Peter Pham

To provide more attractive debt options, the government will have to tolerate more interest liabilities. That means increased loaning to pay for this.
This is a typical perpetual debt trap, a vicious cycle where borrowing to service an ever-growing interest repayment. The more you’re borrowing to pay debts today, the more interest and obligations you’ll have to face tomorrow.
Japan may be a prodigal debt manager for now, but because the structure of its society will not change significantly and its economy is not productive enough, the only viable option is default.
This scenario is what economist claim to be impossible. Unless Japan attempts a leap of fate to ensure economic grow outpaces interest payments, then the die is cast.
Stimulus packages have failed one after another, and Japan must find new ways to swim out of its economic quicksand.
In the next daily, we’ll go through different economic remedies for Japan to escape its debt trap and the outcome of each course of action.

2 thoughts on “Peter Pham

  1. shinichi Post author

    When Will Japan’s Debt Crisis Implode?

    by Peter Pham

    https://www.forbes.com/sites/peterpham/2017/12/11/when-will-japans-debt-crisis-implode/#44ce6b754c6d

    Japan is one of the most developed and most influential countries in the world. However, it is also the most indebted country in the world, carrying a substantial debt roughly 233% of GDP on its shoulders.

    The ‘runner-up’ is Greece with 177%, which is still relatively small in comparison.

    One may expect that Japan, with its eye-watering debt levels, would be an investment “leper,” where foreign direct investment (FDI) would actively avoid this frail and debt-ridden economy.

    We witnessed that since 1997, debt levels grew consistently, GDP growth stagnated and the returns of the 10-year government bonds were negative. Despite of these worrying indicators, Japan continues to be a stable and creditworthy nation that attracts investors.

    How Can Japan Tolerate Its Enormous Debt Level?

    First off, let’s have a look at how Japan got trapped in debt, especially after WW2 when the economy rose to power and prominence.

    Deflation has been Japan’s economic setback since the early 1990s. As we pointed out in previous dailies, the expected asset bubbles that were created after the WW2 had finally burst in 1989, after the increase of inter-bank lending rate from the Bank of Japan.

    Once the stock market crashed and equity prices dropped, banks and insurance companies were left with lots of bad debt.

    The Japanese government and central bank supported these organizations by bailing them out and providing low-interest credit. Thus, these firms have to rely on support. But this eventually became unsustainable, so banking institutions had to be consolidated and nationalized.

    Throughout many years, other fiscal stimulus initiatives were also used to help reboot the stumbling economy. Because of these government-approved actions, Japan’s debt level skyrocketed to become the highest in the world.

    But all is not lost.

    Many other countries, including Greece, owe mostly to foreign creditors. However, most of Japan’s debt (including government bond liabilities) are held by its own citizen, so the risk of defaulting is much lower.

    Japan is still well-off because it can adjust interest rates at low levels so that repayment values stay low relative to the overall debt level.

    Japan is unlikely going to default anytime soon, but what will happen in case its debt interest rate starts to peak?

    Japan in Debt and Danger

    Japan currently has such a high level of debt that it’s doubtful the country can ever repay the full amount.

    To know more about the complexity and seriousness of Japan’s debt predicament, we have to understand how the government pays for its commitments and public services annually.

    In all economies, governments fund public services by levying tax to its citizens.

    If total tax revenue exceeds public services costs, then there is a fund surplus. However, if the total amount of tax is less than government spending requirements, then is a fund deficit, and the government has to figure out how to cover this loss by borrowing.

    To make up for this deficit, governments issue bonds, or IOUs, and sell them to investors along with paying interest.

    If the level of debt is small relative to tax revenues, the interest payment has a small value. But once the government borrows a higher amount, national debt level increases, and thus investors become more concerned over the risk of default.

    The higher the risk of default, the higher the bond interest rate – the additional amount that covers the added risk for investors.

    To lower the burden of debt, Japan’s central bank reduces the interest rate and purchases government bonds to supply the financial system with more cash. Theoretically, this artificially minimizes the total interest repayment.

    Because the Japanese government’s debt is so high, the interest expense can easily be affected by rate increases. In fact, Japan’s debt was 15 times higher than the tax revenue collected by the government in the end of 2016.

    Based on this trend, we can figure out when the government will not have enough tax revenue to cover interest payments.

    You can see this trend using the graph below:



    By 2041, assuming tax revenue remains constant and there won’t be any economic shocks, Japan’s interest repayments will exceed tax income. Note that we also assume interest rate to stay at 1.1%, because if this figure increases then the government will default more quickly.

    An Economic Pandemic

    As we stated above, Japan is still on the high ground because the government can sell most of its debts to its citizens, which is known as domestically held debt. Deflation (decreasing prices of goods and services) that occurs for long periods of time make government debt and other low yielding assets much more attractive.

    For example, if the price of goods drops by 1% while government bond yields 1%, then the overall return would be 2%. Japanese investors are currently satisfied with these returns, but the country has to increase national savings so that domestic purchasers continue to buy new government debt.

    Yet Japan’s population is shrinking and aging, so it’s highly doubtful that the country can increase national savings to a point where purchasing government bonds is sustainable. And because Japan is a net importer of goods, the only way to reduce debt is by having foreign investors.

    Who will cover the cost?

    So far, this strategy has been successful. The world today is in an odd place, as many developed markets have all-time low interest rates. Investors are playing safe by trying to reduce losses on fixed income assets. That means for now, Japanese government bonds don’t seem that bad.

    The second highest levels of Japanese debt are held by the U.S. The upside of this is to reclaim financial leverage and have some autonomy over Japan (the largest holder of U.S. debt), while optimizing the exchange rate between the Yen and Dollar. Another important reason to hold Japanese debt is to weaken the Chinese stronghold that is casting its shadow over Yen-denominated debt.

    To ensure that Japan’s interest payments and spending obligations will not be defaulted, the government has to make sure foreigners are buying its debt.

    Nowadays, buyers should be supporting debt auctions. But in the future, continual reduction of interest rates and satisfying foreign investors can raise debt servicing costs to unreachable levels.

    Therefore, the only option to gain more foreign investors is to have higher yielding debt options. From the graph below, you can see that Asia is buying more Japanese debt. This is mainly because China is diversifying, by exposing more into Japan while relying less on Europe and the U.S.



    Window Guidance Nullifies Asian Capital Development

    Alternatively, Japan can increase economic growth to outpace its growing debt burden. But for this method to work, it has to enhance industries that provide the highest tax incomes.

    A proven method to achieve this is the Asian Capital Development (ACD) model, which brought much success after WW2. However, subsidization and window guidance require so much funding that the country may have to increase borrowing (which is detrimental if the country is head over heels with debt!).

    Watch out!!!

    To provide more attractive debt options, the government will have to tolerate more interest liabilities. That means increased loaning to pay for this.

    This is a typical perpetual debt trap, a vicious cycle where borrowing to service an ever-growing interest repayment. The more you’re borrowing to pay debts today, the more interest and obligations you’ll have to face tomorrow.

    Japan may be a prodigal debt manager for now, but because the structure of its society will not change significantly and its economy is not productive enough, the only viable option is default.

    This scenario is what economist claim to be impossible. Unless Japan attempts a leap of fate to ensure economic grow outpaces interest payments, then the die is cast.

    Stimulus packages have failed one after another, and Japan must find new ways to swim out of its economic quicksand.

    In the next daily, we’ll go through different economic remedies for Japan to escape its debt trap and the outcome of each course of action.

    Reply
  2. shinichi Post author

    (Google Translate)

    より魅力的な債務オプションを提供するために、政府はより多くの金利負債を許容する必要があります。これは、これを支払うためにローンを増やすことを意味します。
    これは、典型的な永久債務トラップであり、借金が増え続ける利子返済を処理する悪循環です。今日、借金を返済するために借りている額が多いほど、明日、直面する必要のある関心と義務も大きくなります。
    今のところ日本は途方もない債務管理者かもしれませんが、その社会の構造は大きく変化せず、その経済は十分に生産的ではないため、実行可能な唯一の選択肢はデフォルトです。
    このシナリオは、経済学者が不可能だと主張するものです。日本が経済成長が利子の支払いを上回ることを保証するために運命の飛躍を試みない限り、ダイは投げられます。
    刺激策は次々に失敗し、日本は経済の流砂から抜け出すための新しい方法を見つけなければなりません。
    翌日には、日本が債務の罠と各行動方針の結果を回避するために、さまざまな経済的救済策を講じます。

    Reply

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