Interaction between Japanese Corporate Governance and the Relational Contract Practice

Abstract

The structures of Japanese corporate governance and the relational contract practice interrelate with each other in various situations. Traditionally, many scholars have argued that unique corporate governance structures enabled Japan's economic success after World War II, emphasizing that the Japanese relational contract practice was an efficient result of such unique structures. However, such argument does not have sufficient theoretical and empirical ground. Instead, this article showed that (i) in economic theory, a contract practice in business-to-business transactions will ultimately evolve to a discrete regime from a relational regime, but Japan's contract practice did not evolve as such due to the high drafting cost problem caused by the immaturity of business contract practice; (ii) such relational practice was so fragile that it requires support by institutions that function as self-enforcing bonding devices; (iii) in this respect, however, the traditional argument that Japanese corporate structure functioned as firm-specific exchange of assets as a bond is not perfect; (iv) rather, it functioned as a reputation signal that represents a particular firm's level of reciprocity and fairness. Japanese corporate governance was formulated to react to a strong preference to the stability of social structures that are a precondition to a relational practice, and ultimately sublimated to an integral part of a reputational signal of a firm who adopts such governance structure.