High inflation and overstretched public finances offered no room for a fiscal and monetary stimulus that boosted domestic spending and the economy to an unsustainable 1.7 percent growth rate during the first half of 2025.

The governing Liberal Democratic Party (LDP) did it anyway. The stimulus was supposed to help Shigeru Ishida to hold on to his position of party leader and prime minister in a widely anticipated leadership contest. He lost in October 2025, but the winner, Sanae Takaichi, inherited an unstable minority government.

She, of course, did not like that. And, in a high-stakes gamble, Takaichi decided to call a snap election last February. The payoff in that daring action was remarkable: The LDP won 316 of 465 seats, a gain of 118 seats, securing the largest two-thirds majority by a single party in Japan’s postwar era.

The economy, however, landed in a very challenging situation. The withdrawal of the stimulus brought the GDP growth down since the second half of last year to an average annual rate of 0.4 percent.

Difficult road ahead

Predictably, the outlook is rather grim. Giving free money to hedge funds with currency market interventions won’t do, and neither will repo facilities.

Tokyo’s credible economic policies cannot be delayed.

The price inflation in Japan has accelerated to 1.7 percent in June from 1.5 percent in May, and the negative 0.7 percent real policy interest rate must be moved to a positive territory.

Public sector accounts have no room to accommodate government spending’s sharp increase of 1.4 percent in the first quarter of this year – from 0.7 percent in the previous two quarters. The planned doubling of the budget deficit for this year to 2 percent of GDP should be scrapped, and the proposed fiscal tightening for 2027 should be brought forward.

So, what’s the way out? The answer is what it has always been – net exports. Japan’s export sales account for 21 percent of GDP – the same share as government spending.

Allow the yen to find its temporary equilibrium, push exports to support employment and justify a 1.6 percent increase in real wages without unaffordable – and unfair -- government subsidies for which we usually attack Chinese trade policies.

That will put Japan back on its traditional export driven growth model: rising exports, increasing industrial production, increasing employment, rising wages, rising private consumption, rising economic growth, rising business investments.

Love thy neighbor

With an annual growth rate of 2.1 percent in the first quarter of this year, exports were the fastest growing component of Japan’s aggregate demand, and very much on a growth path observed during last year.

Asia, the fastest growing area of world economy, takes more than half (54 percent) of Japan’s exports. Last year, Japanese exports to Asia grew 6.3 percent, with sales to booming emerging and developing Asia soaring 11 percent.

Interestingly, despite tense political and security relations, Japan’s trade with China is also flourishing. In the first half of this year, the total bilateral trade increased at an annual rate of 18 percent, with Japan’s exports to China surging 29 percent.

The picture is clear: With Japan’s exports to the U.S. down 4 percent in the first half of this year, and sales to the stagnating European trading bloc in May sinking 8.4 percent, exports to Asia are Japan’s winning card at a time when domestic demand will remain subdued by the monetary and fiscal restraint.

And now is not the time for root and branch structural reforms advocated by the OECD and the IMF. Net exports must provide some time for the economy to breathe and recover. Only then, my former colleagues who used to be seconded to the OECD from the Economic Planning Agency (now merged in the Cabinet Office and the METI) should begin to implement measures to raise Japan’s dismally low potential and noninflationary growth rate of 0.4 percent.

Indeed, it is pathetic to read expert opinion from official international organizations that Japan’s 1.1 percent GDP growth last year showed a “positive output gap.”

Let me, therefore, finish this note with a message to “Abenomics” followers and the late Shinzo Abe understudies.

After another landslide election victory of the Liberal Democratic Party, the Prime Minister Shinzo Abe stated during his press conference on December 16, 2012: “China is an indispensable country for the Japanese economy to keep growing. We need to use some wisdom so that political problems will not develop and affect economic issues."