Japan's Service Sector: A Hidden Engine of Resilience and Opportunity in a Turbulent Trade Climate

Japan's economy has long been synonymous with manufacturing prowess, but 2025 is rewriting the narrative. Amid U.S. tariffs that have rattled export-dependent industries, the service sector—accounting for 71.4% of GDP—has emerged as an unexpected lifeline. This resilience, driven by a tourism boom, strategic policy interventions, and a shift toward domestic demand, is creating fertile ground for undervalued sectors to outperform. For investors, the question is no longer if to bet on Japan, but how to position for its next phase of growth.

The Tourism-Driven Rebound: A New Pillar of Growth

Japan's service sector defied expectations in Q2 2025, expanding by 0.6% as inbound tourism surged to 40 million visitors. A stronger yen (150 yen per dollar as of August 2025) has made Japan a magnet for foreign travelers, while government initiatives like tax-free shopping and regional tourism campaigns have amplified spending. The hospitality and retail sectors, led by firms like ANA Holdings (TYO:9267) and Hoshinoya (TYO:3848), are reaping the rewards.

This rebound isn't just a short-term bounce. Japan is strategically pivoting to regional markets—Southeast Asia, the Middle East, and intra-Asia travel—to offset U.S. tourism declines. Dual pricing for foreign visitors at cultural sites and daily caps at Mount Fuji ensure sustainable growth, preserving Japan's appeal while maximizing economic impact.

Domestic Demand and Policy Tailwinds: The BoJ's Role

The Bank of Japan's cautious rate normalization—raising the short-term rate to 0.5% in July 2025 and targeting 0.75% by year-end—has spurred consumption. Rising wages (up 5% in large enterprises) and a 2.5% unemployment rate have bolstered private spending, which accounts for 60% of GDP. This creates a virtuous cycle: higher wages drive service-sector demand, which in turn supports corporate profits and reinvestment.

Undervalued Sectors: Energy, ICT, and Regional Infrastructure

While tourism steals the spotlight, Japan's underappreciated infrastructure investments are quietly reshaping its economic landscape. Q1 2025 saw capital expenditures rise by 6.4% year-on-year, with energy and ICT sectors surging 33.3% and 25.2%, respectively. Firms like Mori Building and SoftBank Energy are leveraging government subsidies to develop smart infrastructure and energy transition technologies.

The logistics sector is another sleeper. E-commerce growth and supply chain modernization have driven a 19.3% increase in transport and postal services capital spending. Japan's focus on automation and green logistics positions it to outperform in a world grappling with trade disruptions.

Navigating Tariff Pressures: Strategic Adaptation

U.S. tariffs on steel, aluminum, and other goods remain a headwind, but Japan's service sector is proving adaptable. The July 2025 trade deal, which reduced automobile tariffs to 15% in exchange for a $550 billion investment package, has eased some pressures. Meanwhile, the BoJ's rate hikes have strengthened the yen, making Japanese equities more attractive to foreign investors.

Investment Thesis: Where to Position

For investors, the key lies in sectors poised to benefit from Japan's domestic-driven growth and infrastructure push:
1. Tourism-Linked Retail and Hospitality: ANA Holdings and Hoshinoya are direct beneficiaries of the tourism rebound.
2. Energy Transition and Smart Infrastructure: SoftBank Energy and Mori Building are capitalizing on government subsidies and corporate demand.
3. Logistics and E-Commerce Enablers: Firms modernizing supply chains will thrive as global trade volatility persists.

Conclusion: A Strategic Bet on Resilience

Japan's service sector is no longer a passive player in its economy—it's a dynamic force driving growth in a high-uncertainty world. By combining policy tailwinds, domestic demand, and strategic infrastructure investments, Japan is building a model that balances resilience with innovation. For investors, the time to act is now: undervalued sectors like regional infrastructure and energy transition are set to outperform, offering a compelling counterpoint to the volatility of global trade.

In a fragmented global economy, Japan's service sector stands out as a beacon of adaptability—and a goldmine for those who recognize its potential.