Germany Surpasses Japan At #3 Nominal GDP Spot

Does It Mean Anything?

Source: https://databank.worldbank.org/source/world-development-indicators for nominal GDP; https://fredhelp.stlouisfed.org for Euro/Yen rate

It made headlines when Japan fell behind Germany’s nominal GDP as measured in dollars. Does it mean anything more than when your odometer hits 100,000 or when you take pride in your team winning the Super Bowl? For the most part, no. But a little bit yes.

For the most part, the reversal of rank in GDP is simply an artifact of the 40% fall of the yen vis-à-vis the Euro from 2012-2024. When the yen was pushed way down in 2012-14 as part of Abenomics, Japan’s nominal GDP—when converted to dollars—also plunged, and by 20%: from $6.2 trillion to $4.9 trillion. Of course, no such Depression-level plunge occurred in real GDP. Moreover, as we can see in the top chart, the ratio between the euro and yen has been on a roller coaster. When the yen weakens (a smaller number on the right-hand scale), Japan’s nominal GDP falls relative to Germany’s—as measured in dollars. When the yen recovers, as in 2014-2016, Japan’s nominal GDP in dollars goes back up. There is an extremely high 90% correlation between the ups and downs of the euro/yen ratio and the ups and downs of the ratio between German and Japanese GDP. It has little or no significance for people’s living standards, Japan’s real output, or its clout in world affairs.

Fortunately, there is a measure that compares GDP in a way that eliminates the misimpressions created by currency gyrations. The technical term is Purchasing Power Parity (PPP). During the high-growth era, and beyond, Japan’s real GDP was growing faster than Germany’s and peaked at 140% of Germany’s GDP. Then, it fell back and, as of 2028, is predicted by the IMF to be down to just 113% of German GDP (see chart below).

Source: IMF at http://tinyurl.com/5f2nua4e

GDP is a product of how big a country’s workforce is and how much each worker can produce in a year. The size of the workforce, in turn, depends on the size of the overall population. Back in the late 1980s, Japan’s population was 60% higher than Germany’s. Now it’s just 45% higher. So, a significant chunk of the reason Japan grew more slowly than Germany is simply the movements in population, rather than poor performance (see chart below).

To get a solid comparison of economic might and living standards, the best measure to start with is real per capita GDP measured in PPP dollars. From the postwar high growth era to 1996, Japan was steadily catching up to Germany by this measure. In 1996, Japan peaked out at 89% of Germany’s real per capita GDP. Since then, it has fallen back and, by 2028, is predicted by the IMF to be down to 78%, a level it first reached in the 1980s (see chart below). Finally, we’ve arrived at a meaningful measure.

Countries care not just about living standards, but also their weight in world affairs and their security. Certainly, a country’s population and total real GDP are factors in these matters, particularly when one compares countries as far apart as China and Japan. But such size is only one influence, as seen when we compare China to the US.

There is one way in which the nominal GDP comparison reflects something meaningful. As stated above, the reason Japan has dropped behind Germany is the weakening of the yen. That weakening, in turn, reflects not just short-term financial factors, like interest rates, but the fundamental deterioration of Japan’s competitiveness. So, the while ranking of Japan and Germany in nominal GDP is no big deal, the weak yen that produced this outcome is a big deal indeed.