If you want to see the future of the advanced economies, Japan might be a good place to start. Despite full employment, Japan is showing muted wage pressures, minimal GDP growth, low interest rates and continued high government deficits. How do these seemingly contradictory elements fit together? Are they unique to Japan, or symptoms of a more general malaise?

In Japan, demographics are largely responsible. The country is facing an unprecedented meltdown in population. After peaking in 2010 at 128 million, the country’s population has eased back to 126 million and will continue to decline. Its population is set to shrink by 0.4 percent annually, with the decrease expected to accelerate to 1.0 percent annually by the 2040s. By 2050, Japan will have 23 percent fewer citizens. Not since the great plagues of the Middle Ages have we seen population collapse of this magnitude. Nor does it stop in mid-century. Demographers see current trends persisting to the end of the century, when Japan’s population falls to fifty million, only 40 percent of its all time high.

In the medium term, not all age cohorts are similarly affected. Japan’s sixty-five-plus age group continues to increase, but interestingly, is already almost at steady state. (The seventy-five-plus age group continues to grow until the late 2020s.) Most affected are the fourteen-and-under and the 15–65 age groups, the latter here being treated as the potential labor force. From 2017 to 2050, the fourteen-and-under age cohort is forecast to fall by nearly 40 percent. The workforce (15–65) falls by 34 percent in the same period. Thus, not only is Japan’s population declining, its workforce is declining much faster than the population as a whole.

The loss of workers constrains GDP growth. In essence, the loss of workers offsets productivity gains, such that Japan’s GDP in 2050 will be not materially higher than it is today. Importantly, worker productivity gains are expected to continue at a reasonable pace, about 1.4 percent per year. The average Japanese worker continues to improve his productivity. That’s not the problem. Nevertheless, the number of workers declines by 1.2 percent on average during the forecast period, with greater declines closer to 2050. Working smarter is negated by fewer people working. That’s the problem.

Thus, we should expect GDP in Japan in the coming decades to be stagnant, with periods of gains alternating with periods of retrenchment, and no visible trend in either direction—much as we have seen for the last fifteen years or so. Importantly, a decline in Japan’s GDP cannot be unambiguously interpreted as a cyclical downturn. It is as likely to be a function of demographics. The key number to watch will be GDP / worker, which will tell us more about the health of the Japanese economy than will GDP in aggregate.

Japan does have certain hidden reserves. For example, an increase in senior employment, already high in Japan, would represent a modest hidden reserve of GDP growth. The employment-to-population ratio could also move up a bit, although this too is fairly high by OECD standards. Both these factors might make GDP growth a bit better than forecast, but probably not by much.

Demographics are also a key driver of the national budget. Japan has run hefty national budget deficits for the last quarter century. The country’s working age population peaked in the late 1990s, and has been falling since. With a decline in its workforce, Japan’s GDP growth also declined, and this appears in turn to have led to lower domestic interest rates. At the same time, Japan’s elderly population has been soaring. Given fewer workers, more retirees and lower interest rates, the Japanese government decided to load up on debt as the path of least resistance. This is no surprise given the politics of the advanced democracies.

Japan started to run sizeable deficits in 1995, and does to this day. These cumulated into a national debt exceeding 200 percent of GDP, which will continue to grow until peaking at 225 percent of GDP around 2025 in most the scenarios we examined. To put this in context, the IMF historically considered a debt / GDP ratio of 60 percent to represent the maximum prudent level. Japan blew through this limit twenty years ago and continues to be able to operate. But for how long?

Without the prospect of meaningful GDP growth, Japan cannot count on continued expansion of the economy to fund a reduction in either absolute or relative debt levels.

Our analysis suggests that Japan may nevertheless be able to thread the needle. If real spending per dependent can be held flat in real terms, workers accept ongoing tax rate increases, and no internal or external shocks hit the economy, Japan can muddle through. This would stabilize debt / GDP above 200 percent, but not much less than that.

Neither taxpayers nor spending beneficiaries may be happy with this outcome—or almost any set of policies the Japanese government could conjure. In the scenario above, real taxes per taxpayer would rise by 80 percent over the forecast horizon in an economy not growing at all in aggregate. In addition, the government would have to hold real spending per beneficiary effectively flat for thirty-five years—and longer, if over-the-horizon projections were to be included. Will Japanese taxpayers, who are already heavily taxed, accept another 15 percent rise in tax rates? And will beneficiaries accept no real increase in benefits for decades? Will the internal stresses on Japan’s citizens prove manageable, not only for a year or two, but for generations to come?

Moreover, because the workforce is declining, government debt-per-worker will continue to rise in constant dollars over the forecast horizon, from the equivalent of $50,000 in 2000, to $128,000 this year, and rising to $208,000 in 2050, all in a stagnant economy. For purposes of comparison, the equivalent in the United States today is about $75,000 federal government debt / person of working age. Additionally, the United States has higher per capita GDP than Japan.

Even in the best case scenario, Tokyo will require extraordinary and enduring forbearance from the population. Neither taxpayers nor spending beneficiaries can revolt if the government is to remain fiscally viable.

It is easier to foresee it all going bad.

Any portion of society—either the “makers” or the “takers”—may find the necessary social compact unacceptable, and may turn to a populist leadership offering easy solutions like debt default, money printing, or any variety of destructive policies which look appealing on the surface, but are counterproductive in practice. Raising tariffs would be an example.

Further, Japan’s economy will be vulnerable to external shocks and global credit conditions. Japan may find it increasingly difficult to respond to global recessions, major weather events, earthquakes and any rise in global interest rates. A one percentage point rise in interest rates would imply an increase in Japan’s government outlays of 2 percent of GDP (if all debt were refinanced promptly). Without economic growth as a cushion, the adjustment would have to come in short order from increased taxes or reduced spending.

Japan could also prove vulnerable to international meddling. Even the cost of a small war could prove too much, and domestic constituents could prove amenable to the blandishments of populists backed by foreign powers trying to destabilize Japanese democracy.

On the other hand, not all trends are negative. Unemployment should be minimal throughout the period, and wage gains should be solid. Real estate should be falling in value year after year, increasing the purchasing power of those with jobs. Moreover, older societies—and by 2050, the average Japanese will be well over fifty years of age—are less amenable to revolutionary promises. The fervor of impressionable, unemployed youth will be lacking, and this may stabilize Japan’s society and protect it from various forms of domestic extremism and foreign meddling.

At a guess, Japan will go down in a Chinese financial crash sometime before 2025. China’s debt situation is hardly more enviable than Japan’s, and a corrective meltdown is likely sooner or later. Japan could easily end up as collateral damage in such a crisis, as banks and investors withdraw from Asia more broadly, much as they did in 1998.

The implications for the United States are myriad.

Over time, Japan’s internal politics may become unstable and more populist. In addition, Tokyo may find itself trying to maneuver through another fiscal crisis. And in all certainty, Japan will have fewer resources, both in men and money, to devote to its defense. In all these cases, Tokyo will be less willing or able to contribute to collective defense with Washington, and may as likely require active U.S. support to right its fiscal ship.

Nor is Japan the only country with unfavorable demographics. Japan’s fertility rate, at 1.4 children per woman, is only slightly below the OECD average of 1.5. Japan’s problems are unique in their timing and magnitude, in substantial part due to Japan’s reluctance to allow in immigrants. Most OECD countries, however, are unable to replace their own populations. South Korea is even worse than Japan, and Germany is no better. Japan is the canary in the advanced economies’ coal mine. The difference is simply a matter of time.