Despite its small size, Japan has consistently ranked as the world’s third-largest economy, following the United States (U.S.) and China. However, in 2024, the country fell to fourth place, overtaken by Germany. Japan has experienced a declining yen, its weakest in history, leading to a rapid economic decline. Businesses relying on imported goods are facing even greater economic challenges. Several factors contribute to Japan’s economic difficulties and this stagnation poses significant concerns for the country’s future.

Reluctance to the Digital Shift

Japan remains one of the few analog societies, still relying on fax machines and cash while retaining traditional methods. This digital gap stems from Japanese companies’ reluctance to adopt information and communications technology (ICT) and a fixed mindset. Renowned tech companies like Sony, successful in the past, resist adapting to new technologies. Additionally, the COVID-19 pandemic exacerbated this issue. While much of the world shifted to remote work, many in Japan continued working on-site, missing opportunities to embrace digitalization.

Japan’s Economic Golden Age

In the 1960s, Japan’s economy flourished, opening to world trade and focusing on exporting goods. The Income Doubling Plan of 1960, which aimed to boost Japanese income through enhanced government support for social welfare and education, played a significant role. During this period, Japan emerged as a leading manufacturer of electronics, automobiles, metals and chemicals. Companies such as Sony, Nikon, Canon, Toyota, Honda, Mazda, Mitsubishi and Suzuki dominated the international market by emphasizing high-quality and high-technology products.

The Economic Bubble Burst

In the 1980s, Japan’s economy grew rapidly, with soaring stock prices, real estate values and the Yen’s strength. This period of economic excess is known as the bubble economy. However, the bubble burst in 1992 when the Bank of Japan raised its interest rate. This led to a stock market crash and a steep decline in asset prices. Since then, Japan has faced economic stagnation, a period often referred to as the lost decades.

The Dilemma of Low Interest Rates

The Bank of Japan has maintained a low-interest rate for decades, contributing to the continuous decline in the value of the Yen. Higher interest rates can boost a currency’s value by attracting foreign investment, which is why countries often raise rates to curb inflation. For instance, the U.S. increased its interest rate during the COVID-19 pandemic to stabilize the dollar. Conversely, lower interest rates can reduce a currency’s value but are used to stimulate economic activities such as borrowing, spending and investing. In Japan, the strategy to drop interest rates to near zero was intended to encourage consumer spending. However, this approach backfired by making the economy less attractive for foreign investment and further decreasing the Yen’s value.

Path Forward for Economic Recovery

Over the years, Japan has resisted raising its interest rates despite economic stagnation. With low demand for the Yen, Japan feared that higher rates would exacerbate its ability to pay off debts. However, in March 2024, for the first time in 17 years, Japan increased its interest rate from 0% to 0.1%, ending its negative interest rate policy.

By 2026, Japan will face a shortage of 2.3 million digital workers due to a fundamental lack of digital skills. Embracing a digital shift to enhance technology promises to spur economic growth. Additionally, gradually raising the interest rate at a steady pace could eventually strengthen the value of the Yen.

Focusing more on tourism offers another avenue to alleviate economic stagnation. Currently thriving due to the declining Yen, Japan’s tourism industry benefits from government efforts to attract more foreign visitors. In 2024, visitor numbers from the U.S. and Germany, where currency strength outpaces the Yen, surged by 64.3%. The weakened Yen draws tourists looking for cost-effective travel options, presenting an opportunity for Japan. By actively attracting international visitors, Japan could leverage its economic challenges to bolster the tourism industry, potentially significantly contributing to the gross domestic product.

Looking Forward

Japan’s decision to increase interest rates and its openness to digital transformation offers hope for economic revitalization. As Japan adapts to global digital trends and continues to enhance its tourism sector, it sets a path toward overcoming decades of economic stagnation and the declining yen. These ongoing strategic shifts promise to gradually restore the strength of the Yen and reinvigorate Japan’s global economic standing.

– Eunsung Koh

Eunsung is based in Seoul, South Korea and focuses on Technology and Politics for The Borgen Project.

Photo: Flickr