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Watch China and Indiahttp://www.iht.com/articles/85585.htmlTOKYO The world

economy is undergoing a transformation that occurs only once every century or

two. Japan and other mature industrialized countries must adapt..Building on

revolutionary technological innovation, the globalization that started in the

1990s is accelerating and dramatically altering the international division of

labor. The main players are China, India, the East European states and Russia.

They have abandoned the socialist model of economic development and are rapidly

altering international patterns of production, distribution and

consumption..Today's combination of industrial revolution and globalization is

similar to that of the late 19th century when the leading players were the

United States, Canada, Australia and Argentina. Their emergence, coupled with

the first telecommunication and distribution revolutions, brought about a

dramatic decline in costs and prices..The period from 1870 to 1896 saw a

significant increase in world production, with falling costs and prices. Just

as then, the global deflation of today is a structural rather than a monetary

phenomenon. Japan and other older industrialized or industrializing countries

need to work out how to adapt to this profound shift..It is not the first time

that China and India have had a big influence on the world economy. In the

early 19th century China was the No. 1 economic giant, while India was not far

behind. China is estimated to have accounted for nearly 29 percent of global

GDP in 1820, and India for 16 percent. .China and India are re-entering the

world economy with some positive legacies, including ports and other

infrastructure, and a human network of overseas settlers that extends around

the world. If China can sustain its dynamic growth, it could be a manufacturing

giant within a decade or two. India has emerged as a software and information

technology hub for the world and will most likely continue in that role..Japan

and other Asian nations that may feel threatened by the rise of China and India

should not demonize the emerging giants. Both have weaknesses. For example,

China has many serious vulnerabilities, such as the nonperforming assets of its

state-owned banks and a widening disparity of income and wealth among its nearly

1.3 billion people..China must maintain fast growth to remain stable. It needs

foreign investment and technology to sustain growth. Japan and the rest of Asia

should cooperate with China to form a new regional division of labor..Despite

the immediate threat of Japan's economy being hollowed out as manufacturing

companies shift production to China to cut costs and get direct access to the

Chinese market, such a move would eventually benefit all concerned. The only

way for Japan to compensate for the job losses in its manufacturing sector is

to promote a vigorous service sector. Already Japan is a service economy. Jobs

in the sector account for more than 70 percent of total employment. .The major

problem is that Japan's services are tightly regulated and heavily subsidized.

Looking at the sector, one could be forgiven for thinking that Japan is a

socialist country. The iron triangle of vested interests formed by the

governing Liberal Democratic Party, the bureaucracy and industry has so far

blocked any meaningful structural reform of the service sector. To adapt to the

new international division of labor and the need for regional cooperation, rapid

deregulation of services in Japan is an absolute must. Deregulation of Japan's

agriculture and food processing industries, and the opening of those markets,

is also key to close cooperation with the rest of Asia..Japan must open both

its service and agriculture sectors to survive and participate in the new

division of labor in Asia. This is the only way to overcome the long-term

stagnation of the Japanese economy..The writer, a former vice minister for

international affairs in Japan's Finance Ministry, directs Keio University's

Global Security Research Center in Tokyo.

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