The sad reality is that the more the Liberal Democratic Party (LDP) wins, the more representatives of various pressure groups occupy Diet seats and cry for the protection of vested interest groups. The major obstacles against Abe’s reform policies come not from opposition parties but the ancient LDP members within, whose main goal is to redistribute the fruits of economic growth to their favoured pressure groups. Such politics have contributed to long economic stagnation and, with it, declining tax revenues, resulting in Japan’s substantial fiscal debt (amounting to over 200 per cent of GDP).

Abe’s ‘third arrow’ of economic growth strategy is to stimulate private sector investment through regulatory reform, following the expansionary monetary and fiscal policies of the first and second arrows. At the core of Abe’s economic growth strategy is the creation of special strategic zones in Tokyo and other major cities that can provide international business environments on par with London and New York. For example, regulations on floor-area ratios will be eased to allow for more high-rise residential buildings in these zones to stimulate housing investment without relying on public funds. They are expected to attract more foreign and Japanese business workers in the central metropolitan areas which remain under-utilised. Regulations will also be eased to make it easier to set up international schools and allow foreign doctors to practice, which are important amenities for attracting foreign firms and personnel to Japan. Also, there will be relief from Japan’s higher-by-international-standards corporate tax rates and inflexible labour market regulations in special strategic zones.

The first reaction by market players has been disappointment. Many wonder why special zones are again being touted when it is nationwide regulatory reform that is most needed. Special zones for structural reform were tried under the Koizumi government in 2001–06, and while they worked well in the beginning, the zones fell into disuse.

But special zones are the only real chance for reform given the difficulty Abe faces in persuading core parts of the LDP in accepting nationwide reform. Moreover, these special strategic zones will be different in at least three important ways from those that were tried earlier.

First, they are contrary to the LDP’s traditional policy of rural development (‘equal development across all regions’). The old policy tried to prevent the migration of people from rural to urban areas by allocating more public investment to rural areas to attract private investment and employment growth there. Most of these initiatives did not work because there were insufficient ‘agglomeration effects’. Meanwhile the cities have suffered urban congestion because of lack of infrastructural investment that has choked off life in the metropolitan heartlands. While the LDP’s previous attempts to develop Japan’s regional economy may have had some merit in times of high economic growth with abundant tax revenues, these days are long gone. Establishing special strategic zones represents a first step in policy change toward stimulating private investment through regulatory reform in the major metropolitan areas, where the rate of return on this capital is expected to be higher.

Second, unlike the former special zones initiated by the local authorities nationwide, the new zones are a national project in collaboration with major city mayors. Given this support, the reforms are more ambitious. Metropolitan mayors are more positive toward market-friendly policies compared with others in local areas who simply seek financial transfers from the central government.

Third, it is argued that the economic effects of regulatory reform will naturally be more limited in special zones than if reform was nationwide. But because the positive impact of reform will be more visible in big cities like Tokyo, to both foreign and domestic investors, it will be easier to spread to other cities as well.

The idea of special strategic zones is similar to that in China, where the government selected major developed cities and opened them to foreign investment while preserving the regulated socialist system in other areas. This was a key to China’s economic development over the last three decades, and the concept is also applicable to Japan, given its dual economic structure today. Japan’s manufacturing industry is market-based and highly competitive in the world market; but on the other hand, the agricultural and service sectors are highly regulated and afflicted by low productivity.

Japan’s planned special strategic zones have the potential to stimulate the market-based service sectors including housing, urban development, finance and labour markets. They could be crucial to the revitalisation of the Japanese economy in coming years.

Naohiro Yashiro is Visiting Professor at International Christian University and was formerly on Japan’s Council on Economic and Fiscal Policy under the previous Abe administration.