On the 29th of December 1989, the Nikki, Japan's primary stock index, closed at a record high of 38,915. After accounting for inflation, it would never again reach this level. At this time, Japan was quickly becoming the preeeminent economic force in the world.
Its highly innovative companies were churning out world-class technology. Investors were doubling or even tripling their money every other year. And all of this was creating some of the highest incomes anywhere on the planet.
But even during these good times, there were problems bubbling away under the surface. A long period of easy money and low interest rates grew a roster of underperforming and inefficient businesses. Speculation ran rampant as people were expecting the technology of the day to continue dominating into the future.
Companies and households loaded up on debt. Market returns and loose lending standards like 50-year mortgages fueled a real estate bubble that made innovation centers like Tokyo and Kyoto some of the most expensive places on the planet. All of these vulnerabilities were then tested by a radical shakeup in global trade relations, an aging population, and oh no, I've done it again.
You're all going to start to think I am mixing up these tapes just to make some kind of statement. Let's just uh There we go. Japan never recovered from the crash that followed.
For the past 35 years, the country has stagnated by almost every conceivable metric. Its innovation is lackluster. Incomes haven't budged, and the real estate that caused all of these problems.
Some of those homes are now worth just 1% of what they were during what are now known as the bubble years. So, you might be thinking, "Hang on, a lot of these economic warnings sound very familiar today. I know where this is going.
" This is going to be another video talking about how we haven't learned anything from history. Right? Wrong.
Japan's lost decades may have been the crisis we refused to learn from. But there are some big differences between then and now that almost render this comparison completely irrelevant. The only problem is those big differences probably aren't in our favor.
The Bank of Japan pursued an expansionary monetary policy which led to a speculative boom in real estate and equities which gave rise to fierce competition in the banking sector which in turn fueled reckless lending practices. Jensen Invidia is making a hundred billion investment in OpenAI. The real estate in Tokyo was so expensive that people were taking out 100year home loans.
East PaloAlto was once a pocket of affordability, a place where you didn't need tech money or even two incomes to live comfortably and raise a family. With more than 19 million people crammed into the greater metropolitan area, Tokyo is not only one of the most densely populated cities in the world, but one of the priciest real estate markets anywhere. When Japan surrendered in 1945, most of the country wasn't just damaged, it was unusable.
Factories were turned into rubble. Farmland was scorched. Ports were in ruin and destruction wasn't limited to a few industrial centers.
The Allied bombing campaign had effectively dismantled the economic backbone of the nation. Four in five ships were gone. 1/3 of all industrial machinery had been destroyed along with a quarter of all trains and cars.
Of course, two cities in particular are remembered in the history books. But in the grand scheme of Japan's devastation towards the end of the war, they were barely a rounding error. 64 additional major cities were destroyed by firebombs, leaving almost half of all urban areas completely useless.
Tokyo lost 65% of all its homes. Osaka lost 57% and Nagoya, the country's third largest city, had lost 89% of habitable dwellings and infrastructure. By the end of the war, five of the 7 million residents of Tokyo had left the ruined city.
In total, around 2. 75 million Japanese citizens had died during the war, and almost 9 million were left homeless afterwards. This was not the kind of destruction someone bounces back from.
You don't lose most of your houses, your shipping fleet, your factories, and millions of people, and simply just rebuild through willpower. Japan's survival required massive outside intervention. And the only country with a plan to rebuild it was the same country whose previous plan had been to level it.
Now, the United States didn't rebuild Japan because it felt guilty. It rebuilt the country because it found it to be incredibly useful. The next battle America set its sight on was fighting communism.
And to understand why Japan suddenly became the most valuable piece of real estate in this battle, you only have to look at what was happening across Asia in 1945. Immediately after Japan's surrender, the Soviet Union was quick to act on the broken empire, carving out enormous influence in Manuria and northern Korea, territory that Japan held claim to for over a decade. Stalin wasted no time filling the vacuum Japanese forces left behind.
In China, the Communist Party under Maoadong controlled large rural territories and was gaining momentum in the Chinese Civil War. A war that would end with China becoming a communist state by 1949. Other Asian countries such as Indonesia, Malaysia, Thailand, Burma, the Philippines, and Vietnam all saw communist factions gain prominence.
From Washington's perspective, if Japan was lost to communism, the consequences would have been enormous. Yes, Japan itself had been destroyed. But while their industrial capacity was gone, its industrial potential was not.
They still had one of the highest skilled, most technical workforces in the world. A destroyed factory can be rebuilt, but a skilled workforce is much harder to replace. Japan's ports, shipyards, and urban infrastructure were ruins, but they were strategically placed ruins on the doorstep of the Pacific.
Washington understood that if Japan ever recovered, it would once again become the most advanced manufacturing center in Asia, which meant Japan was simply too important for the US to abandon and too dangerous to lose. And so, the United States began one of the most ambitious nation building projects it had ever undertaken. The Supreme Commander for the Allied powers, effectively an American military government with the Allied partners kept in the loop just enough to say it was a collective effort, took control of Japan following the terms of surrender.
The operation was led by General Douglas MacArthur, who was given sweeping authority to reshape Japan. He oversaw Japan's new constitution, expanded political freedoms, and introduced new civil liberties. He did however introduce the Civil Censorship Departments, an organization dedicated to restricting Japanese media, and crucially to suppress information about the human cost of the atomic bombings.
I suppose it's easy to grant civil liberties when you're the one deciding what people are allowed to know. Anyway, there were changes introduced to reshape the Japanese economy as well. As cold war priorities took shape, Washington shifted from punishing Japan to rebuilding it as quickly as possible, the Allies pushed to dissolve the Zybatsu, a family-owned monopoly, into many different firms called Keretsu with many different shareholders.
Land reform broke apart the huge landlord estates, creating millions of small landowning farmers and injecting income into rural Japan. Labor reforms legalized unions, strengthened worker protections, and helped shape the cooperative corporate culture that would later define Japanese industry. Tax reforms were introduced to dilute concentrated wealth and encourage corporate reinvestment over financial hoarding.
The United States also rebuilt Japan's financial system from the ground up, stabilizing the Bank of Japan and allowing American banks to operate inside Japan. Modern industrial policy began taking shape as well. MacArthur encouraged targeted investment in sectors like steel, ship building, chemical and machinery, industries that would eventually fuel Japan's exportdriven boom.
At the same time, the US shipped in food, fuel, medical supplies, and raw materials, preventing famine and giving Japan the breathing room it needed to rebuild. All of this laid the groundwork. But the true turning point came in 1950 when the Korean War erupted and transformed Japan from a recovering nation into the industrial engine of the United Nations war effort.
When the Korean War erupted in 1950, the recovering Japan unfortunately found itself in the center of the most important geopolitical crisis in the early cold war. And although Japan never sent any troops, it became the primary logistical hub for the entire United Nations war effort. The United States guaranteed Japan security through the 1951 US Japan security treaty, which allowed American bases and the proverbial American nuclear umbrella to anchor Japan's economic revival.
American ships were repaired in Japanese shipyards. American aircraft were serviced in Japanese hangers, and American purchase orders poured into Japanese factories at a scale no one had predicted. This influx of military demand reignited industries that had been idle since 1945.
America needed factories to produce its military equipment, and Japan was a perfect manufacturing hub for its weapons in the Pacific. Major firms like Mitsubishi, Sumi-tomo, and Mitsui were revived by enormous US procurement orders for everything from ships and pharmaceuticals to oil, uniforms, and beer. By 1953, these special procurement payments amounted to $800 million a year, equaling 27% of Japan's total export trade.
Japan's economy was roaring again with the economy growing 10% per year and manufacturers that had been making goods for the US military started importing other goods back into the US. By the mid 1960s, Japan had moved far beyond recovery. It was now one of the fastest growing economies on the planet.
Factories that had once supplied American forces in Korea were now exporting to the entire world. Japanese radios, cameras, ships, cars, and steel were becoming global benchmarks for quality. And this success reignited a national confidence in Japan that this growth would be sustained forever.
Growth wasn't just expected. It was assumed, baked into corporate plans, household budgets, and government policy. Japan's technology firms were at the cutting edge.
Sony, Panasonic, and Sharp were churning out worldclass electronics that reshaped global consumer markets. From the Walkman in people's pockets to stereos in living rooms around the world, investors and households convinced themselves that Japan's technological rise was permanent. The idea that growth could go on forever became so normal that it stopped feeling like optimism and started feeling like geometry.
Green line goes up and to the right. Now, it's easy to see how ridiculous this is in hindsight, but how many of you have a retirement plan that you're quietly assuming will return 10% every year for the next 40 years? Anyways, for ordinary people, the best way to own a piece of the miracle was to own a piece of Japan itself.
So, real estate prices surged far beyond anything connected to local wages. Large cities like Tokyo, Asaka, and Kyoto became some of the most expensive places on the planet. Not because there was no more land, but because everyone believed land prices would never fall.
Luxury consumption exploded. European fashion houses became household names, and expensive watches, handbags, and designer clothing turned into normal status symbols. Japan developed one of the largest secondhand luxury markets in the world, which goes to show how many people could afford to buy in the first place.
The banking system amplified all of this. Japanese banks were flush with deposits from the country's massive trade surplus, and cheap lending became normal. Loans flowed to households, corporations, and speculative property developers with almost no restraint.
If you wanted to build it, buy it, or flip it, there was a bank ready to help you do it. When the first signs of trouble appeared after the Plaza Accord in 1985, which we will discuss soon, the government of Japan didn't slow things down. They doubled down, terrified of throttling growth and losing their dominant position in the global economy.
Interest rates were cut even lower. Loans were given out faster. Asset prices went higher.
And every policy decision was designed to fuel the fire that everyone could see, but nobody wanted to extinguish. Between 1985 and 1989, the decay more than tripled. In 4 years, stock valuations detached from underlying profits.
But as long as the index number on the evening news kept climbing, nobody really cared to ask questions. Now, if things are starting to sound a bit familiar, there are some differences that I should point out. Workers were paid pretty well, job benefits were strong, and social cohesion was high.
The top 1% didn't have nearly the wealth that they do here in the United States today, and ordinary households felt like participants in the economic miracle. Households were also very good at saving. Families had cash buffers in bank accounts.
Their system was not built on maxed out credit cards and financing Door Dash orders. If a bubble burst, households had cushions. Businesses had reserves.
To the outside world, it looked like Japan had found an entirely new economic model. A model that combined technology, stability, high savings, and a formula that looks like infinite prosperity. American executives were flying to Tokyo to study management techniques.
Economists wrote bestsellers predicting Japan would overtake the United States by the early 2000s. Japan is often held up by economists and historians as a cautionary tale of where we might one day end up if we are not too careful. But there is the argument that if we look under the surface just a little bit, we are already there.
And in fact, we may have been there for years at this point without even realizing it. So, it's time to learn how history works to find out if Japan's economic crash would even be that bad by today's standards. Today's episode is sponsored by Brilliant.
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It digs into how we form models of the world, test ideas, and challenge assumptions. Basically, the same tools historians and scientists use to make sense of the past. It's not a history course, but it sharpens the kind of thinking that history actually depends on.
I've been working through it myself and it's made me look at historical analysis differently. You start with basic logic puzzles and end up evaluating evidence, spotting bias, and asking smarter questions. It's surprisingly relevant and honestly pretty addicting.
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To learn for free on Brilliance, go to brilliant. org/how history works. Scan the QR code on screen or click on the link in the description.
Brilliance also given our viewers 20% off an annual premium subscription, which gives you unlimited daily access to everything on Brilliant. The turning point in Japan's miracle came in 1985 when leaders from the United States, Japan, West Germany, France, and the United Kingdom gathered at the Plaza Hotel in New York and signed what became known as the Plaza Accord. The agreement was designed to push the Japanese yen higher and the US dollar lower.
The United States had started to become frustrated with its ballooning trade deficit, and Japanese exports were a major political target. Strengthening the yen was the diplomatic way to ease that pressure without launching a trade war. A stronger yen meant Japanese products would cost more in the United States and American products would cost less in Japan.
This effectively meant that Japan was making it harder on themselves to export. So why the would they do this to themselves? Well, for Japan, signing the agreement maintained good relations with the US and was a responsible power in a system the US dominated.
30% of all exports from Japan were purchased by the United States, their largest buyer at the time. The problem for Japan, though, was that their economy relied heavily on exporting highquality manufactured goods, and a stronger yen made those exports more expensive internationally. This shift placed an immediate strain on Japan's industries.
But despite the pressure, the economy kept chugging along. A more valuable yen increased Japan's purchasing power abroad, making overseas travel, asset purchases, and investments more accessible. Japanese firms began purchasing highprofile properties around the world.
Japanese policy makers were reluctant to let this momentum fade, so they responded to export challenges by lowering interest rates and expanding credit. Their goal was to support domestic demand while exporters adjusted. This created an environment of extremely cheap money.
Banks increased lending. Developers expanded projects and corporations took advantage of readily available credit. Years of optimism were now paired with unusually loose financial conditions.
Real estate values accelerated far beyond income levels, and some parcels of land in Tokyo reached valuations that were more symbolic than economic. The numbers no longer reflected a future expected return. They reflected an expectation of endless appreciation.
Their stock market followed the same pattern. Between 1985 and 1989, the NK rose to levels that had no meaningful connection to company earnings or growth. Prices were driven by liquidity, confidence, and momentum.
By the late 1980s, speculation had become the defining feature of the Japanese economy. It was visible in property, in stocks, in corporate borrowing, and in household expectations. Japanese policymakers started to get concerned by this irrational exuberance.
And the central bank decided to shift course and raise interest rates. Their goal was to cool the most overheated parts of the economy. However, just a slight uptick in interest rates was all it took to expose the vulnerabilities that ran far deeper than anyone cared to acknowledge.
Property developers struggled to service loans. Corporate expansion plans stalled and projects that only worked under low interest rates no longer made financial sense. Asset prices began declining.
Land values fell sharply and the decay started to fall from its peak. In some regions, real estate prices collapsed by 70 to 90% over the following years. The bubble had finally burst, but it was the aftermath that would define the next several decades.
Japan had entered a period of deflation. Prices were falling, wages remain stagnant, and earnings expectations kept declining. For what it's worth, these conditions are very rare in advanced economies and are extremely hard to reverse.
Deflation discouraged investment in the Japanese economy. Prices and revenue were likely to fall. Businesses delayed expansion plans, postponed hiring, and avoided taking risks.
Households had postponed major purchases, reducing demand even further. The banking sector deteriorated under the weight of bad loans accumulated during the bubble years. Many borrowers couldn't repay their debts, but banks avoided writing them off, which weakened the financial system for years.
Policymakers attempted various forms of stimulus and reform, but responses were cautious and incremental. None of the measures were aggressive enough to break the deflationary cycle. Japan remained stable on the surface.
There was no sovereign debt crisis, no hyperinflation, and no political collapse. But the country was stuck in a prolonged period of stagnant growth that became known as the lost decades. Economic activity fell into a long low frequency drift.
Living standards plateaued, consumptions remained weak, and the optimism that defined the boom years never fully returned. By now, you might be thinking, "Okay, so this is where we're going to hear about how we're basically going to become Japan. " And yes, but also not really.
Because one important thing to remember here is that Japan's lost decades happened under conditions that were in many ways far more stable and forgiving than what we have today. Japan ran into deflation, a world where prices fell gradually over time. Sure, this is bad if you own a home and a mortgage and your salary decreases, but I don't even need to go into why that's not an issue for us.
That is bad for growth and terrible for investment. But at least people aren't waking up to find that rent, food, and energy are 15% more expensive than they were a year ago. Our problem today is inflation where the price of almost everything essentially has jumped and wages haven't kept up.
Tariffs don't help with that because a tariff is a tax on imported goods which gets pushed into higher costs for businesses and then higher prices for consumers. Typically, a 2% inflation rate is considered healthy because it encourages people to spend and invest today and it makes existing debt slowly easier to pay off over time. But once inflation stays above that range, it stops being healthy and starts being I can't afford to live anymore.
And when that happens, people do what people always do when the cost of living outruns their income. They finance the gap. Japan has one of the strongest household saving cultures in the world.
Even during the asset bubble, families still put aside significant cash. When the bubble popped, they lost paper wealth, but they still had actual money. In America, we took the borrowing part from the Japanese story, but completely forgot the savings part.
Households carry record levels of debt and have almost nothing in reserve for emergencies. Even food is now being financed through buy now, pay later services like Clana. Japan entered its stagnation with balance sheets that could survive decades of low growth.
We are entering ours with balance sheets that can barely survive a month. Inequality is another major difference. Japan's wealth distribution is far flatter than almost any other developed economy.
During the boom, the gains actually reached ordinary workers. People didn't feel locked out of prosperity. In fact, they very much felt included in it.
When the bubble burst, the pain spread across a broad middle, not concentrated among people who already had the least. In highly unequal societies, the same stagnation became a social pressure cooker. Economic problems turn into political ones very quickly.
Corporate culture played a stabilizing role as well. In Japan, layoffs are never a go-to solution for struggling economies. Firing an employee is seen as a last resort, not a clever way to appease shareholders.
In America, layoffs are the first lever companies will pull. If a stagnation hits this system, the pain spreads directly into the labor market and then the political system. Japan also had a far more equitable wealth system.
They have heavy inheritance taxes. So, as wealth transfers between generations, a meaningful portion is reinvested back into the economy instead of hoarded in asset values. This slows the creation of permanent dynasties and keeps inequality from getting worse.
In countries where inheritance taxes are weak, politically untouchable, or easy to avoid, wealth compounds upwards and stays there. Over decades, that creates economic pressure points Japan didn't face. And then there's the public infrastructure.
Japan used its boom years to build systems that actually function well. reliable public transport, accessible health care, and social services that don't collapse under mild stress. When growth slowed, those systems remained in place.
People could still get to work. They could still see a doctor. They still had institutions they could depend on.
If you run a similar stagnation through countries where the trains barely run, hospitals are overloaded, and basic administration is held together with duct tape, the outcome looks very different. And finally, there's something Japan never had to worry about. The global demand for the US dollar.
For decades, the American consumer has been effectively subsidized by the rest of the world because everyone needs dollars and US assets to trade, borrow, and store wealth. That foreign demand allows the US to run enormous trade deficits without collapsing its currency. In practical terms, it means the US can import far more than it produces because everyone else is willing to hold the IUS.
If that demand ever weakens, the subsidy ends and Americans suddenly pay the cost of what they actually consume. So yeah, when people warn that we don't want to become Japan, what they usually mean is we don't want slow growth. But Japan went through slow growth with high savings, low inequality, employment stability, and functioning public systems.
It wasn't ideal, but it was survivable. If something similar hit America today, we'd be facing it with record debt, low savings, high inequality, fragile public systems, and political institutions that struggle with normal years, let alone a lost decade. Japan had guard rails while we've been quietly removing ours for years.
Which leads to the uncomfortable conclusion. Japan's lost decades, the scenario everyone treats as a nightmare, might actually have been a soft landing. And if that was the soft landing, what does the hard landing look like?
Japan made major investments into public transport, healthcare, and social services, guardrails that the US simply does not have today. If something similar happened in America, the fallout would look very different. Now, is a Japan style stagnation guaranteed?
Maybe not. We've gotten very good at avoiding economic crisis, or at least delaying them. But the more we avoid small downturns, the more pressure we build into the system.
And when you suppress every tiny burn, the whole forest saves its anger for one giant meltdown. If you want to see how we got to a world where recessions barely happen and why that might actually be making everything worse, go watch our video on how we forgotten how to have a healthy recession. And don't forget to like and subscribe to keep on learning how history works.
