The following interview transcript is adapted from a recent iOne video discussion focused on Japan’s “lost decades” and its subsequent “recovery.” In the conversation, two iOne partners discuss the root causes of Japan’s economic stagnation in the 1990s, the reforms and transformations that followed, Japan’s medium- to long-term strengths and weaknesses, and the implications for China today.
The discussion is divided into four sections:
- The causes of Japan’s 1980s asset bubble
- How Japan emerged from stagnation
- Japan’s opportunities and challenges
- Lessons from Japan for China
I. The Causes of Japan’s 1980s Asset Bubble
Liu: Japan’s economy has recently been recovering, and the Nikkei has reached new highs. We often see media commentary saying that, after Japan’s real estate bubble collapsed in the 1990s, the country never truly recovered and entered the so-called “lost thirty years.”
How should we assess Japan’s current economic condition? Is this the beginning of long-term growth, or merely a temporary rebound?
Fan: To answer that question properly, we need to clarify several issues.
First, what was the fundamental reason Japan’s economy fell into recession in the 1990s?
Second, after that recession occurred, what changes took place in Japan’s economy, and why — or how — did Japan reach its current condition?
Third, once we understand the first two questions, we can then evaluate Japan’s structural strengths and weaknesses over the medium to long term.
To begin with, Japan’s economic problems were fundamentally caused by mistakes in the Bank of Japan’s own monetary policy. We should start with a famous agreement: the Plaza Accord.
Liu: There is a widely circulated theory among the public that, after Japan’s economic boom, the United States forced Japan to sign the Plaza Accord, causing the yen to appreciate, exports to collapse, and Japan’s economy to be destroyed. How do you view that claim?
Fan: That claim is not only inaccurate; it is almost the opposite of what actually happened.
The real situation was that in the early 1980s, the Federal Reserve sharply raised interest rates in order to suppress inflation that had lasted for more than a decade in the United States. High interest rates caused the dollar to appreciate significantly against other currencies. This created severe imbalances in international investment and trade.
On one hand, high rates attracted large amounts of international capital into the U.S., causing capital shortages in other countries, forcing liquidity to tighten, and even triggering debt crises in some countries — most famously the Latin American debt crisis.
On the other hand, the sharp appreciation of the dollar severely damaged U.S. exports and caused the U.S. trade deficit to expand rapidly. A strong dollar also created upward price pressure in other countries, especially for dollar-denominated commodities.
The Plaza Accord emerged against this backdrop.
According to the later written account of Japanese finance minister Noboru Takeshita, he was actually the one who proactively proposed convening the Plaza Accord and allowing the yen to appreciate. This idea was immediately supported by the United States, Germany, the United Kingdom, and France. The agreement stipulated that these countries’ currencies would collectively appreciate against the dollar in order to reduce imbalances in global investment and trade.
Liu: So the Plaza Accord was also beneficial to Japan and was something Japan wanted.
Fan: Clearly. By allowing the yen to appreciate, Japan could adjust its trade balance, reduce domestic price and inflation pressure, and provide some stimulus to domestic consumption. At the same time, Japan’s capital liquidity loosened, and the room for monetary policy expanded.
There was another important benefit: a strong yen helped Japanese companies and capital go global, enabling large-scale investment and expansion overseas, especially in the United States.
Liu: Was Japan’s international expansion already planned?
Fan: Yes. In fact, as early as 1982, Japan’s prime minister at the time had already proposed a strategy of internationalization. It was a very forward-looking strategy. The Plaza Accord was like a tornado that greatly accelerated Japan’s realization of that goal.
Liu: Why did Japan have such a plan?
Fan: As we know, Japan suffered a major defeat in World War II. After the war, with U.S. assistance, Japan quickly built a complete constitutional democratic system and experienced decades of high growth. By the early 1980s, its economy was already highly developed, but relative to the United States, Japan remained primarily an export-oriented country and had maintained a large trade surplus with the U.S. for a long time.
Japan was not satisfied with that position. The goal of the internationalization strategy proposed at that time was to adjust the industrial structure, expand Japanese industry and capital around the world, and use the benefits of globalization to achieve national rejuvenation.
Liu: So there was a strong nationalist sentiment behind this?
Fan: Yes. At the time, Japan believed it had already acquired the conditions to expand globally like the United States and should play a more confident international role.
Liu: How did Japan then develop an asset bubble and experience a collapse?
Fan: Because the Plaza Accord led to yen appreciation, Japan sharply and repeatedly cut interest rates to protect its manufacturing sector, bringing rates to the lowest level internationally at the time.
In that environment, Japan had a combination of low inflation, low interest rates, and a strong yen. If measured in U.S. dollars, Japan’s nominal GDP grew by 118% from 1985 to 1988. Massive liquidity flowed into real estate and the stock market, creating an asset bubble. At the same time, Japanese companies and capital made all-industry, all-resource, comprehensive investments and acquisitions in the United States — it felt as though they were buying half of America, including Hollywood.
At the peak of Japan’s bubble, a single plaza in Tokyo was said to be worth more than the entire state of California. The market capitalization of Japanese equities also significantly exceeded that of the United States for a period. At that time, Japan’s national confidence reached a peak, as if the country were standing at the top of the world.
Liu: Did the Bank of Japan not recognize the asset bubble at the time?
Fan: Looking back, Japan’s asset bubble was obvious. But as with all bubbles in history, at the time, the outlook always appears extremely positive. It seems as though everything is going well, and it is hard to find a reason to slow down.
In addition, Japan and major Western countries signed the Louvre Accord in 1987. The purpose of this agreement was to control the volatility of the dollar against other currencies. Although the Plaza Accord had depreciated the dollar, it had also significantly increased exchange-rate volatility. Exchange-rate changes have lagged effects, making their short-term impact on the real economy more difficult to predict.
For example, after the dollar depreciated against the yen, the U.S. trade deficit actually increased further, and capital outflows accelerated. Japan and Germany were also affected. In Japan’s case, although GDP surged in dollar terms in 1986, GDP growth measured in local currency actually slowed relative to previous years.
Liu: Controlling currency volatility required central banks not to make major changes to interest rates.
Fan: Correct. After the agreement was signed, Japan’s domestic economic growth accelerated significantly, and the overall situation looked very positive. During that period, Japanese interest rates remained unchanged. It was not until mid-1989 that the Bank of Japan began raising rates. That ultimately pierced the bubble and triggered a financial crisis.
Liu: To summarize: Japan actively signed the Plaza Accord, which promoted its internationalization strategy. By allowing the yen to appreciate, Japan sought to transform its industrial structure and expand globally. However, in order to protect domestic manufacturing exports, Japan kept interest rates at historic lows for too long, releasing massive liquidity, fueling an asset bubble, and eventually triggering a financial crisis.
II. How Japan Emerged From Stagnation
Liu: After Japan’s asset bubble collapsed, how did the country get through it?
Fan: Japan’s asset bubble peaked around the end of 1989 and the beginning of 1990. But Japan then made a classic policy-tightening mistake: after the bubble had burst, policymakers continued to tighten.
Japan kept interest rates high until June 1991 and also increased land taxes that year. The main reason was that Japan — and, in fact, the world — did not recognize how severe the bubble had been. By the time Japan began loosening policy and cutting rates to rescue the market, it was already too late. The broader trend had turned.
According to economist Richard Koo’s theory, Japan’s rescue policy was neither timely nor aggressive enough. As a result, Japanese corporate and household balance sheets entered a sustained recession. Balance sheets became insolvent, consumption weakened, and a negative feedback loop formed. This pushed Japan into a long period of economic stagnation.
Liu: At the time, the concept of quantitative easing did not really exist.
Fan: Correct. Although policies such as quantitative easing can only provide temporary relief, that temporary relief is very important. It is like an immediate shot of adrenaline that determines whether the patient can recover quickly and whether financial and economic activity can continue to function.
Otherwise, rescuing the economy later requires far more effort and delivers far less effect. Japan’s subsequent rapid aging trend made matters even worse.
Later, Japan reduced interest rates to zero, then into negative territory, and then began various forms of quantitative easing. These measures maintained the operation of the overall economy, but Japan’s overall growth remained relatively slow.
This period lasted from 1995 to 2005. After that, corporate financing activity in Japan began to recover and expand. Economists generally believe that Japan began emerging from the 1990 financial crisis around 2006. In other words, the process lasted around ten years.
Liu: Unfortunately, the global financial crisis occurred in 2008.
Fan: Yes. At that time, all developed countries, including Japan, once again adopted quantitative easing to deal with the crisis. But the 2008 financial crisis caused the most severe damage to the United States. Japan was affected to a much lesser degree.
After the financial crisis, because of stricter regulation of the financial system, intensifying global aging, and technological development, developed countries around the world experienced low growth, low inflation, and high debt. During this period, Japan had already emerged from the shadow of the 1990s at the fundamental level.
Liu: So, strictly speaking, Japan’s recession was really a “lost decade,” ending around 2005.
Fan: Yes. Although the Nikkei has only recently reached a new high, Japan’s market had already begun a strong rebound after the 2008 financial crisis. If we compare the performance of Japanese equities and U.S. equities since 2010, we find that the two are broadly comparable. Japan’s performance has been clearly stronger than that of Europe and other developed markets.
Liu: Why has Japan’s stock market performed so strongly?
Fan: There are two dimensions.
First, Japan continued to implement quantitative easing. The Bank of Japan used yield-curve control to suppress long-term government bond yields, while also buying large amounts of Japanese ETFs and bonds, injecting substantial liquidity into the market.
But quantitative easing can only inject liquidity; it cannot solve fundamental problems by itself. The deeper reason Japan’s equity market has led for such a long period is that its companies successfully completed a transformation, generated strong earnings, and continuously accumulated wealth for investors through share buybacks.
Liu: That point is indeed critical. Many countries have implemented quantitative easing, and investors are familiar with it. But how did Japanese companies survive ten years of depression, and how exactly did they transform successfully? What was the secret?
Fan: This is indeed a very important core question and worth analyzing carefully.
First, let’s look at the difficulties Japanese companies faced in the 1990s. The collapse of the asset bubble directly damaged corporate balance sheets. The depressed economy caused revenues to fall rapidly. Companies were unable to repay debt, remained unprofitable for extended periods, and could only keep shrinking operations.
The powerful electronics industry Japan had built in the 1970s and 1980s failed to seize the opportunities of the new era in time and was pressured or replaced by companies and products from the U.S., South Korea, China, and other countries.
Liu: The U.S. led the internet and information-technology revolution, while South Korea and China caught up through low-cost labor and industrial support.
Fan: Correct. Against that backdrop, Japanese companies worked hard to find new pathways and directions. When they found they could no longer establish competitive advantages in downstream electronics and internet markets facing end consumers, they began exploring opportunities in midstream and upstream core technologies and applications.
Compared with downstream end markets, developing these types of markets is very difficult, because breakthroughs in core technologies require heavy investment, long cycles, and high risk.
Liu: But once successful, they create very strong moats.
Fan: Exactly. Brands we know well — Panasonic, Sharp, Toshiba, Sony, Hitachi, Mitsubishi, Yaskawa, and others — may have faded from the direct view of end consumers, but they became global leaders in upstream core technologies, forming one of the most competitive parts of the global high-end technology supply chain.
Specifically, they control core technologies globally in fields such as smart housing, medical technology, biotechnology, automobiles, nuclear power, power grids, new energy, hydrogen fuel, robotics, and semiconductors. One can say that this group of Japanese companies controls upstream core technologies across industries worldwide.
Liu: So compared with the 1980s, when Japan mainly relied on exports of consumer electronics, today’s Japan has stronger competitiveness because it controls global high-end core technologies.
Fan: Yes. Japan was able to achieve this not only because its companies learned painful lessons over more than a decade and painstakingly developed upstream markets, but also because the Plaza Accord in the 1980s further accelerated Japan’s globalization strategy.
Although Japan’s bubble burst in the 1990s, its global footprint had already taken root. After 2000, Japan resumed global expansion. Japanese companies achieved global growth by acquiring overseas technologies and expanding overseas markets.
Today, these companies have upgraded into globally competitive multinationals, with mature capabilities in international resource integration, management, and operations. In 2023, 70% of the profits of Japanese listed companies came from overseas markets. Among Japan’s top ten companies by market capitalization, eight were multinational technology and manufacturing companies.
Japan’s overseas assets have grown substantially. By 2021, Japan’s net overseas assets were equal to 76% of its domestic GDP. Dividend income from overseas investment alone reached 10% of domestic GDP.
Liu: That explains why Japan’s domestic GDP growth has not been high, but corporate earnings have grown well and private-sector wealth remains relatively strong. No wonder the media often says Japan has been declining, but when one actually travels there, the picture looks very different.
Fan: Exactly. Japan is highly integrated with Europe and the United States in terms of political and financial systems. Japanese companies and residents can invest overseas relatively freely. So Japan’s low GDP growth is, in some sense, an illusion. It does not reflect the true condition of the economy.
If we look at household wealth, Japan ranks much higher relative to its per capita GDP. Among large countries with populations above 50 million, Japan is at the top tier globally.
For example, according to UBS research, in 2022 Japan’s median wealth per adult was 50% higher than Germany’s, and Japan’s Gini coefficient was also relatively low — even though Germany’s per capita GDP was more than 40% higher than Japan’s.
Liu: Did the Japanese government play a role in this process?
Fan: The Japanese government supported this process in two ways.
First, it supported basic research and development. After Japan’s asset bubble collapsed, the government actually increased R&D investment. Its R&D spending as a share of GDP became among the highest in the developed world. The focus was on basic scientific research and cultivating top talent.
In 2000, the Japanese government proposed a plan to win 30 Nobel Prizes over the next 50 years. So far, 25 Japanese citizens have won Nobel Prizes, most of them after 2000.
Most Japanese government R&D funding is invested in universities and public research institutions. Companies naturally obtain talent and technology from these institutions. It is important to emphasize that these Japanese companies are private companies and fully responsible for their own profits and losses.
Second, the Japanese government implemented a series of financial-system reforms and international trade and economic agreements. The goal was to make Japan more market-oriented and more internationalized, allowing companies to finance themselves more effectively, become more competitive, and build stronger confidence among global investors.
We know that high-end technology supply chains involve division of labor across multiple countries and are difficult for one country to fully control alone. Semiconductors are an example. Japanese companies integrated very well into global supply chains and cooperated deeply with European and U.S. companies in high-end industries. Japanese semiconductor equipment manufacturing is globally leading.
Liu: Let’s summarize. After Japan’s asset bubble burst, Japan injected substantial liquidity into the market through monetary policies such as quantitative easing. More importantly, Japanese companies completed a transformation — from downstream consumer-export-led businesses to companies controlling upstream core technologies, deeply cooperating with advanced economies in the full high-end industrial chain, and becoming globally positioned multinationals. These factors helped Japan become an internationalized developed country.
Fan: Exactly.
III. Japan’s Opportunities and Challenges
Liu: From today’s perspective, what opportunities and challenges does Japan face going forward?
Fan: Let’s begin with opportunities.
Based on the earlier analysis, Japan has already fully integrated into the world’s most advanced high-end industrial supply chains. This means it will not be left behind in the coming technological revolution. Instead, it will likely occupy a leading and dominant position.
At the same time, because its economy is built across full industrial chains, Japan has strong resilience to risk.
Japan’s aging population means the probability of high-speed economic growth is low. But the overall situation should remain stable. Aging will stimulate demand for efficiency and automation, which will further promote Japan’s development in high-tech industries and support continued high-quality economic growth. Its stock market should also continue to appreciate, supported by the global competitive advantages of Japanese companies.
At the same time, today’s geopolitical tensions are intensifying. Relations between the U.S.-led Western countries and China are likely to become increasingly tense across multiple dimensions. Multinational companies may shift mid- to high-end industries from China to Japan. High-tech companies that originally planned to develop in China may also relocate to Japan in order to avoid sanctions. This would further enhance Japan’s competitiveness.
Since the COVID pandemic, travel to Japan has continued to recover. Data show that in February this year, the number of international visitors to Japan was more than 7% higher than before the pandemic, in 2019. The Japanese government has also begun placing greater emphasis on tourism and has opened parts of its immigration policy.
From 2012 to 2023, Japan’s population declined by 2.7%, but the number of immigrants increased by more than 60%. This trend is expected to continue.
As for Japan’s challenges, one is population aging, though its impact on the economy can be partially offset through immigration policy and industrial upgrading.
Another challenge is whether the Bank of Japan’s policy can be sustained. Japan has long implemented quantitative easing. A major side effect is yen depreciation. This creates negative effects for foreign investors and increases the risk of domestic capital outflows.
Liu: How should we understand that?
Fan: The simplest way is to compare the pace of money creation. If Japan’s money supply grows significantly faster than that of other countries, then, all else equal, Japan’s currency will naturally depreciate in relative terms.
From the perspective of monetary credibility, the government is effectively issuing currency to avoid debt default. That itself erodes national creditworthiness, leading to currency depreciation.
If the central bank tries to appreciate the yen through quantitative tightening or interest-rate increases, bond prices will inevitably fall. As we know, bond prices and interest rates move inversely. This would cause losses for financial institutions and pension funds holding debt and could spill over into the stock market and other financial assets.
Therefore, the central bank must balance currency stability and debt sustainability. This is undoubtedly a challenging task.
Liu: But most developed countries, as well as some developing countries, face problems similar to Japan’s — high debt and an increasingly heavy debt burden.
Fan: Exactly. This is an era of relative comparison. As long as Japan’s future debt dynamics are better than those of other countries, it can avoid relative currency depreciation.
In my view, central-bank operations are technical challenges. The key is whether Japanese companies can continue to maintain core competitiveness internationally and whether Japan can remain highly integrated with other developed countries. As long as the fundamental trend is positive, technical problems can be solved, even if the adjustment process is slow.
Liu: So overall, Japan’s outlook is relatively optimistic. What implications do Japan’s changes over the past forty years have for China today? We all know China is currently facing multiple challenges. How should we compare China and Japan?
IV. Lessons From Japan for China
Fan: For certain reasons, I cannot answer this question too directly. But we can make some simple comparisons based on facts and data.
We know that real estate was one of the key areas where Japan’s financial crisis erupted. We can compare China today with Japan at the peak of its bubble.
Today, China’s real estate market value-to-GDP ratio is around four times, similar to Japan’s at the time. In China, the 2022 new-home transaction price per square meter was about 10% of per capita GDP, also comparable to Japan then. China’s outstanding real estate loans account for about 23% of total loans, similar to Japan at the time. Around 50% of Chinese bank assets are tied to real estate, compared with about 55% in Japan then. Chinese households have around 70% of their assets in real estate, while Japanese households had only 55% at the time.
Liu: Understood. The current situation is not less severe than Japan’s was.
Fan: Now let’s discuss policy. As mentioned earlier, Japan fell into depression because after the housing bubble peaked, it waited one and a half years before beginning to cut rates, and subsequent easing was insufficient to rescue corporate and household balance sheets.
China’s home prices peaked around September 2021. In 2022, policies were still introduced that continued to pressure housing prices. Policy adjustment began in the second half of 2023, more than one and a half years after the housing-price peak. As for the strength of China’s policy response, I will not comment.
Liu: Understood. That is the situation.
Fan: Now let’s look at the Chinese government’s current approach. China’s main method is to use industrial policy to strongly support industries the government believes may become future economic engines, such as the so-called “new three.” These policies have triggered dissatisfaction and resistance from other countries internationally.
Interestingly, before the 1980s, Japan also implemented a series of industrial policies and engaged in trade wars with the United States. However, after Japanese scholars conducted extensive research in the 1980s on past industrial policies, they found that industrial policy had actually hindered industrial progress. Japan’s outstanding products were precisely those generated through free competition under market mechanisms after trade liberalization.
Liu: In other words, entrepreneurs operating on the front lines are the most sensitive to product demand and have the deepest insight into the future of industries. The government’s role should simply be to create a fair and open environment in which they can fully realize their potential, compete freely, and create value.
Fan: Exactly. Later scholars analyzing Japan’s earlier industrial policies reached the same conclusion. After Japan’s asset bubble collapsed in the late 1980s, the Japanese government effectively abandoned the interventionist industrial policies it had used before the 1980s. Instead, it focused on investing R&D resources in basic science, actively promoting cooperation between companies and academic research institutions, and encouraging technological innovation.
Japanese companies went through extremely difficult periods, but they became stronger by struggling and competing in the market.
Liu: Did Japan later avoid the so-called problem of “overcapacity”?
Fan: Yes. From the perspective of economic theory, overcapacity is usually the result of non-market intervention, such as administrative control, guided industrial policy, or subsidies, which can easily lead to excessive expansion. When imports and exports are involved, it can also trigger policy responses from other countries, ultimately leading to mutual attrition.
Liu: Earlier, you mentioned that Japanese companies completed a transformation. Can Chinese companies also complete a similar transformation in the future, help transform the overall economy, and move China into the ranks of developed countries?
Fan: As noted earlier, one of the most significant achievements of Japanese companies was their successful transition into upstream core technologies. A large part of that success benefited from Japan’s system.
We know that Japan has a constitutional democratic system, private property rights, and privately owned enterprises. These companies operate according to market mechanisms, so they can freely move into midstream and upstream industries.
In China, however, the vast majority of upstream core industries are controlled by state-owned enterprises. We all know that the operation of state-owned enterprises does not conform to a true market mechanism. Therefore, if China wants to replicate Japan’s success, the first question is whether China can privatize these state-owned enterprises or allow private companies to replace their functions.
Liu: That does not sound simple, because it involves not only economic issues but also political issues.
Fan: Exactly. Fundamentally, this concerns two different ideas about power distribution and governance. So we will not discuss it further.
Looking only at historical data, all high-income developed countries — except for a few countries that mainly rely on scarce resources such as oil — are constitutional democracies. China has no precedent yet.
Another reason Japanese companies became so strong is their internationalization. They were able to draw on global capital, technology, and talent, especially from developed countries. A key reason Japan could become deeply integrated with the U.S., Europe, and other advanced economies in industrial supply chains is that their governments could trust each other.
Liu: This type of trust should not be something that can be established through trade alone. Japan and the U.S. also had a lot of trade before World War II, but they did not trust each other.
Fan: Exactly. If trade determined everything, Europe would not have had to make the painful decision to break with Russia, because Europe depended heavily on Russian energy.
These countries can build deep trust and form an integrated system fundamentally because they share similar and open constitutional democratic systems. Even when trade frictions or disputes over interests arise among them, the probability of major escalation is low. These observations are supported by a large amount of data.
China currently maintains strong trade relationships with the entire world. But it cannot deeply interconnect with developed countries in high-tech industries the way Japan can.
Liu: The tensions between China and the U.S. are likely to deepen further in the foreseeable future. This will only further obstruct cooperation between China and other developed countries, including the U.S., in core technologies and industrial supply chains.
Fan: That is indeed the case. For ordinary residents, the difference is also obvious. For example, Japanese citizens can freely exchange currency and invest overseas. Even if domestic economic growth is slow, they can still preserve or increase their wealth. As mentioned earlier, a significant share of Japanese private wealth has accumulated overseas.
Chinese households face much greater barriers.
It is also worth noting that when Japan’s bubble collapsed, the Japanese private sector was already relatively wealthy. Japan’s per capita GDP had already reached the level of developed countries. China, by contrast, is still at the middle-income stage, and household buffers are much thinner.
Liu: To summarize: China’s real estate bubble is already very similar to Japan’s at the time, and the timing lag in policy easing is also similar. However, there are certain differences in the thinking and implementation of Chinese and Japanese government policy. China may not possess the same conditions that supported Japanese corporate transformation. Japanese households could invest heavily overseas and accumulate wealth, while Chinese households do not have this condition. From multiple perspectives, the challenges China faces may be more difficult.
Fan: In any case, I sincerely hope China can successfully overcome its difficulties and enter the ranks of developed countries.
Legal Disclaimer
This article is original content and may not be reproduced without permission. The views expressed herein are solely those of the authors. This article is provided for informational purposes only. Even if the views expressed change in the future, the authors have no obligation to update this article.
This article does not constitute an offer to sell, a solicitation to buy, or a recommendation to trade any securities. Its sole purpose is to provide information and perspectives. Nothing contained herein should be construed as financial or investment advice on any subject.
The authors assume no responsibility for any actions taken by readers based on any information contained in this article.