Japan has unexpectedly fallen into a recession after its economy shrank for two consecutive quarters, according to data released on Thursday.

#Japan's recession is scary😓 pic.twitter.com/qFh01dwY8L
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The country’s gross domestic product (GDP) contracted by a worse-than-expected 0.4% in the last three months of 2023, compared to a year earlier. It came after the economy shrank by 3.3% in the previous quarter.

The figures from Japan’s Cabinet Office also indicate that the country may have also lost its position as the world’s third-largest economy to Germany.

Economists had expected the new data to show that Japan’s GDP grew by more than 1% in the fourth quarter of last year.

Weak domestic demand and currency woes

The main factors behind Japan’s economic slump were weak domestic demand and a sharp fall in the value of the yen against the US dollar.

Private consumption, which accounts for more than half of all economic activity in Japan, fell 0.2% as households struggled with the rising cost of living and a fall in real wages.

Business investment also declined by 0.5%, as firms faced uncertainty over the global trade outlook and the impact of the coronavirus pandemic.

The weakness of the yen, which dropped by almost a fifth against the US dollar in 2022 and 2023, also hurt Japan’s economy.

A weaker yen makes the country’s exports cheaper on the international market, but it also reduces the profits of exporters when they repatriate their earnings.

Moreover, it increases the cost of importing energy and raw materials, which Japan relies on heavily.

The yen’s depreciation was partly due to the Bank of Japan’s (BOJ) negative interest rate policy, which it introduced in 2016 to boost spending and investment.

Negative rates make the yen less attractive to global investors, which has pushed down the currency’s value.

However, the policy has also failed to generate inflation, which the BOJ has been trying to achieve for years. Japan’s core consumer price index, which excludes fresh food, rose by only 0.2% in 2023, far below the BOJ’s 2% target.

Germany overtakes Japan as world’s third-biggest economy

The latest GDP data may also mean that Japan has lost its spot as the world’s third-largest economy to Germany.

🚨 Japan has slipped to fourth largest economy, Germany at 3rd. India is all set to overtake the Japanese economy by 2026 and Germany by 2027. (IMF)
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According to the International Monetary Fund (IMF), Germany’s GDP was $4.5 trillion in 2023, while Japan’s was $4.2 trillion. This was due to the difference in the exchange rates between the euro and the yen, as well as the relative performance of the two economies.

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Germany, which is also resource poor, ageing and export-dependent, has faced its own challenges, such as rising energy prices, rising interest rates in the eurozone and a chronic shortage of skilled labour.

However, it has managed to maintain a modest growth rate of 1.5% in 2023, thanks to its diversified industrial base, strong innovation capacity and robust domestic demand.

Japan, on the other hand, has been struggling to overcome its long-term structural problems, such as a low birthrate, a shrinking population, a rigid labour market and a high public debt.

The government of Prime Minister Shinzo Abe has been pursuing a set of policies known as “Abenomics”, which aim to revive the economy through fiscal stimulus, monetary easing and structural reforms.

However, the results have been mixed, and some analysts have questioned the sustainability and effectiveness of Abenomics.

Double trouble: UK and Japan fall into recession, Germany rises to third-largest economy

Outlook and challenges

The outlook for Japan’s economy in 2024 is uncertain, as it faces both external and internal challenges.

On the external front, Japan has to deal with the ongoing trade tensions between the US and China, its two largest trading partners, as well as the potential fallout from the Brexit process and the geopolitical risks in the Middle East and North Korea.

On the internal front, Japan has to cope with the aftermath of the coronavirus outbreak, which has disrupted tourism, trade and consumption, as well as the planned increase in the consumption tax from 8% to 10% in October 2024, which could dampen consumer spending further.

To overcome these challenges, Japan will need to implement more effective and comprehensive policies to boost its economic potential and resilience.

Some of the possible measures include increasing public investment in infrastructure, education and research, enhancing labour productivity and participation, especially among women and older workers, promoting innovation and digitalisation, diversifying its export markets and sources of energy, and addressing its fiscal imbalances and social security issues.

The following table summarises some of the key economic indicators for Japan and Germany in 2023:

Indicator	Japan	Germany
GDP (US$ trillion)	4.2	4.5
GDP growth rate (%)	-0.4	1.5
GDP per capita (US$)	33,228	54,446
Inflation rate (%)	0.2	1.9
Unemployment rate (%)	2.4	3.1
Current account balance (% of GDP)	3.6	7.1
Public debt (% of GDP)	238.2	59.8