Establishment of “First Mover Advantage” Through the ICT Revolution

In this Discussion Point section, we will examine the stagnation of the Japanese economy and Japanese companies after the 1990s from the perspective of innovation. We address the third question posed in the Introduction: “Why has the Japanese economy, after a long period of relatively high growth, stalled since the 1990s?” The concise answer is that Japanese companies were caught between two types of innovation.

When Japanese-style management was functioning effectively, Japanese companies excelled at incremental innovation (cumulative and continuous innovation), as opposed to breakthrough innovation. The success of Japanese companies in incremental innovation was not limited to the period of rapid economic growth after World War II, when Japanese-style management began to function in earnest, but was common throughout Japan’s long period of growth from around World War I through the 1980s.

In pursuing incremental innovation, Japanese firms adopted the strategy of “latecomer advantage,” improving products developed by first movers and ultimately securing a larger market share. The “latecomer advantage” strategy worked because the pace of technological innovation was relatively slow and latecomers had ample time to catch up with the first movers.

However, since the 1990s, the ICT (Information and Communication Technology) revolution has ushered in an era of “first mover advantage,” in which the first company to offer a breakthrough innovation quickly gains an overwhelming market share. Once the first mover of a groundbreaking innovation secures the de facto industry standard, it develops a competitive advantage over companies that do not participate in the standards, excluding them from the network. As a result, “a winner takes all” situation came to be widely observed, with the first movers capturing most of the profits.

Thus, Japanese firms that had excelled at incremental innovation found themselves at a competitive disadvantage vis-à-vis the first mover firms that led the way in breakthrough innovation. The effectiveness of the “latecomer advantage” strategy was not eliminated, but became much more limited.

“Disruptive Innovation” in the Innovator’s Dilemma by Clayton M. Christensen

A second factor was “disruptive innovation,” illustrated by Clayton M. Christensen in his acclaimed work “The Innovator’s Dilemma”. To be clear, I repeat the explanation offered in the “Introduction” of this book.

“Disruptive innovation” makes existing products obsolete and creates entirely new value, as opposed to incremental innovation that strives to continuously improve an existing product. Every so often, a low-priced new product is launched in a market filled with conventional products that are undergoing continuous quality improvement through incremental innovation. These newly introduced products are low priced but their quality is so poor that initially they are not taken seriously. However, on rare occasions the quality of such new products may reach a level that meets the minimum needs of a critical mass of the market. At that point, the existing, conventional products still possess higher quality and price. However, once the new product (i.e., the disruptor) meets the consumers’ minimum needs, price competitiveness comes into play and the newcomer rapidly gains market share. This is when existing products experience damaging results—the mechanism that Christensen calls “disruptive innovation.” In contrast to incremental innovation, “disruptive innovation” destroys the value of existing products and creates entirely new value. Recently, we often hear of phenomena such as the “rapid commoditization of value-added products (price destruction)” and the “Galapagosization of Japanese products.” These are deeply related to “disruptive innovation.”

Many of the sources of “first mover advantage” through breakthrough innovation discussed here are located on the west coast of the United States, including Silicon Valley. On the other hand, the leaders of “disruptive innovation” are often companies from countries and regions such as South Korea, Taiwan, and China. As of 2019, Japanese firms have been struggling, caught between breakthrough innovation from first-mover countries and disruptive innovation from latecomer countries and regions.

“The Innovator’s Solution” and Answer to the Remaining Question

It is worth noting that in his book co-authored with Michael E. Raynor, “The Innovator’s Solution,” (the sequel to “The Innovator’s Dilemma”), Christensen expresses the view that “disruptive innovation” was frequently observed in Japan from the 1960s through 1980s. Noting that disruptive innovation was the fundamental engine of Japan’s economic miracle of the 1960s, 1970s, and 1980s, Christensen, along with two co-authors, offered the following observation in a Foreign Affairs article (Foreign Affairs 80, no. 2 (March–April 2001) pp. 80–95):

Like other companies, these disruptors – Sony, Toyota, Nippon Steel, Canon, Seiko, Honda and others – have soared to the high end, now producing some of the world’s highest-quality products in their respective markets. Like the American and European companies that they disrupted, Japan’s giants are now stuck at the high end of their markets where there is no growth. The reason America’s economy did not stagnate for an extended period after its leading companies got pinned to the high end was that people could leave those companies, pick up venture capital on the way down, and start new waves of disruptive growth. Japan’s economy, in contrast, lacks the labor market mobility and the venture capital infrastructure to enable this. Hence, Japan played the disruptive game once and profited handsomely. But it is stuck (p. 71, footnote).

According to “The Innovator’s Solution,” “disruptive innovation” can originate at the low end of an established market or in an entirely new market. It can result in creating a new customer base by providing a simple, easy-to-use, and inexpensive product to existing consumers or by providing an affordable, easy-to-use product to a completely new group of consumers. In some cases, a new entrant might take away the incumbent leader’s market share at once. As Christensen notes, “Whereas the current leaders of the industry almost always triumph in battles of sustaining innovation, successful disruptions have been launched most often by entrant companies” (pp. 34–35).

Based on this argument, Japan’s lack of labor market mobility and venture capital infrastructure have been inhibiting a vigorous turnover of leading companies, a turnover that regularly occurs in the United States through continuous “disruptive innovation.” In Japan there aren’t enough new entrants that grow rapidly and rise to the top of the market. This essential point accurately explains some of the problems faced by the Japanese economy.

One question remains unanswered however: if “disruptive innovation” was actively occurring in Japan until the 1980s, why has it stagnated since the 1990s?

One factor is that the leading companies themselves, rather than new entrants, were responsible for disruptive innovation from the 1960s through the 1980s. Therefore the argument that “existing leading companies are not strong on disruptive innovation” is not a sufficient explanation. We need to understand what happened to Japan’s once-innovative, leading companies during the 1990s, during the so-called Lost Decade.

The answer can be found in the emergence of the “investment restraint mechanism” that resulted from dysfunction in the Japanese-style management system, highlighted in Overview 4 at the beginning of Part III. To restore the vitality of Japanese companies, to recreate an environment conducive to “disruptive innovation” and to achieve breakthrough innovation that will enable Japan to gain “first mover advantage,” we must revive the Japanese-style management system and overcome the “investment restraint mechanism.” Kazuo Inamori, Toshifumi Suzuki, Tadashi Yanai, and Masayoshi Son, were innovative entrepreneurs who continued to pursue sound growth strategies without getting caught in the “investment restraint mechanism” even in the post-1990s Japan. Overall, however, they were exceptional cases.