Macroscope | Japan will soon learn how far Takaichi can ride her luck

For many decades, Australia was known as the “lucky country”. Its long period of uninterrupted growth stretching back to the 1990s was a rarity among advanced economies. Yet even before the Covid-19 pandemic erupted, Australia’s luck was running out amid stagnant productivity, a housing affordability crisis and the slowdown in China’s economy.

Another developed country that has had luck on its side is Japan. Having endured more than three “lost decades” in a prolonged struggle against deflation, Asia’s second-largest economy has had its fair share of misfortune. Persistently weak growth, a rapidly ageing population, a nearly 35 per cent plunge in the yen versus the US dollar since February 2022, and the unwinding of globalisation add to Japan’s struggles.

However, for a country with an average annual rate of growth of 0.8 per cent between 1991 and 2019 – the second-worst performance in the Group of 7 advanced economies after Italy – it is striking that Japan never suffered a debt crisis following the bursting of its asset price bubble in the early 1990s.

In fact, Japan is the home of the “widow-maker” trade. For decades, many investors shorted, or sold, Japanese government bonds on the grounds that the combination of massive public debt and anaemic growth was unsustainable. Even so, the trade saddled fund managers with crippling losses, partly because of the ultra-loose monetary policy of the Bank of Japan (BOJ).

While bets against Japanese bonds have paid off since the BOJ began normalising policy in 2024, Japan’s bond yields are still lower than Germany’s despite its public debt as a share of economic output being four times higher. “This is the easiest way to see that Japanese yields are being kept artificially low, which prevents them from accurately pricing risk premia to reflect Japan’s high debt,” Robin Brooks, of the Brookings Institution, said in a Substack post.

Yet it is in politics where Japan’s luck is most apparent. The ruling Liberal Democratic Party (LDP), which looked like a spent force last year, has risen like a phoenix from the ashes. Prime Minister Sanae Takaichi has taken Japanese politics by storm. Her gamble to call a snap parliamentary election on February 8 paid off handsomely, giving her party a two-thirds majority in the lower house.