External Environment and its Impact on Firm Strategy

Introduction 

In the past 20 years, Japan has been stuck in a deflationary market. The real wages have been falling steadily and so has the prices of commodities. Therefore most producers have resorted to price reduction. However, Ina food industry has been an exception in this regards as it has decided to increase its prices, a strategy that has gone contrary to the general expectation in the market. The company is one of Japan’s leading manufacturers of powdered agar. Hiroshi Tsukakoshi the chairman of Ina food industry opted that the best way would be to implement a long-term strategy that would propel the company towards future success. However, his major worry was the problem caused by deflation. The study is focused viewing the Japanese economy during the deflation period, additionally; factors causing the situation will be explored and compared to those of other economies. 

Background of Japan’s deflation 

Japan’s economy has for sometimes stalled due to deflation. Despite Japan experiencing deflation in its economy in the early 19 th century, the economies of other nations were doing well. A country like the United States had a stable economy with high growth in the economic sector and stability in product prices which has enabled the country to confidently confront the challenges that came along. In 2008, there was a global crisis in the financial system (Knutter & Posen, 2001). However, despite the impact of the recession of the world is small, it affected the economy of Japan leading to a deceleration in the economy. The effects of this recession were felt in the Consumer Price Index (CPI) which had started stabilizing. During this period, the country lacked investments; the prices of goods were constantly decreasing, high rate of unemployment and a stagnant economy. 

Japan's economy had factors that pushed it towards a state of deflation including the natural interest rate; this clearly slowed the potential growth rate of the economy. Additionally, the sluggish capital accumulation was another factor that prolonged Japan's state of deflation, this factor greatly contributed to the deflation in the country. These issues together with the ageing population of Japan have reduced the country's potential growth. Deflation resulted in the companies being cautious in setting prices for their goods; most of them reducing the prices while those that were bold like Ina Food Company opted to increase its prices given one of its products was widely used for cooking in Japan. According to Tsukakoshi, the consumer’s decisions were based on the price of the products, additionally; he concluded that the consumer behaviour could be determined by pricing. 

Age of deflation and deflationary forces in a global economy 

Over the recent past, the idea that the inflation experienced may result in hyperinflation is widely stimulated by the behaviour of fiscal and monetary stimulus. Most of Japan’s 19 th century has been marked by sustained deflation, slow growth and recession. A sharp rise in the unemployment rate and a fall in industrial production are some of the factors that were associated with this country. Economic stagnation and associations with deflations cannot be left out as they are some of the impacts felt during this period in the Japanese economy. Deflation has seen the overall demand for goods reduce due to the shrink in Japan’s population. This makes it hard for the purchases to be made thereby pushing the country’s economy to economic growth inflation. The major catalyst of the Deflation within the country was caused by the demand and supply curve shifting. This shift in demand and supply curve affected the prices of goods and services. 

The issue of ageing population is not only a problem faced in Japan since it is also among the major factors in the rest of Europe hence it is not only experienced in Asia. This problem has led to most governments spending the best part of the budget on funds for the retired and on Medicare. Most governments are facing the economic neglected burden. This forces most governments to spend a lot of financial support and medical care services. The Japanese economy needs to be restructured to sort out the issues of deflation. 

In the recent years, the U.S economy has experienced a recession. In January 2014, there was an extra ordinary occurrence that has not been seen for a long time. According to the U.S labour department, a -0.1% decline in the general prices of goods was experienced (Knutter & Posen, 2001). This slight change led to an increase in the price of goods during that short period. This experience was the first since the recession experienced in October of 2009. This slight change in the U.S economy could have resulted in the Federal Reserve stalling or failing to raise the interest rates. This follows as raising the interest rates with the prices of goods and services being high would result in a disaster in the economy. 

It is expected for the Federal Reserve to control the interest rates hence when there is a recession like it was experienced during that month, the best thing would be for the Federal Reserve to reduce the interest rates. The interest rate is often reduced with an aim of stimulating the economy. Since this experience, the American economy shown great improvement signs, the signs include; growth signs in the economy, dropping rates of unemployment and jobs have been created. However, despite these changes, the pay rates of the American citizens have not improved in a long time. 

Strategies of Japan overcoming deflation 

Japan’s economy was on slowly declining. The prices of goods and services were experiencing constant reduction since the aggregate demand in the economy was reducing. Therefore the consumers also did not make purchases with the hope of a further reduction in the prices of goods. These actions led to lack of investments in the economy. A stagnant economy that receives no investments is a state that Japan's economy found itself. This resulted in a deflationary spiral. A deflationary spiral is often associated with a constant decrease in the economy. In this situation, the prices of goods and services in Japan decreased reaching a point that the manufacturers become less motivated to produce since the cost of production becomes higher than the selling price of the goods, this greatly affects the demand of goods and services, it also results in wage reduction, finally, it results in decrease in prices of the goods and services. 

At this point, a chain was created that made everything in the economy experience a declining effect. Therefore Japan had to do something to counter this effect to save the country from a further decline. To ensure the country got back on the right track, Japan decided to enact a zero interest rate policy ( ZIRP). This policy was employed in the late 19 th century by various countries to counter the effects of the great recession, examples being the U.S and the United Kingdom (Knutter & Posen, 2001). According to most economists, after a financial crisis such as the one experienced by Japan, it is vital to employ the monetary policy that is aggressive. The zero interest rate policy (ZIRP) is a strategy that focuses on stimulating the economy of a country to ensure it gets back on track while maintaining the rates of interest near zero. 

This policy rendered the conventional policy ineffective since under the ZIRP policy, the central governing bank has no authority, hence cannot reduce the rates of interest. Conversely, this policy ensures the monetary base in the economy increases by using the quantitative easing as the unconventional monetary policy. The policy brought some to the Japanese economy as there was steady 6% interest rate, there was a 3% GDP growth rate and finally, in 1991, there was a promising investment and consumption rate. However, this policy has some flaws that have to be assessed including its possibility of causing confusion and chaos in the financial markets when there is stability in the economic market. This follows as investors look for investment returns that are linked to assets that are risky when the rates of interests are low in an economy. In Japan, this strategy was not as effective as expected. 

This follows as it was very difficult to change the expectations of the deflation to those of inflation; this made it impossible for the consumers to believe (Misawa, 2013, p.3). However, despite this difficulty, the Japanese government decided to embrace this policy hoping for the best. The situation was getting worse; this made the owner of Ina food get worried as things had gotten out of hands that even his company would fail to continue its growth. The zero interest rate policy (ZIRP) is effective in the short term and it stabilizes the economy for a while, however, the dreaded liquidity trap is major problem that is associated with using the low interest rates in an economy in the long term hence it should be incorporated into a more stable approach after it has stabilized the economy. 

Mathematics explanation of gross margin 

In this section, it is necessary to measure the quantity rate of response as a result of the change in price; 

Possible increase = 17% 

Raising price = 5% 

Gross margin = 30% 

Therefore, Price elasticity of demand (PED) = (% Change in Quantity Demanded) / (% Change in price). 

PED = (17%) / (5%) 

= 3.4 

The price elasticity is often on the negative side when there is the elasticity of demand which often occurs when there is a change in price. However, since there is no change in price, then there is no elasticity of demand experienced. This follows as price elasticity is only measured when there is a price change in the market. 

Price increase and profit increase strategy 

In a deflationary economy, businesses are often under pressure as they are faced with major decisions. The owner of Ina food industry operates contrary to the expectations of the situation. While other companies are reducing the price of goods and services within the deflated economy in an effort to attract consumers, he decides to increase the prices of his products. The general feeling of Tsukakoshi believed that the best way for the growth of a business in Japanese economy would be a slow growth; he further stated that the general feeling of the people would be negative towards the growth if it was a fast growth. 

His belief is appropriate and viable since a slow gradual growth gives the business owner the chance to track how the business is doing, moreover, the owner makes strategies according to how the market is progressing. This strategy has proven effective for Ina food industry. Furthermore, he believed that when the prices of identical items abnormal shifted up and down, the consumers would be very furious. It is evident that Ina food industry used a gradual policy since the general increase in sales and profit was between 2% and 3% (Misawa, 2013, p.2). 

Tsukakoshi believes in the policy of smoothly increasing the general prices of goods and services. In a deflationary economy, the business owners do not have the surety of what may occur the next minute. Therefore, they have to gradually take steps and strategies that may be profitable to them (Misawa, 2013, p.2). They make gradual steps with an aim of monitoring the market and the behaviour of consumers. Under a deflationary economy, every step taken by a business owner is a potential threat to the company. Tsukakoshi's company further believed in making strategies for the future of the business in mind as opposed to the short-term basis as the company motto states. 

With the emergence of deflation in the economy, companies opted to implement strategies that would be of importance to them; hence they decided to go for the pricing strategy. The exploration made by Tsukakoshi regarding the relationship between the prices of goods and the consumers. He discovered that the consumers used the prices of goods to know whether it is of great quality or not, hence the price is directly proportional to products quality (Misawa, 2013, p.2). Therefore Tsukakoshi increased the prices of his products after discovering this. This decision was in line with the earlier discovery on a television show that stated agar a product produced by Ina food was beneficial to the health. This discovery raised the status of Tsukakoshi’s products to quality products. This discovery made the consumers continue purchasing Tsukakoshi’s products despite the status of the economy. This also proves Tsukakoshi’s discovery that prices are directly proportional to the quality of a product (Misawa, 2013, p.2). Therefore, Tsukakoshi’s policy is a viable business model in a deflationary economy. 

“ Contrarian” strategy 

The investment strategy that bases its actions on buying and selling depending on the situation at the moment is referred to as a contrarian strategy. The focus of this strategy is not meant for future profitability but its actions are dependent on the prevailing times to navigate the prevailing situation (Misawa, 2013, p.6). Tsukakoshi clearly knew that the contrarian theory would stabilize the company; however, this would not get him to where he wanted to be as a company. Considering that he was retiring and the deflation was there to stay hence he opted to take advantage of his policy of price is directly proportional to product quality, given his product had already been certified to be of quality health wise. Furthermore, in the case study, it is stated that in a deflationary environment, every decision taken is a potential risk. 

Ina food industry has managed to achieve success despite the economy being in deflation. Unlike other companies in the Japanese economy, this company has decided to do the exact opposite of what is expected of them. They decided to increase the prices of the products knowing very well of the current state of the economy. The company took a great risk by riding on the Tsukakoshi's discovery of the consumers making a decision of the products based on the quality. 

In the Japanese market, consumers predict the quality of a product based on the price. Furthermore, a company that has full confidence in its products can increase the price. This plays in the favour of Ina food industry as its products were already certified to be of quality and where good health wise (Misawa, 2013, p.7). Therefore the consumers become loyal to Tsukakoshi’s brand. From these observations, it can be concluded that Ina food industry followed the contrarian strategy when the company decided to make a decision in sentiment to the time. It decided to make an unexpected decision. 

Effects of lowering prices in a deflationary environment 

The effects of the deflation experienced in the Japanese economy made companies resort to the price reduction strategy. This period led to the aggregate demand of products decreasing, the economy stagnated, unemployment rates grow and there was lack of investment in the economy. Ina Food Company decided to introduce a new product in the industry. This product was well publicized. This forced the company to increase the price of the product; the increment was not noticed by the consumers immediately. However, they later discovered the increase which never stopped them from purchasing the product. 

The company had made an exploration and discovered that consumers identify with quality products. Moreover, the price of the product was determined by product quality, conversely the company believed it had solidified its place among the consumers. Tsukakoshi was old nearing retirement hence he believed the only way to achieve what he aimed at was through a positive trend. Therefore he opted to decrease the price of the product. The production of the new product saw the company spend a lot in the acquisition of new raw materials and other expenses associated with the production of the product. 

The company also needed to conduct further research on the new product and maintain positive communication with the consumers (Misawa, 2013, p.6). All these reasons made it necessary for the company to increase the prices. Therefore, the company had an option but to increase the price since lowering the prices while the cost of production remained high would have resulted in the company losing out. 

Percentage change in quantity demanded and percentage change in price 

Price elasticity of demand (PED) = (% Change in Quantity Demanded) / (% Change in price). 

Old price = 10 

New price = 12 

Demand (old) = 200 

Demand (new) =150 

The percentage change in demand 

= (150 – 200) / 200 = (-50 / 200) 

= - 0.25 

Percentage change in price 

= (12 – 10) / 10 = (2 / 10) 

= 0.2 

Then (PED) = (% Change in Quantity demanded) / (% Change in price). 

= - 0.25 / 0.2 

= - 1.25 

Therefore, 1.25 is the price elasticity of demand when there is an increase in price. In this case, the demand is sensitive to price changes. 

References 

Knutter, K. and A. Posen (2001): “The Great Recession: Lessons for Macroeconomic Policy from Japan.” Brookings Papers on Economic Activity 2, 

MISAWA. M. (2013) INA FOOD INDUSTRY (2): MARKETING STRATEGIES IN A DEFLATIONARY ENVIRONMENT: Asia Case Research Center, University of Hong Kong