Japan flirts with disaster as debt deepens

From The Times November 24, 2009

Japan flirts with disaster as debt deepens

Leo Lewis in Tokyo The Japanese Finance Ministry is planning to float 140,000 billion yen (£950 billion) of “ordinary” government bonds in 2010, an unprecedented issuance of debt that will reignite concerns about the creditworthiness of the world’s second biggest economy.

The government is expected to issue about Y100,000 billion in bonds — to roll over previously issued bonds — an increase of Y10,000 billion over the figure for the present financial year. In addition, the Finance Ministry is preparing to issue more than Y44,000 billion to meet new financing and stimulus needs in an environment in which businesses are failing and tax revenues are dwindling. Government efforts to cap new funding at that level are expected to prove futile.

The debt management panel will meet tomorrow and is expected to discuss the move.

If bond issuance does rise, total issuance planned for next year ultimately could challenge the record Y165,000 billion raised in 2005. The final figure will include an as-yet undecided sum in “zaito” bonds used to finance 23 semi-governmental agencies.

With the country’s ratio of gross debt to GDP hovering above 170 per cent, Japan’s debt position is already viewed by some as the most fragile of all leading economies. A glut of new debt — possibly pushing that ratio to nearly 200 per cent — is likely to play into fears in some quarters of the market that Japan is rumbling towards fiscal implosion.

Japan’s huge ratio of debt to GDP has divided the market into two schools of thought. One side takes an apocalyptic view (and investment stance) that Japan has passed the point where it can marshal its debt without calamity. The population is ageing, fewer Japanese children are being born to support the debt mountain and companies are becoming less competitive against Asian rivals.

The doomsday theory — the reason that some have taken enormous short positions on Japanese government bonds — is that bond yields eventually rise to unsustainable levels and Japan, despite its stability and financial might, skirts closer to sovereign default.

A second view, held by veteran Japan-watchers and domestic economists, is that the red flags waved above bonds are ill-argued and unnecessarily bloodcurdling. The situation is startling — but it is manageable, the veterans say, because the bond market is a relatively closed loop: 96 per cent of them are held by Japanese people, institutions and arms of government.

The Japanese household may be saving less these days, but the entire pool of private sector savings is still, by far, the world’s largest. Critics of the doomsday argument do not dismiss Japan’s fiscal problems — it is undoubtedly an economy with structural problems on a grand scale — but suggest that that it is premature to panic.

The ratio of gross debt to GDP, according to a recent study by the National Bureau of Economic Research, is not a true gauge of fiscal health. When Japan’s net debt to GDP is compared with other leading economies, it is about the same as Italy’s and not alarmingly worse than Britain’s. In terms of debt servicing costs, Japan is in better shape than Britain, America, France and Germany.

Additionally, Jonathan Allum, the KBC strategist, said that the recent rise in Japanese bond yields had been overplayed as a force for evil. Between October 6 and November 6, yields on the ten-year note did move from 1.24 per cent to 1.45 per cent, before giving ground back to 1.3 per cent last week. “But yields were rising globally during that period and the impartial observer will be impressed not by the speed of the rise in yields, by just how low they remain by any historic standards save those of modern Japan,” Mr Allum said.

However, he added: “Another and even larger dog has failed to bark in the fiscal night: if Japan is really teetering on the edge of a financial volcano, why is the yen so strong?”