[Lee Jong-woo's Economic Reading] The 'Population Issue' Becoming an Obstacle to Japan's Economic Recovery

Peak Working-Age Population Recorded in 1995... 29% of Population Aged 65+ in 2020
Becoming a Country Unable to Work... Population Decline, Consumption Slowdown, and Fiscal Deterioration
Korea May Face Similar Issues as Japan

‘Heisei (平成)’ was the era name in Japan just before the current one, but internally it is also used as a term representing a prolonged economic stagnation.

There is a framework to explain Japan's recession that has lasted for over 30 years. It goes like this: ‘When the yen strengthened due to the Plaza Accord, interest rates were lowered to mitigate the shock, which led to an asset bubble. The central bank, sensing a crisis, abruptly raised interest rates, causing the bubble to burst in 1990. The Japanese government repeatedly made policy mistakes, missing opportunities to manage the situation, and due to foolish responses, the current state became inevitable.’

While this explanation is correct in terms of the outcome, it contains many distortions. At the onset of the crisis, the Japanese economy was not in a fragile state. The ratio of national debt to Gross Domestic Product (GDP) was in the 60% range, one of the best among developed countries. The Japanese government's policy capabilities were so excellent that the United States used them as a model. Japan held the largest net external assets in the world and possessed top manufacturing competitiveness. It is not accurate to say that the economic crisis and prolonged stagnation were caused by Japan's foolish responses.

So why has the Japanese economy failed to recover to its original state? Unlike other developed countries, it was hampered by demographic issues. In 1980, Japan had an annual birth rate equivalent to 1.35% of the total population. Since the death rate was 0.62%, the population increased by the difference of 0.73% each year.

Significant changes in the population structure occurred in 1995 and 2005. In 1995, the working-age population peaked. The decline in the population aged 15 to 64, who are economically active, marked the beginning of the aging problem. This trend intensified over time, and from 2012 onwards, the working-age population decreased by 4.7 million over eight years. As a result, in 2020, Japan had 74.5 million people aged 64 or younger and 36.2 million aged 65 or older, making 29% of the total population unable to work due to old age.

In 2005, the number of deaths exceeded births, and the population began to decline. This population decrease widened annually, reaching 200,000 in 2010, 300,000 in 2016, and finally hitting the 500,000 mark in 2019. If this trend continues, Japan's population, currently around 110 million, could fall below 100 million between 2040 and 2050.

The population decline caused various economic problems. A representative example is the slowdown in consumption, which weakened growth. Japan's current export volume is more than double what it was when the bubble burst. However, domestic consumption is only 70% of what it was then. The 30-year economic stagnation in Japan was a domestic demand issue, with weakened purchasing power due to population decline playing a major role. Population decline also affected asset prices, including real estate. About 10 million homes, equivalent to 25% of all housing in Japan, remain unoccupied, and stocks account for only about 5% of Japan's financial assets. All of these are effects of aging caused by population decline.

Public finances have also been greatly affected by demographic changes. Currently, Japan's total debt-to-GDP ratio is about 560%. Among this, financial sector debt has not changed significantly since 1990, remaining in the 150% range. Household debt has also stabilized in the mid-60% range. Corporate debt ratios have even decreased from 150% to 100%. Most of the debt increase is due to the government, with the government debt ratio rising from the 60% range in 1990 to 250% now.

Many have viewed Japan's fiscal deterioration as a result of the government recklessly implementing infrastructure investments to stimulate the economy. However, examining the factors behind Japan's national debt increase from 2000 to 2019 reveals this view to be incorrect. Over the past 20 years, Japan's national debt issuance increased by 725 trillion yen (approximately 7,700 trillion won). Of this, 194 trillion yen was used to cover tax revenue shortfalls, and 315 trillion yen was spent on social security costs. Public works expenditures, which were expected to be a large portion, accounted for only 59 trillion yen. In total, 43% of the national debt issuance was used for social security related to aging. This structure continues today. Japan's annual tax revenue is about 70 trillion yen, of which more than 15 trillion yen is spent on social security.

Fortunately, Japan's economy has endured this structure, whereas other developed countries might have faced major crises. In 2020, interest payments accounted for only 9% of Japan's general account budget. More than 90% of issued government bonds are held by domestic institutions, eliminating the risk of default. The country also holds significant assets, with a net debt ratio (debt minus assets) of only 60%. Although not to the extent of the US dollar, the yen is treated almost as a reserve currency in international markets, offsetting the negative effects of increased government bond issuance.

Our demographic problems are more severe than Japan's. There is an indicator called the total fertility rate, which represents the average number of children a woman is expected to have during her childbearing years. Last year, South Korea's provisional total fertility rate was 0.84. Japan's total fertility rate did not fall below 1.3 even during its population decline. Generally, when this indicator falls below 1.3, natural population recovery becomes difficult, but we are far below this threshold. As a result, the population decline that began in November 2019 continues today. If low birth rates and aging are not addressed quickly, we may soon face problems caused by population decline similar to Japan's.

Looking at Japan's case, politics is unlikely to provide solutions to generational conflicts caused by demographic issues. This is because the number of beneficiaries is large, and their political power cannot be ignored. The only solution is to encourage increased employment among the elderly. This creates a structure where they can support themselves, and Japan is moving in this direction.

Since 2012, although Japan's working-age population has decreased, the actual number of employed people has increased by 4.4 million. The elderly aged 65 and over contributed most to the increase in jobs, followed by women, and foreign workers also played a role. The Japanese government's reform policies aimed at changing work styles are proving effective, and this is a case worth considering for us as well. Some may question whether there is room to care about retired people when young people are already facing job shortages, but since the quality of jobs desired by the two groups differs, major conflicts are unlikely to occur.