Dai Erbiao (Deputy Director of the Japan Asian Growth Research Institute, Professor)
html At 1:54 and 1:55 pm on June 15, a large number of selling orders suddenly appeared in the Japanese Government Bond (JGB) futures market, because the price decline had the tendency to exceed the limit. The transaction is automatically circuit breaker twice. This rare event once again caused investors at home and abroad to pay close attention to the prospects of Japanese government bonds.As we all know, after 2012, Japan implemented Abenomics , implemented economic policies led by "bold financial easing", introduced zero interest rates, and issued tens of trillions of yen in huge government bonds every year. In 2021, Japan's total national debt has increased from 708 trillion yen in 2012 to 1,000 trillion yen (about 8 trillion US dollars), and the ratio of total debt (including local government debt) to Japan's GDP has also increased from 195 in 2012. % rose to 255%. This ratio ranks first among developed countries, much higher than Italy (155%), which ranked second in 2021, and the United States (133%), which ranked third. For this reason, in recent years, there have been constant warnings at home and abroad such as "Japan's national debt is about to plummet" and "Japan's finance is facing collapse", and short investment institutions in the financial market have also been eyeing it.
However, despite these "crying wolf" warnings over the years, Japanese government bond issuance has grown larger and larger, and the price collapse that people feared (or expected) has not really happened. In fact, as the accompanying chart shows, from 2012 to 2019, the price of the iconic Japanese government bond futures (the price of the 10-year government bond assuming a 6% interest rate is set at 100 yen) has been trending upward. After 2020, although the price of Japanese government bond futures has fallen from the peak of 155 yen, its recent lowest price (145.58 yen on June 15, 2022) is still higher than the 2012 price (see attached chart).
Why hasn’t Japan’s government bonds, which have been issued in huge amounts, plummeted over the years? There are roughly the following reasons.
First of all, Japan is the world's largest creditor country, and the amount of external claims is much higher than the amount of external debt. Its current balance of payments (mainly composed of two major parts: foreign trade balance and income balance) maintains a surplus every year (approximately US$150 billion in 2021), and its foreign exchange reserves are sufficient (second in the world).
Secondly, among the holders of Japanese government bonds (long-term), the proportion held by overseas investors is only about 8%. Even including treasury short-term securities, the proportion of overseas holdings of Japanese government bonds is only about 12% (in 2021). In other words, unlike the treasury bonds of many countries, about 90% of the holders of Japanese treasury bonds are domestic institutions and individuals in Japan, which is basically a domestic debt.
Again, the Bank of Japan (Japan's central bank ) can purchase Japanese government bonds, and this system is legally guaranteed. If the price of government bonds falls or interest rates rise too fast, the Bank of Japan will not hesitate to enter the market to take orders and stabilize prices. For short-selling institutions to short Japanese government bonds, it means a direct confrontation with the central bank of the third largest economic power, which requires great courage.
Finally, when encountering major difficulties, members of Japanese society are highly united. If the price of government bonds falls, Japanese domestic institutions and individuals usually will not follow the selling and add fuel to the fire, and will help the national team (the Bank of Japan) maintain prices.
Although the above factors support Japanese government bonds, it should also be noted that the risk of falling prices of Japanese government bonds is indeed increasing. The following three major trends have and will continue to have an important impact on Japanese government bond prices in the future.
In the past 10 years, Japan's foreign trade balance has been profitable in three years and in the red in seven years. It is no longer the stable trading power it once was. Especially in the past three years, continuous deficits, the conflict between Russia and Ukraine, and sanctions against Russia by Western countries have led to a sharp rise in energy prices, which has made Japan, a major resource importer, even worse. The deterioration of the trade balance has led to a decrease in foreign exchange earnings, which will inevitably have an impact on investment and revenue reductions ( foreign direct investment , securities investment income and expenses), thereby gradually weakening Japan's current balance of payments (foreign trade balance and the sum of income and expenditure) status as a black-letter country and the trust of domestic and foreign investors in Japanese government bonds.
Japan is the most aging country in the world. The pension insurance, health insurance , and nursing care insurance systems, which are mainly maintained by public finances, have brought a huge burden to Japan's finances (accounting for about 40% of the total annual government fiscal expenditures). .The acceleration of the declining birthrate and aging population and the continuation of the economic downturn will lead to a long-term situation in which Japan's fiscal revenue cannot make ends meet. As a result, the scale of Japanese government bond issuance is getting larger and larger, the purchasing power of domestic institutions and individuals tends to decrease, and the Bank of Japan’s government bond holding ratio is increasing day by day (currently over 40%). The ever-growing huge national debt interest burden will definitely affect the Bank of Japan's operating conditions and market intervention capabilities.
In recent years, major events affecting the world economy have continued, such as the global new crown epidemic, the disruption and adjustment of the global production chain, and the Russia-Ukraine conflict. The superposition of various reasons has led to significant price increases in various countries. In order to curb the rise in prices, after March this year, many European and American countries, led by the United States, adjusted their financial policies and entered the channel of raising interest rates. In contrast, based on the ironclad market rule that long-term interest rates and government bond prices are negatively correlated, in order to maintain the stability of government bond prices and reduce the interest burden on government bonds, it is difficult for the Bank of Japan to abandon the current ultra-low interest rate loose financial policy. As a result, the long-term interest rate differential between Japan and the United States and Europe has expanded significantly, the Japanese yen's exchange rate against major currencies such as the U.S. dollar has fallen sharply, and the actual purchasing power of the Japanese yen has fallen to the level of the 1970s. The depreciation of the yen has led to a sharp rise in domestic prices and dissatisfaction among citizens in Japan, a major import country. Should the priority be given to maintaining national bond prices and the macroeconomy, or focusing on national life? The Bank of Japan faces the greatest pressure in 10 years and is in a dilemma.
It is under the influence of the above trends that the price of Japanese government bonds has fallen significantly after 2020 (especially in recent months). In view of the fact that the Bank of Japan may adjust financial policies due to pressure from public opinion at the Japanese financial policy meeting on June 17 (once every January), short investment institutions stepped up exploratory selling before the meeting. In the two days between June 14 and 15 alone, the price of Japan's 10-year government bonds (September futures) fell by 2.92 yen (to 145.58 yen). On the 15th, the circuit breaker event mentioned at the beginning also occurred. However, at the just-concluded Japan Financial Policy Meeting (17th), the Bank of Japan once again decided to maintain the current loose financial policy. The price of Japan’s 10-year government bonds has risen to 147.5 yen, and long-term interest rates have also fallen back to the 0.25 that the Bank of Japan expected (to stick to). %under.
From the above analysis, it can be seen that the possibility of a sharp decline in Japanese government bonds in the next few years is very small. However, due to the existence and increase of related risks, the Japanese government bond market will experience large price fluctuations more frequently than in the past. The wolf (plunge) may not come, but the waves will definitely become more frequent and rapid.
Attached picture: Japanese government bond futures price trend
Source: The author based on JPX (Japan Exchange Group) Japanese government bond futures trading statistics.
For more content, please download 21 Finance APP
