Japan’s “China Plus One”--Aberration Or A New Norm?

China has been at the center of business strategy for Japanese firms, which is not surprising given that China overtook the US as the largest market for Japan’s exports in 2006. The first decade of the century was dubbed “the third wave” of Japanese FDI flows to China. Even if Tokyo’s political relations with Beijing were tumultuous, companies hoped politics and economics could be separated (政冷経熱 or Cold Diplomacy, Hot Economic Relations”). A sea change now seems underway. Known in Japan as “China Plus One,” an increasing number of Japanese firms are starting to undertake measures to reduce exposure to China by rebalancing their FDI across Asia.

The new strategy is no doubt a response to further deterioration of the bilateral relationship in recent years. The riots targeted at Japanese retail shops across China in fall 2012 were wake up call for Japan. “China Plus One,” though, is more than a panicked response. It represents an acknowledgement that the early strategy of investing in China to exploit cheap production factors has passed. Japanese firms operating in China not only face challenges linked to rising wages, but also more difficult labor relations. The Abe government that took office in January 2013 only slightly accelerated a development already underway. Japanese business executives no longer suggest that economics can be separated from politics. While Japan’s outbound FDI flow to China in the first half of 2012 exceeded that to ASEAN by close to 10%, the trend was reversed in the second half. The gap widened in 2013 and the trend has continued in the first three months of 2014. Some might call it aberration. But there is a strong possibility that it is structural, highlighting China’s economic development and the evolution of Asian economic interdependence into its next stage.