Update: I recall Kyle Bass’s words: “Japan spends 50% of its tax revenues today on debt service today, of which half is interest… if interest rates move… 2%, their debt service will exceed their revenue.”

Prof. Lenz writes that there’s really nothing to worry about:

Japan Times reports that the sum of central and local government debt in Japan will reach 195% of GDP in 2012. Asahi Shimbun leads today with an article about the next fiscal year budget, which will depend to 49% on new debt.

That sounds all very scary, until you realize that only about 5% of that debt is in foreign hands.

I fail to see why this is supposed to be reassuring.

95% is owned by Japanese.

So far. But what happens when the Japanese government needs to sell even greater amounts of debt? And they will have to, to pay for the largest budget since WWII. Will the domestic banks still continue to be willing buyers? Even under pressure? According to Mish, there have been fewer eager purchases of recent Japanese government debt auctions. If the Japanese banks and private investors will not step up to the plate in sufficient numbers in future, Japan will have to attract foreign buyers. Will they step up? What if they don’t, at least at present rates?

That of course means that while each citizen’s share of the debt is on average 5.54 million yen in 2012 Japan Times number, each citizen’s share of bond holding is over 5 million yen on average.

I admit it, I’m an economic ignoramus. Please explain how this works. I own no government bonds. Will I still get a share? Does this mitigate my debt burden? I didn’t ask for this debt burden, why am I saddled with it? How will I repay it? Please explain how this is different from indentured servitude.

If those bonds decline in value, that will only be the equivalent of an automatic increase in taxes.

And that’s ok, because… ?

And right now, all this means is a redistribution of tax burdens. Those with more than average holdings in bonds pay less to the government than they would in a system without public debt.

Update December 28: Paul Krugman, who actually knows something about these things, makes a similar point here.

via Japanese government debt | Lenz Blog.

I read the Krugman article, and I failed to understand it. There seem to me to be some important questions that Krugman does not address. E.g.:

    1. The debt, i.e. the yield on the bonds will be paid for… how? Does the bond yield not depend on economic growth? What if that growth is less than expected? Speaking of which, please read

      Japan Industrial Production Declines 2.6%, 3rd Quarter Capital Spending Drops 9.8%, Corporate Sentiment Drops to Minus 4; Powder Keg Waiting for a Spark

    2. Specifically, “
      • Factory output fell 2.6 percent from October
      • Exports fell for the second straight month
      • Capital spending in the third quarter dropped 9.8 percent
      • The Bank of Japan Tankan quarterly index of corporate sentiment fell to minus 4 this month. A negative figure indicates that pessimists outnumber optimists
    3. and “Japan’s problems don’t stop there. Europe is Japan’s third largest export market, and Europe is a basket case.
    4. Mish quotes Pater Tenebrarum who seems to make some important points:
      1. “Government spending does not ‘spur growth’. If it did, Japan would have been the world’s growth engine for the past two decades.
      2. “Like its counterparts in Europe, Japan’s government tries to get its house in order not by reducing spending – apparently a completely taboo subject in Japan – but by raising taxes. This will predictably – just as it does in Europe – double the burden on the economy.
      3. “Moreover, there may be no more time to take effective countermeasures against the growing debt load: the death spiral may well begin before such measures can be implemented and take effect.
      4. “Not only is Japan’s debt-to-GDP ratio uncomfortably high, its tax revenues continue to decline precipitously as a percentage of government spending. (see Mish’s blog for the chart)
      5. “Right now, Japan’s interest rates remain among the very lowest in the world. And yet, in spite of near record low interest rates, the percentage of tax revenue the government must spend on interest expenses is increasing fast.
      6. “The ‘dreadful dream’ that keeps Japanese finance ministers awake at night is that interest rates may one day rise
      7. “So far, Japan’s debt load has escaped the scrutiny of investors due to a peculiar quirk: its bonds are primarily held by domestic investors, many of whom are subject to ‘financial repression’ on account of regulations
    5. Not sure exactly what Tenebrarum means by “financial repression”, but perhaps he is referring to the fact that some banks/pension funds are obliged (legally? via certain kinds of “pressures”?) to purchase certain quantities of Japanese government bonds. Naturally, foreign purchases of Japanese public debt could not be so obliged and might not prove so co-operative as the domestic purchasers have been.
    6. Tenebrarum continues:
      1. Japan’s biggest pension fund (Japanese Government Pension Investment Fund) has become an involuntary net seller of JGB’s  – as the ratio of retirees to the working population has passed the threshold where it has to pay out more than it receives in revenue. It is worth remembering, perhaps, that pension funds do not store YOUR payments in YOUR account for YOU to draw from when you retire. Now the GPIF is selling bonds to pay new retirees. New contributors contribute to someone else’s pension payments, not their own. The question is, will there be any money left in the kitty by the time YOU retire?
      2. “the country’s aging population has been running down its savings quite quickly in recent years – soon the personal savings rate will turn negative.

Tenebrarum’s article taught me something new: I’d never properly understood why the Japanese yen is “strong”: “Although it has implemented ‘ZIRP’ (zero interest rate policy), the money supply has been growing only very slowly, keeping the yen strong and leading to only slight increases and in some years even slight declines in consumer prices (this condition is of course a far cry from the country being ‘mired in deflation’  as the financial media regularly assert). The big question is for how much longer this relatively tight monetary policy stance can be kept up

  1. This doesn’t seem to me to bode well. Krugman is not convincing: where is the economic growth that will produce the government revenues, either from taxes or other forms of income to pay the bond yields? The whole exercise seems very like what Mish and others call “kicking the can”, i.e. postponing the hard decisions (such as seriously cutting government expenditure) for later generations to deal with.
  2. Mish makes this additional point that, so far, the Finance Ministry and Bank of Japan have not greatly inflated the money supply, unlike the Fed, but “The pertinent point is not the sorry state of affairs including a debt-to-GDP ratio of 220%, but rather when it matters. So far Japan has avoided printing on the scale of the Bernanke Fed, but one has to wonder how long that can continue in spite of Japan’s dire worst in the industrialized-world demographics.
  3. In another, earlier, post, Mish writes, “Japan ought to be financing its debt for as long as possible, as cheap as it can, while it still can. Instead, the bulk of it is 5-year duration or less, with next to nothing at the extreme long end. Ability to roll this debt over at perpetually low rates is going to be a problem sooner or later, and I think sooner, rather than later.

All of the above points are not addressed by either Lenz or Krugman in their respective articles, yet surely they need to be addressed in detail. Are these not legitimate concerns? And this is not even touching on the whole larger matter of government deficit spending and its long-term sustainability, a matter which is discussed in details in a work of fiction which I started reading recently: The Way to Freedom Part 1, and Part 2. The story points out that inflation of the money supply is only possible because there is no gold standard anywhere in the world, and the governments of every major industrialized nation have passed legal tender laws which grant the government a monopoly on money and enable it to tax its citizenry invisibly.

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