https://www.wsj.com/articles/the-real-referendum-on-abenomics-1417458119　

 

A new set of corporate-governance guidelines could give international investors renewed confidence in Japanese economic policy.

By Nicholas Benes　　Dec. 1, 2014 1:21 pm ET

 

Japanese Prime Minister Shinzo Abe has framed the Dec. 14 “snap election” as a referendum on Abenomics, yet the real referendum will come afterward. In the months ahead, international and domestic investors will vote with their money to answer one main question: Will the “third arrow” of Mr. Abe’s growth agenda deliver real reform, or is Japan’s ruling party still under the sway of labor and corporate interests that like things as they are?

Investors will have a clear litmus test to use. During the next four months, Japan’s Financial Service Agency and the Tokyo Stock Exchange (TSE) will be finalizing the country’s first corporate-governance code, which with the right components would mean real economic-reform progress.

Although the current unfinished draft has shortcomings, the process is pointing in the right direction. After the next few weeks of promised heavy lifting by the regulators, the final code could contain substance enough to merit a “buy” rating.

The major force pushing back against the prime minister and his government’s reform-minded regulators will be the Keidanren, Japan’s powerful business federation. Another major executive lobby group in Japan, the Keizai Doyukai, or Association of Corporate Executives, has come out in favor of a robust corporate-governance code.

What Japan needs most are policies that increase the productivity of labor and capital across the economy, without costing the government tax revenues. Only three approaches satisfy these conditions: improving corporate governance, deregulating labor mobility and embracing immigration—the last of which remains a clear taboo.

Corporate governance has the most immediate upside, but its difficult history also demonstrates policy makers’ historic inability to overcome vested interests. On this score, though, the government-growth strategy published in June boldly set the goal of raising corporate profitability by promulgating a “comply-or-explain” governance code of best practice that meets the standards of the Organization for Economic Cooperation and Development and is “internationally respected.” The strategy called for promulgating the code in time for next year’s annual general meetings in June.

That clarity represents a major change from 15 years of previous corporate-governance talk. Also meaningful is that the Financial Service Agency is supervising the code’s drafting, as the FSA is the only agency with the legally defined duty to protect investors, improve capital markets and regulate the stock exchanges. It has the right incentives for the job.

In August the FSA and the TSE convened a high-quality, diverse council of experts that includes representatives of institutional investors and audit firms along with independent executives, governance advocates, lawyers and even a bilingual foreigner. The council has only one representative of the Keidanren.

Because the very concepts of a corporate-governance code and “best practices” are new in Japan, it is major progress that these topics are being officially discussed. Several council members have submitted proposals, some with considerable detail, and some have been emphatic in urging for a robust, ambitious code.

The FSA’s Nov. 25 draft of the code’s principles was a marked improvement over prior versions. It included a comply-or-explain rule for corporations to have “multiple independent directors” and had detailed paragraphs on important issues such as the role of the board, the function of independent directors, director training and board self-evaluation.

But it ain’t over till it’s over, and Japan’s powerful industrial groups have often used backroom deals to undo important policy initiatives just before their realization. So in the coming weeks you can bet that reformists will face off against lobbyists demanding the elimination or weakening of these draft principles—principles that need to be strengthened further.

The Abe administration will have succeeded if the final code reflects the following best practices, subject to comply-or-explain disclosure:

• A rule requiring at least one-third of directors on a company’s board to be independent;
• A committee composed solely of such independent directors, to handle director nominations, executive compensation and other issues in which managerial self-interest may diverge from the interests of shareholders, such as management-buyout negotiation and pricing;
• Rules for committee procedures, information-sharing by statutory auditors, “executive session” meetings attended only by external directors and statutory auditors, and investor dialogue with external board members;
• Training and orientation for all new directors and statutory auditors, and ongoing updates about legal changes and emerging risks;
• Board and director evaluations, including disclosures about process and results; and
• Disclosure of each company’s internal guidelines with respect to all of the above, and other governance practices.

Such a code would mean that Mr. Abe’s Liberal Democratic Party is poised to win Japan’s most important referendum—the vote of the market the morning after.

Mr. Benes is representative director of the Board Director Training Institute of Japan, a nonprofit “public interest” organization certified by the Japanese government.