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Strong consumption has contributed to the current optimism. Meanwhile, the Japanese business cycle in recent years has been influenced by overseas economic developments to a greater degree than before. Furthermore, it is thought that the stabilization of international financial and capital markets was behind the yen's recent depreciation. However, I pay the greatest attention not only to short-term demand conditions but also to developments in the trade balance as an indicator suggesting the direction the Japanese economy should take in the medium to long term.Despite the fact that the yen has weakened considerably during the period from late 2012 through 2013, Japan has continued to run a trade deficit, showing a different tendency from past economic recoveries led by foreign demand. To predict short-term economic developments, it is important to see if an increase in foreign demand would help increase the level of production. However, rather than looking from a cyclical perspective, I am more interested in, if the trade deficit continues in 2014, whether that would suggest a structural change in the Japanese economy. The aging population and the trade balanceLooking at Japan's external balance in the past, as a result of its continued trade surplus, the country has become the largest creditor nation in the world (this is why the yen appreciates when uncertainty increases in international financial markets as mentioned above). As a consequence, in addition to the trade surplus, the income balance (and, as a corollary, the current account balance) has continued to be in surplus. With the aging of the population expected to advance, in order to prepare for declining production in the future, it is desirable to keep consumption smaller than production, in other words, to save money and accumulate financial assets. Thus, Japan's trade surplus in the past could be considered to have played the role of self-insurance in preparation for the aging of the population.Will these trends continue in the future? Elderly people generally depend more on financial income than on labor income. For this reason, where the aging of the population has advanced, even if production declines, consumption does not fall to the extent of the decline in production, backed by income from accumulated financial assets. Looking from the perspective of the balance of international payments, this situation means that the trade balance is in deficit and the income balance is in surplus. Over the medium to long term, Japan's current account will continue to be in surplus for some time to come. However, according to economic theory (due to the transversality condition), the trade deficit will be offset by the income surplus, and the economy will head toward a stationary state, where its current account balance will become zero and the foreign asset balance will become steady. From the perspective of domestic demographic trends and according to economic theory, Japan will see a prolonged trade deficit sometime in the future against the backdrop of the largest net foreign assets.Furthermore, from a global perspective, it is becoming difficult for Japan to continue a trade surplus. Given that the sum of the balance of payments over the world should be zero, Japan's trade surplus means a trade deficit for the rest of the world. Japan is the largest creditor, while the United States is the largest debtor. Japan's foreign assets are almost equivalent to U.S. foreign liabilities. Due to such characteristics as the U.S. dollar being a key currency and U.S. government debts as safe assets, funds have continued to flow into the United States from not only emerging Asian economies but also oil-producing countries in the Middle East, especially from the 2000s, accelerating the growth of U.S. foreign debt. This situation, which is called global imbalances, has attracted lots of attention for its consequences not only in academia but also in the policy arena. Furthermore, some point out that the latest financial crisis was due mainly to interest rates remaining at a low level against the backdrop of the inflows of funds into the United States. In light of these points, the global imbalances are expected to be corrected in the future. U.S. efforts toward fiscal restructuring are also headed in this direction.Will an economy led by domestic demand, which has been pursued since being proposed by the so-called Maekawa Report published in the mid-1980s, finally take root in Japan? It has been thought that Japan's external balance would change someday, and it would become a country with a trade deficit and an income surplus. Is Japan at such a turning point now? Or will Japan resume an export-led economic recovery? Answers to these questions may become obvious in 2014. Exchange rates and the terms of tradeEven if the trade balance is in deficit, if the country maintains a current account surplus, the national income will increase. In an economy where the working age population is decreasing, in addition to per capita gross domestic product (GDP), per capita consumption (national income) is an important economic indicator. For this reason, some consider that there is no need to care about the trade balance itself. However, if the trade balance tends to be in deficit, a significant change in economic policy design will be required. When the aging of the population is expected, it is necessary to maintain a trade surplus and increase savings. For these purposes, it is desirable that exchange rates against foreign currencies move toward depreciation. On the other hand, when the aging of the population has advanced, exchange rates should tend toward appreciation. Thus, by improving the terms of trade, social welfare may be higher in a society where more consumption is possible at the same production level than otherwise.Needless to say, it would be necessary to continue to have medium- to long-term perspectives, such as advancing manufacturing technology by maintaining the level of production, and it would be difficult to provide a clear answer to such discussions as what level of exchange rates is eventually desirable (in addition to the terms of trade mentioned above and a vision for the future, including whether manufacturers should continue to be the engine of the Japanese economy or be replaced by the service sector, it depends also on the currency composition of foreign assets and liabilities and overseas conditions.) However, it is necessary to pay attention to the possibility that a weak yen is no more than a panacea to the cyclical problems of the Japanese economy (that is to say, social welfare cannot be improved in an economic cycle.)Japan's trade deficit so far has been explained in many cases by special or temporary factors, such as dependence on expensive energy imports and global economic conditions that are not necessarily strong. Certainly, these were major factors behind the trade deficit. However, there have been a number of instances that had initially been explained by special or temporary factors, but it has been found, in retrospect, that they had indicated signs of structural changes. I will pay close attention to developments in the trade balance in 2014 in looking ahead at the future of Japan and the policies that should be taken.December 27, 2013>> Original text in Japanese Tweet January 24, 2014 Print Article(s) by this author Measuring robot quality: Slowing improvement is a possibility May 23, 2022［VoxEU Column］ Record Japanese government debt risk post-COVID-19 October 13, 2021［Newspapers & Magazines］ Private news and monetary policy: Forward guidance (or the expected virtue of ignorance) May 23, 2016［VoxEU Column］ The Future of the Trade Balance January 24, 2014［Priorities for the Japanese Economy in 2014 (December 2013)］ Carry Trade and Tail Risk August 14, 2012［Column］ Articles Column Special Series Priorities for the Japanese Economy in 2024 (January 2024) Priorities for the Japanese Economy in 2023 (January 2023) Priorities for the Japanese Economy in 2022 (January 2022) Priorities for the Japanese Economy in 2021 (January 2021) Priorities for the Japanese Economy in 2020 (January 2020) Priorities for the Japanese Economy in 2019 (January 2019) Priorities for the Japanese Economy in 2018 (January 2018) Priorities for the Japanese Economy in 2017 (January 2017) Priorities for the Japanese Economy in 2016 (January 2016) Fellows' Views on the Trans-Pacific Partnership (TPP) Priorities for the Japanese Economy in 2015 (January 2015) Priorities for the Japanese Economy in 2014 (December 2013) Issues Facing the Japanese Economy in 2013 (January 2013) Issues Facing the Japanese Economy in 2012 (January 2012) Issues Facing the Japanese Economy in 2009 (January 2009) Issues Facing the Japanese Economy in 2008 (January 2008) Issues Facing the Japanese Economy in 2007 (January 2007) RIETI Fellows' View on Incident at Japanese Consulate-General in Shenyang (June 2002) Newspapers & Magazines Fellows' Works VoxEU Column From IZA Perspectives from Around the World Other Contents RIETI Report Policy Update Keizai Sangyo Journal Communications Newsletter RSS Feed Facebook X YouTube Research Areas Research Programs (FY2024-2028) Research Programs (FY2020-2023) Research Programs (FY2016-2019) Research Programs (FY2011-2015) Policy Research Domains (FY2006-2010) Projects Survey Fellows Research/Policy Papers Discussion Papers (English) Discussion Papers (Japanese) Policy Discussion Papers (English) Policy Discussion Papers (Japanese) Technical Papers (English) Technical Papers (Japanese) Non Technical Summaries List of Articles in Journals Research Digest Discussion Papers Search Publications RIETI Books (English) RIETI Books (Japanese) History of Japan's Trade and Industry Policy Authors' Words Other Publications (English) Other Publications (Japanese) Events Symposiums Workshops BBL Seminars Archived Seminar Series Data JIP Database R-JIP Database CIP Database Industry-Specific Nominal and Real Effective Exchange Rates AMU and AMU Deviation Indicators JSTAR RIETI-TID RIETI FDI Database ICPA Project Links Articles Column Special Series Newspapers & Magazines Fellows' Works VoxEU Column From IZA Perspectives from Around the World Other Contents RIETI Report Policy Update Keizai Sangyo Journal (METI Journal) About RIETI Privacy Policy Site Policy Site Map Help Contact METI Web Site Research Institute of Economy, Trade and Industry, IAA (JCN 6010005005426)JCN: Japan Corporate Number Opinions expressed or implied on this website are solely those of the author, and do not necessarily represent the views of the Research Institute of Economy, Trade and Industry (RIETI).Titles, numbers, specific names, etc. on this website are as of the date of publication. 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