The Japanese Economy: The Dawn of Asia's 2nd largest Economy

This is a tale of a nation previously ravaged by the most devastating war in history and has been struck with the most powerful bombs ever used in active warfare. With all its cities damaged and factories destroyed, Japan emerged from the ashes of its history in World War 2.

With help from the allies, notably Britain and USA, Japan experienced one of the largest economic booms ever seen. Between 1953 and 1965, Japan achieved a sustained growth rate of 9% annually - meaning that the size of the economy almost tripled in 12 years. Moreover, the Japanese government re-invested its newfound wealth back into the nation and built highspeed railways, airports, and metro systems, which would all contribute to the success of the nation. Japan took advantage of globalisation and leveraged its position as the world’s low-cost manufacturer. Their tech and car industries were booming as with the nation’s businesses being known internationally.

However, in the 1990s, it all stopped. The GDP of Japan in 1994 was US$4.9 Trillion. At the end of 2021, the economy’s GDP is predicted to reach US$4.9 Trillion. In 2017, the GDP of the economy was US$4.9 Trillion. This economy is undoubtedly extremely large, only behind China and the USA. However, the Japanese economy has not experienced any real growth since 1994. In a world in which never-ending growth is assumed, 0% growth is a real problem.

Why is this happening?

There are a couple reasons why the Japanese economy is not growing: an aging population paired with a very low birth rate and competitors from other Asian countries.

The Japanese people are aging with a low birth rate causing a large portion of the workforce to be used to provide for the aging population, either directly or indirectly. Large amounts of money were poured in healthcare in Japan via both the public and private sectors. From 2011 to 2018, healthcare in Japan absorbed just over 10.5% of the country’s GDP, or an average of $4380 of GDP per capita across the years. This, mixed with a smaller workforce, causes a limit to be placed on the sustainable growth possible.

Fifty years ago, Japanese businesses took the role of the world’s cheapest, large-scale manufacturer. But now, due to other Asian countries, such as China, Taiwan and South Korea, witnessing their own economic booms and modern industrial revolutions, , Japan has been replaced by these countries in most, if not all industries. 20 years ago, the most reliable economy cars were manufactured by Japanese businesses such as Toyota, Honda, Suzuki et cetera. But now, these Japanese manufactures are outperformed on pricing and warranties by South Korean manufacturers who have moved into the market. Same for technology, in the 70s and 80s nobody was able to compete with Japanese tech, but today, China and Taiwan have both captured this market.

What is the Japanese government doing to change this?

To control any economy, the government of that economy relies on fiscal and monetary policy.

Monetary policy- is the raising or lowering of interest rates through the central bank. If the interest is lowered, people will pay less money on their debt obligations, such as home loans. This stimulates a surge in purchases in consumer goods as people have more money to spend. And the net increase in purchases increases the GDP which shows economic growth. However, the drawback is that people will be much more likely to be tempted to borrow more money, and if you go to my “Banking” blog you will realise that this leads to inflation as, in short, banks create money for loans out of thin air. And if the government isn’t careful, the nation will fall into a low interest rate trap. This means that people who have borrowed above their means won’t be able to pay back their debts. In the height of the economic boom, the Bank of Japan’s interest rates were at 6%. And now, out of desperation, the cash rate of the Bank of Japan is -0.1% and therefore the central Japan is giving other banks money to borrow money. But generally, banks put a markup on the loans and therefore the Japanese people are unable to take out loans at a -0.1% interest rate. You might be thinking: doesn’t this trigger inflation? And the answer is, surprisingly, no. The growth in Japan is at such a low percentage that the price level of things is not increasing regardless of interest rates. The growth is so stagnant that some regions of Japan are experiencing deflation - where prices are getting cheaper. On the surface, deflation is a great thing, but for an economy it is awful. This is because people begin to save money as they can get more value for money if they spend it a couple years down the line. This means that this money is not being used in circulation and therefore is not being given to firms - which leads to a reduction of income for the firms which in turn leads to firms shutting down or having to use schemes such as furlough, This ultimately causes the economy to be shoved into a recession at best. To combat this, the Japanese central bank is using Quantitative Easing (QE). QE is essentially when the government prints large amounts of money to fight off deflation. In 2013 the central bank of Japan decided to double the amount of Yen in circulation to fight deflation. This worked and restored the inflation rate to a comfortable 2%.

Fiscal policy- is government spending and taxation. To boost an economy, the government must lower tax rates and increase government spending. Meaning that there will be more money in people’s pockets enabling them to spend it on businesses, and then businesses invest some of it on capital and pay their worker’s salaries so that they can spend the money on firms, and the cycle continues. This is very effective in boosting the economy as the investment from firms increases and produces a lasting increase on productive capacity. However, there is one drawback, if a government is spending a lot of money without making money, the country will quickly lose all its savings and go into debt. Japan has accumulated large amounts of debt because of this, and their public debt has now reached to $13.11 Trillion, which is 2.5 times the national GDP. For comparison, the USA national debt is just over 1 times its GDP. Japan is also forced to pay interest on these large loans, and even though the majority of the debt is in government bonds with low interest rates, the long-term growth of the economy has stunted due to the size of the debt.

Overall, the Japanese economy is stuck. They cannot borrow more money to stimulate the economy, the population is aging dramatically, and it is being outperformed in all the industries by surrounding nations. This case study outlines a dark truth. The economy will not grow forever. And Japan’s fate may be a possible future for all economies which are built on the foundations of being the workshop of the world.