When will Japan Face the Music?

August 25th, 2011
in Op Ed

japan-30-year-bond by Dirk Ehnts

It is very interesting how the press displays the recent downgrade of Japanese sovereign debt by Moody's. Historically, the bond yield of Japanese sovereign bonds has been quite low, which is not surprising when having in mind that a) Japan is in a liquidity trap since 1991 and has an interest rate close to zero b) the currency (Yen) is under pressure to appreciate and c) 95% of bondholders are domestic.

Follow up:

A sober assessment comes from the Financial Times:

The International Monetary Fund estimates the country’s gross debt will be equivalent to 233 per cent of the size of the economy this year. This will be exacerbated in the coming years by the government’s expectations for annual budget deficits of at least 7 per cent through 2015, which Moody’s points out exceeds nominal growth rates.

Moody’s move is unlikely to affect the bond market as domestic investors hold 95 per cent of Japanese government bonds, and are well aware of the country’s fiscal situation. The JGB market showed little reaction earlier this year when S&P downgraded the country’s credit rating.

Now here is the conclusion the German weekly SPIEGEL comes to, on the same topic:

Die Absenkung der Bonität erhöht den Druck auf Japans Politik, die desolaten öffentlichen Finanzen zu sanieren.

So, the downgrade puts pressure on Japanese policy makers to reform the public finances, which are in a desolate state. Interesting. Japanese interest rates have been low for two decades now, while public debt is growing. Paul Krugman has a post on the 2002 downgrade, which downgrade changed - nothing.

The Japanese economy is in a difficult situation since 1991, and pointing out that its public finances are in disorder is a ridiculous thing to do. The country has unsolved problems, and one of the symptons is ever-increasing public debt. Richard Koo thinks that this is the best you can do given the circumstances. Another sympton is the yen's tendency to appreciate, given that the country is a net exporter. The macroeconomic situation is difficult to understand, and much has been written about it. Fighting just one sympton of the economic malaise will surely not return the Japanese economy towards healthy growth. At the SPIEGEL, ideology stands in the way of reporting the facts as they are. However, their recent issue indicates that there might be a change in paradigma coming up.

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Sovereign Bonds: Japan vs. Italy by Dirk Ehnts (Analysis Blog)

About the Author

Dr. Dirk Ehnts is a research assistant at the Carl-von-Ossietzky University of Oldenburg (Germany). His focus is on economic integration and economic geography, covering trade, macro and development. He is working at the chair for international economics since 2006 and has recently co-authored a book on Innovation and International Economic Relations (in German). Ehnts has written at his own blog since 2007: Econblog 101. Curriculum Vitae.

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