Why Japan has managed to avoid fiscal crisis despite highest debt/GDP ratio?

Charles Y. HoriokaTakaaki Nomoto and Akiko Terada-Hagiwara have this nice paper on the topic.

The reason is obvious — much of debt is held internally by domestic investors. Post 2008 crisis foreign holding has increased which kept the boat going. But this cannot go on forever:

In this paper, we present data on trends over time in government debt financing in Japan since 2010 with emphasis on the importance of foreign holders and speculate about the determinants of those trends. We find that Japanese government securities were held primarily by domestic holders until recently because robust domestic saving (combined with strong home bias) made it possible for domestic investors to absorb most of the government debt but that foreign holdings of Japanese government securities have increased sharply in recent years, especially in the case of short-term government securities.

We show that trends in foreign holdings of Japanese government securities can be explained by conventional economic factors such returns and risks and that the recent surge in foreign holdings of short-term Japanese government securities is attributable to foreign investors in search of a safe haven for their funds in the face of the Global Financial Crisis of 2008-09 precipitated by the Lehman crisis. Our analysis suggests that the surge in foreign holdings of Japanese government securities will subside (in fact, it already has), and this, combined with the projected decline in domestic saving (especially household saving) caused by population aging, will create increasing pressures for fiscal adjustment to reduce her massive government debt.

Thus, Japan’s massive government debt has not resulted in high economic costs in the past because of robust domestic saving and a temporary inflow of foreign capital caused by the Global Financial Crisis, but it may have substantial costs in the future as both of these factors become less applicable unless the government debt can be brought under control.

This is the case with India too. Though our debt levels are much lower compared to the western world. Still given India’s massive fiscal mess for many years we have avoided a fiscal crisis as such. The reason is most debt is held by domestic investors…

The Indian govt is now trying to open up its debt market to foreigners as well. If it continues to binge this way, there could be interesting times in future..

One Response to “Why Japan has managed to avoid fiscal crisis despite highest debt/GDP ratio?”

  1. warren mosler Says:

    it’s because it’s just a reserve drain, get over it!

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