I often get confused about Japan. On the one hand, it is considered a rich country. On the other, I read its public debt is twice its gross domestic product - the second highest in the world, after Zimbabwe.
THE question seeks an explanation of why a rich country such as Japan exhibits a high level of public debt. A simple explanation is that there is no causal relationship between the income level of a country and its government debt levels in relation to GDP. Neither economic theory, nor empirical observations support the existence of such a relationship.
Japan is indeed a rich country, whether measured in terms of GDP - US$5.6 trillion (S$7 trillion) last year, the third largest globally; its knowledge base; its domestic and foreign production capacities, which are vital for global value chains, particularly in the electronics industry; or in terms of large foreign exchange reserves (US$1 trillion last year).
Two questions arise: First, why does Japan exhibit large public debt? Second, despite high fiscal deficits (averaging 6.6 per cent of GDP between 2005 and last year), and large gross public debt (227 per cent of GDP last year) why has it not experienced a debt crisis of the type some euro zone countries have?
The public debt of Japan is reported on gross and net basis. The latter is defined as gross debt minus all the financial assets of the central and local governments, and of social security funds. As these assets are substantial, Japan's net debt at 121 per cent of GDP last year is significantly lower than the gross debt.
To answer the first question, for more than two decades, since the bursting of Japan's property and stock market bubbles in the late 1980s, the country has pursued expansionary monetary and fiscal policies. This has led to the high level of public debt currently exhibited, but the foundation on which Japan's status as a rich country is based has remained strong. This is an important factor in contributing to Japan's resilience.
Several additional factors have contributed to the relatively smooth financing of Japan's fiscal deficits, and helped in its debt management.
The Japanese Government Bonds (JGBs) are denominated in yen and only around 6 per cent are held by foreign entities. Large and stable institutional investors - including the Japan Post Bank and the Government Pension Fund - own nearly half of the public debt. In addition, the Bank of Japan holds nearly one-tenth of the debt, and plays an accommodative role. Such ownership structure has led to greater flexibility and stability in debt management.
Relatively large, though fluctuating, savings flows from the corporate sector have partly compensated for declining household savings as avenues for purchasing the JGBs. Finally, the declining role of the Fiscal Investment and Loan Programme, which finances government capital expenditure, has created fiscal space for other government debt. This has significantly cushioned the impact of continuing high fiscal deficits on the debt levels.
The relatively benign environment for managing Japan's public debt is however not likely to be sustained in the future. Moody's has lowered Japan's debt rating outlook to negative from stable. Additional fiscal expenditure needed to address relief and reconstruction as a result of the recent earthquake and tsunami will accentuate concerns about Japan's fiscal management.
So initiating a credible fiscal consolidation plan within the next two years has become an urgent political and economic priority for Japan.
By Mukul Asher
From the Straits Times
The writer is professor of public policy at the Lee Kuan Yew School of Public Policy.
