damaged neighborhoods and reported back on what victims needed most. By bicycle and on foot--and wearing identifying numbers normally used for YMCA sporting events--volunteers delivered food, water, clothes, and blankets. Even members of the yakuza--Japan's organized crime gangs--used their networks to bring food, water, and other supplies into the area. Right-wing political groups, whose loudspeaker trucks regularly roam city streets calling for the restoration of the emperor, dropped their act and used their trucks to deliver hot tea to stricken neighborhoods. This all happened as boxes of instant noodles donated by local merchants sat outside city hall in the rain, untouched and undistributed.

Surveying the post-quake landscape in April 1995, the then-editor of Tokyo Business Today, Hiroshi Fukunga, summarized a disturbing but inescapable lesson from the Kobe experience. "It now seems clear that even in a national emergency the nation's pen-pushers will not swerve a millimeter from official procedures, even if fellow citizens' lives are at risk," wrote Fukunga. "While the hours slopped by and thousands lost their lives in the fiery ruins left by the Kobe disaster, Japanese officials' top priorities were observing protocol and following precedent."

Fukunga was absolutely right, but his analysis was incomplete. A major contributor to damage in Kobe had nothing to do with unresponsiveness after the quake. Rather, it reflected longstanding and popular governmental agricultural and land-use policies that have helped make housing and building costs in Japan among the most expensive in the world. These policies are intricately linked to Japan's valorization of a planned society that emphasizes the good of the community rather than the importance of the individual. They affected Kobe in two distinct ways. First, they encouraged construction of non-earthquake-resistant structures. Second, they created a confusing system of property ownership that, in the name of empowering all affected parties, makes rebuilding much more complicated than it needs to be.

Japan's historically intense concerns about agricultural self-sufficiency have led to generous price supports and other subsidies for farmers. Post-World War II land-reform efforts such as the 1952 Agricultural Land Act have "severely restricted land transfers, tenures, tenant rents, and so forth, in an attempt to prevent the concentration of land and to protect the welfare of tenants," notes Clark University economist Robert C. Hsu. Such policies, along with lower property and inheritance taxes on land used for food production, have encouraged farmers to continue farming, even though many do so now only part time.

There is a more perverse unintended consequence to such protectionism, however, one that bears directly on Kobe: In urban areas widely recognized as the most expensive housing markets on the planet, significant portions of land are still set aside for growing crops. Indeed, some analysts estimate that as much as 5 percent of Tokyo, a city known for its dense population and tiny living quarters, is set aside for farming. In Japan: Who Governs? (1995), Chalmers Johnson, president of the Japan Policy Research Institute, points out that Tokyo's 23 wards have about 62,000 acres of housing land on which 8.35 million people live. He notes, however, that there are about 89,000 acres of urban farmland in greater Tokyo, which includes the city proper and surrounding suburbs. Farmers are not the only Japanese property owners who hold land, either. One newspaper reports 116,000 acres of vacant land or "areas used only for open air storage spaces" in the country's three largest urban areas (Tokyo, Osaka, and Nagoya).

Over the decades, such policies have removed large amounts of land from the market and spurred development of "reclaimed land," or man-made islands, especially in coastal cities such as Kobe. In fact, Kobe's port facility sits on Port Island, an artificial land mass linked to the mainland by rail and expressway. Nearby Rokko Island, a commercial and residential area, was created by transferring large sections of the Rokko Mountains into the sea. According to a report by EQE International, a highly regarded earthquake and seismic engineering firm based in San Francisco, such land is "the worst soil possible for earthquakes" and added greatly to the quake's damage.

The way in which Japan's property laws obscure ownership, and hence retard rebuilding efforts, similarly surfaced in the aftermath of the quake. Partly as a reaction to extravagant land-sales taxes, it is common for the land under any given structure--say, a high-rise condominium--to consist of several plots owned by different owners. Given the constraints of the system, this sort of cooperation makes perfect sense. It allows the development of property without taxable land sales. When it comes to severely damaged or destroyed buildings, however, cooperation becomes much more complicated. In the wake of the Kobe quake, these two levels of stakeholders--landowners and building owners--have had great difficulty agreeing on whether or how to rebuild. In some cases, notes attorney Toshifumi Motohara, a high-ranking member of the Restoration Committee of the Kobe Bar Association, it is often exceedingly difficult just to locate all the relevant owners: "They may be from different places in Japan. Or they have passed land ownership on to their children who have long ago moved out of Kobe."

The situation is more complicated still. In the early 1920s, lawmakers concerned that rapid urbanization would lead to massive homelessness adopted legislation giving strong rights to tenants, including businesses. Current laws specify that when land or a building change hands, the new owner must accept the current leaseholders or tenants for 10 years under the terms of any existing lease or contract. Tenants, then, represent a third level of stakeholder that can bring redevelopment plans to a halt.

Of course, such a situation does not stymie all development. In some cases, says Motohara, particularly in Kobe's Mano district, there have been few problems reaching consensus on rebuilding decisions. That community suffered less than some others and has a more extensive history of neighbors working together. In recent years, for example, Mano residents formed a community group to protect and expand existing parks and "green" areas by forging voluntary agreements between homeowners and area industry leaders. That kind of experience paid off after the quake. Residents worked together to put out fires and rescue victims trapped under collapsed homes, while in other city districts people sometimes waited stoically for help from official fire and rescue services which never arrived.

Rebuilding in still other cases, Motohara reports, has begun after developers bought out some landowners or leaseholders willing to sell.

But in the typical case, the legal framework greatly increases the compensation required to satisfy an objector. Partly due to strong tenant rights, landlords in Japan demand up-front payments for securing an apartment (a similar phenomenon exists in rent-controlled cities in the United States). Those payments raise the cost of moving, which in turn raises the cost of a buy-out, which in turn raises the cost of development.

Such laws create enough problems during economic booms, all the more so in the wake of an earthquake. Japanese authorities have made a difficult situation even tougher by invoking the Afflicted City Rented Land and Rented Housing Temporary Processing Law, a post-war measure originally designed to boost protection for tenants of buildings destroyed by Allied bombing campaigns. The law made it virtually impossible for owners of bombed buildings to use destruction as an excuse to cut ties to current tenants and then rebuild a structure serving a newer, presumably more profitable, purpose. The government invoked the law in the Kobe area a month after the quake. If an owner does not wish to rebuild a damaged building, the law effectively transfers ownership to the tenants. Renters have up to two years to request the rights transfer and a third year in which to start construction before losing their rights.

The effects of these various policies add up. Privileges handed to farmers, tax advantages granted to landowners, other tax policies toying with the timing of land sales, and protection granted tenants all have hugely increased the transaction costs involved in rebuilding Kobe. In any one block, says Osaka University economist Tatsuo Hatta, "a very large number of people have various property rights concerning land ownership, house ownership, land lease, house lease, or mortgage. It is not easy to assess the market value of each right." Indeed, such tinkering greatly complicates decision making in a situation where flexible, creative decisions are critical to rapid recovery.

Despite the regulatory web, many areas in Kobe are being rebuilt. Much of the damaged infrastructure and big business property has already been repaired or rebuilt. A March survey by the Kobe Chamber of Commerce reported that about one half of its membership had recovered 70 percent to 90 percent of pre-quake business. Another quarter of the membership had recovered 50 percent to 70 percent. Cargo volume at Kobe Port recently reached 70 percent of former levels.

For the area's large industries--steel, auto parts, shipping, and tourism--rebuilding has been expensive but possible. No one, for instance, doubts who is responsible for reconstructing the Daimaru department store downtown: Daimaru. The same holds true for the restoration of basic infrastructure. Transportation and utility services, as well as general cleanup (which the national government agreed to pay for), progressed fairly smoothly.

Where property rights were clear and generally unmarred by political policies, recovery projects benefited from the abilities for which Japanese managers and workers are renowned. But for another group of earthquake victims, recovery came to a stop before it even had a chance to begin. These are the more than 27,000 families who still live and work in temporary shelters. They are former residents of Kobe's older neighborhoods, areas with tiny, narrow streets and old, wood-frame homes which EQE engineers witnessed "burning freely."

In March 1995, not even two months after the quake, government officials announced the initial version of the Hyogo Phoenix Plan. (Hyogo Prefecture is the state-level government for which Kobe is the capital city.) Though surrounding areas also suffered quake damage, particularly in neighboring Osaka Prefecture, Hyogo cities and towns bore the heaviest shaking and devastation. Expanding on a pre-quake, area-wide development plan, officials packaged an ambitious series of projects spread throughout the prefecture. Hyogo Gov. Toshitami Kaihara introduced Phoenix as a plan designed "not only to restore the region to its pre-quake condition but also to solve underlying problems faced by Japan, such as an increasingly aging population, the need for an open economy, and the concentration of problems associated with increased urbanization around the world."

The specifics constitute a city planner's wish list: well-aligned high-rise housing structures with shopping plazas at their bases; parks stretching and weaving between buildings; museums devoted to art, "disaster science, health care and science, technology and culture"; an "EDUMENT" center hailed as an "intellectual theme park"; an arts and culture center; a housing center for students; an international multimedia and entertainment city in Kobe, along with the Higashi Harima Media Garden City in Miki; a Super Convention Center; an Import Mart; and an International Garden City "founded as a communication city to promote exchange between people and cultures from Japan and abroad."

How such plans square with the "need for an open economy" has yet to be explained. Imagine a giant square of city land, cleaned up from the earthquake and supporting temporary structures for residents and businesses. Planners want to wipe the parcel clean and begin again, with wider streets, open parks, and high-rise apartments. That means using more common public land than before, which in turn means taking land from private owners. Specifically, the government has earmarked 11 percent of currently private land for takeover via the Japanese equivalent of eminent domain. (Because so many communities are balking at turning over land, the final amount will likely be closer to 7 percent.)

The city has declared it is up to citizens to "decide what they want," according to Kanemitsu, the Kobe city official. Who gives up how much of what, however, is far from clear. Some citizens may sell off or contribute all of their land for city use. Others may contribute only a portion of their land. Whatever land is left for private use will then be reallocated among those residents wanting to stay and rebuild for themselves.

In the hardest hit areas, 49 community councils were established to help facilitate these "land readjustments." Organized by local residents and chaired by community leaders, these councils orchestrate the give-and-take discussions necessary to develop a broad-based consensus on an adjustment plan. And most now have been successful--at least at producing something formal to present to city officials. But the process has taken two and a half years or more--enough time to make compromise appealing to nearly anyone.

While the Phoenix plan is supposed to speed up the process, it has stalled recovery in two ways. First, it has essentially eliminated incentives for private, market solutions. Though it's difficult for people to acknowledge, the government has become the de facto owner of large chunks of Hyogo land. Individual residents still retain title, but the city and prefectural governments get the final word on what can be done with any given piece of property. That effectively squashes any interests private firms might have in buying out current landowners or in making their own plans for private development. Moreover, developers know their easiest money comes not now but later, when the dango system--a rigged bidding process that rotates project winners through the ranks of leading construction firms--distributes contracts for all those museums and the intellectual theme park.

Second, the Phoenix Plan has thrown everyone into the same basket, effectively collectivizing decision making. It has forced everyone in any given neighborhood to come to an agreement about the outcome (land transfers and redistribution) before rebuilding can begin--while simultaneously making it nearly impossible for people to make rational decisions until they know much more about the eventual outcome.

"Everyone has their own problems, but the government wants us all to do the same thing," lamented Yuji Yamada, whose fruit shop was destroyed, along with everything else along two blocks of Taishosuji Street in the Futabacho district of Kobe's Nagata Ward. At 73, Yamada cannot see a future for himself and his business in the new neighborhood the government has planned. He has rebuilt a temporary structure; business is back to 50 percent of pre-quake operations.

"They [government] just want beautiful streets and beautiful cities," Yamada complains. "That's all the government is thinking about--making wide, beautiful streets and parks. But we don't want that." His corner location is very likely to be trimmed so much that he won't be able to rebuild an adequate permanent business there. Or it might simply be taken away from him altogether as the neighborhood reallocates all the plots. Yamada doesn't want that, but others do.

Residents naturally face different situations and have different preferences. Some have savings while others struggle to make mortgage payments on buildings which no longer exist. Some want streets 17 meters wide while others prefer streets 13 meters wide. Some want new covered shopping arcades imitating the old ones while others want to try their luck in the plazas at the bottom of planned high-rises.

It's virtually impossible to coordinate redevelopment because a workable system for decision making based on underlying property rights no longer exists. Kenichi Miyamoto, a professor in the College of Policy Science at Ritsumeikan University in Kyoto, put it in more oblique, but typically Japanese, terms: "Housing recovery has been slow mainly because there is no guarantee of individual property assets." The result is massive confusion about who will own what and about who will live or conduct business where.

The Phoenix plan has also necessarily politicized the process, and citizens have responded accordingly. One district split into three disagreeing groups, based largely on the different damage sustained by three different neighborhoods. While those differences may seem trivial given the scope of the redevelopment plan, each group obviously hopes to obtain more government favor than other groups. It's worked in some cases. One neighborhood group managed to get government planners to agree to scale back street widths by 20 percent.

Though the city has offered the fruit vendor Yamada and others space in new retail plazas in exchange for selling all their land now to government authorities, this hasn't helped. "I don't want to sell to the government," Yamada says. "The price is too low. I can't sell to them." Yamada claims the price the government has offered is only one-fifth the market price. City officials claim the prices offered by the government are reasonable, established by a council of neighborhood representatives, real estate professionals, and other experts.

Given Japan's larger land-use policies and Kobe's specific situation, it's virtually impossible to say who is right: The information flow upon which prices are based is hopelessly dammed up. Moriaki Hirohara, president of Kyoto Prefecture University, has studied the recovery issues and acknowledges the general problems created by government redevelopment plans. "The price the government is offering is not so unreasonable," he says. "But there is a big gap between what citizens expect and what the real value of the land is." Given the circumstances, how is the real value of this land determined? "That's a difficult question for these designated areas, of course, because there are not really good market mechanisms operating."

Hisae Miyamatsu, 69, ran a 100-year-old family hat business in a three-story building in the same neighborhood as Yamada. The building burned in a post-quake fire. In late 1995 Miyamatsu and her husband moved their business into a tent, along with several other former shop owners and a small branch of the supermarket chain Daiei. Like the fruit shop, the hat shop is back to around 50 percent of its former activity.

Miyamatsu and her husband like the idea of moving into a new space at the bottom of a high-rise filled with potential customers. But so far she cannot make sense of the economics. "If we accept what the government offered us [for the land they own in the neighborhood]," she says, "then we must move to the new building and we cannot afford the rent there." She has an artist's sketch of the new place--a high-rise with lower levels devoted to retail businesses. Trees in front qualify it for the "green" label that is trendy in Japan. Miyamatsu is not even sure yet what the rent will be, yet another indication of the degree to which uncertainty dominates lives here. "It depends on how many other people accept the government's plan," she explains. "If there are 20 [businesses] then it will be one level. If there are 10, then it will be another level."

Like Yamada, Miyamatsu neither understands nor cares much how government policies are distorting market mechanisms. Ideology plays no real role here. Many of the residents, in fact, would prefer government do more (that is, give them more money) rather than less. They know they are in a mess, and they know government has something to do with it. But they also have been led much of their lives by government policy--from what textbooks to read and tests to take, to why domestic apples are good for them and why the imported ones are not. They are frustrated and confused.

Rather than serve as a lesson on the unintended consequences of government control, for many Japanese the destruction in Kobe and the slow pace of recovery justifies even more government intervention. Their attitude suggests how difficult it is to persuade people that such intervention is not necessarily the only or the most efficient way to accomplish communal goals. Few residents doubt the wisdom of widening the streets or of moving older and lower-income households into modern high-rise facilities; fewer still doubt that this is exactly the type of activity for which government is best suited.

City official Kanemitsu prefers to believe the government's role is limited to traditional infrastructure activities. "In some areas," Kanemitsu says, "the citizens have prime responsibility, particularly in rebuilding their private homes. We [the city] are responsible for infrastructure. But of course, for private homes, we cannot [become involved in rebuilding]." He does not see, however, that after announcing the Hyogo Phoenix Plan, government effectively became the dominant factor in all private decision making.

The stultifying result of state intervention is summed up by Miyamatsu, the hat shop owner. "We don't want to accept the government plan. But we can't decide to rebuild yet, either. So we are just doing nothing," she says.

Miyamatsu's predicament underscores a second, ongoing tragedy in Kobe, one less natural than man-made in origin, and one directly related to the very policies that once made Japan a model of efficiency: Three years after an earthquake, displaced victims have resorted to "just doing nothing." Such an outcome is disturbing, but it is exactly what you should expect from a rigid administrative system that was one of the few things that didn't shudder and crumble in Kobe during the early hours of January 17, 1995.