Does Japan's decline foretell our future?

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Practically every quarter, grim statistical reports show that Japan's economy is still stagnant. The mid-year numbers for 2010 will no doubt paint another bleak picture of continued deflation. As usual, those reports also will prompt doomsayers to warn that North America and Europe could sink into a slump as prolonged and punishing as the one that has gripped Japan since the 1990s.

Certainly no one wants to repeat that country's fall from grace-a cautionary tale worth retelling to swashbuckling young financiers and fiscally irresponsible nations. In the 1970s and 1980s, Japan appeared to be an invincible economic colossus, and Tokyo's benchmark Nikkei 225 stock index soared to a record close of 38,916 in December, 1989. But then the massive bubble in Japanese asset and real estate prices burst, dragging the stock market, the banking system and the rest of the economy down with it. The Nikkei plunged to 15,000 by 1992, and these days it is still struggling to remain above 10,000. The parallels to the financial meltdown in North America and Europe in 2008, and the recession that took hold afterward, are just too close, right?

Not really. Japan's 20-year slump is rooted in a unique mix of cultural, social, political and economic conditions. Yes, there are similarities to other countries, and lessons to be learned from its surge in the 1970s and 1980s and its subsequent struggles. But it's a series of case studies, not a template for what's certain to befall North America and Europe.

The most obvious similarity is a real estate bubble. The run-up in Japan in the 1980s, however, was more excessive than the one in North America in the 2000s, and it was allowed to spread more quickly through the financial system. Land prices in central Tokyo soared so high that it was often said that the Imperial Palace grounds were more valuable than all the marketable land in Canada. Banks and other financial institutions recorded inflated values for property, stocks and other assets on their balance sheets, then used them as a basis for more lending. Pyramid-like financial dealings were widespread, and there were cozy connections between business leaders and long-entrenched conservative politicians.

It's also important to remember that Japan had no tradition of open and transparent markets. The first wave of Japanese industrialization in the 19th century was guided by the old feudal Imperial regime. After the Second World War, Japan's dominant Liberal Democratic Party kept trying to direct the economy. Among its most controversial policies in the early 1980s: keeping the value of the yen low to encourage exports and restrict imports. The United States complained loudly, as it has in recent years about China keeping the value of the yuan low.

Since Japan's bubble burst in 1990, the same conservative political forces and traditions have stymied efforts at reform. True, the government boosted spending, but it also tried to support many so-called zombie banks and businesses. In 2001, the Bank of Japan effectively lowered interest rates to 0% and kept them there for years. But neither of these approaches helped banks and businesses that were unviable largely because the value of real estate and other investments on their balance sheets had declined to practically nothing.

Despite continued government stimulus-including an $80-billion (U.S.) package announced last December-Japan's economy continues to shrink and wages are falling. The official unemployment rate remains at 5%, and that doesn't include widespread underemployment. This year, roughly one-fifth of university graduates, born around the time the bubble burst, won't find jobs. Public debt, though mostly held by investors in Japan, is about 200% of annual gross domestic product (GDP)-one of the highest debt ratios in the industrialized world.

The other major factor that sets Japan apart is demographics. The country's population is aging faster than any other. More than a fifth of Japanese are 65 years or older, while just 13% are under 15. Like many other families in developed economies, Japanese are also having fewer children, and having them later in life, if at all.

As a result, Japan's native-born work force is shrinking, yet more pensions and health care benefits for the elderly will have to be paid out. Twenty years ago, there was one retiree for every six working-age Japanese. By 2025, the government projects that the ratio will decrease to one retiree for every two people employed. Here again, Japan's conservatism is aggravating the problem. Given the country's low birth rate and greying population, it would need millions of immigrants to provide a permanent boost to GDP and government revenues. But Japan is plagued by a xenophobia that seems almost quaint in a globalized world. It's nearly impossible for people who are not ethnically Japanese to obtain citizenship-this despite the fact that city streets teem with guest workers and foreign residents.

Other countries have used immigration to relieve demographic and economic pressures. Singapore, for example, has doubled its population to five million since 1980, and its economy expanded steadily in the 1990s and early 2000s.

Yes, there are lessons to be learned from Japan's economic paralysis over the past two decades. But the most engaged students should be the Japanese themselves.

Alexandra Seno is a Hong Kong-based contributor to Newsweek magazine and the International Herald Tribune