Japan’s digital paradox: Why SMEs are the missing link to its next wave of growth

Japan is famous for its bullet trains, robots, and precision manufacturing, but step into many offices and you’ll find paper forms, hanko stamps, and a fax machine. That incongruity points to a larger issue: substantial parts of the Japanese economy—including its critical small- to mid-sized business (SME) sector—have been slow to go digital.

As a net importer of digital services, Japan trails regional peers like Singapore, Taiwan and South Korea on the IMD 2025 Digital Competitiveness Ranking—and the gap is widening. SMEs, meanwhile, employ around 70% of Japan’s workforce but generate less than half of total business revenues, and only about a quarter of profits. Productivity has been stubbornly slow to improve, and rising wages are adding pressure.

We encountered this digital disconnect in our recent research program, conducted in partnership with Google, on SME advertising strategies. Japan is the third-largest advertising market in the world, behind only the US and China, and anchored by large domestic agency groups with global reach (e.g., Dentsu, Hakuhodo). Yet it has a lower share of online ad spend than its peers. Our survey of 1,000 Japanese SMEs shows 52% of SME ad spend is online today, rising from 40% in 2021 and expected to reach 64% in 2028. The upward trend is encouraging, but there is still far to go.

Online advertising gives SMEs access to new domestic and international customers, and survey respondents rate online approaches as more effective than TV, print or other traditional channels across core metrics, including customer acquisition and conversion and ROI.

Compared with other leading markets, Japan has a relatively healthy traditional media landscape driven by the preferences of an ageing population and residual trust in in-person sales and legacy outlets. At the same time, many SMEs struggle to stand out in a crowded online landscape, and more than half find the broad range of available advertising formats and options confusing to navigate.

Japanese SMEs that lead their peers in online adoption spend, on average, 65% of their ad budgets online today. They are more advanced in the use of digital tools and metrics, and are moving faster on AI within their advertising strategy. They also lean more on external support, reporting much more work with external agencies and higher use of influencer marketing.

This matters in macroeconomic terms because SMEs are where Japan’s next growth wave can come from. The country’s working age population is projected to decline by roughly 30% by 2050, posing a significant challenge to expanding the long-somnolent economy. And digital businesses tend to be higher-skilled and higher-margin.

There are encouraging signs as digital‑native entrepreneurs focus on new skills and technologies. Software investment in Japan has risen sharply in the past decade, with small firms in the services sector registering the highest growth rate.  In the AI era SMEs will need to continue this momentum.