BMI View: The Japanese Cabinet recently approved a supplementary budget worth JPY13.1trn, consisting of public works and other social-security related spending. The increasing need for more bond sales, as demand from the private sector is likely to decline with the greying population, will likely put upside pressure on bond yields. With few effective tax and pension reforms in the works, investor confidence could be eroded and further stimulus from here is likely to hasten the arrival of a fiscal crisis in Japan.
Prime Minister Shinzo Abe's new cabinet has unveiled a supplementary budget consisting of JPY13.1trn in government spending, which is reportedly worth JPY20.2trn after accounting for local government and private sector participation. This comes close to the previous supplementary budget of JPY13.9trn, which was implemented at the wake of the global financial crisis in early 2009. The government expects the latest package to lift GDP by 2% and create around 600,000 new jobs. However, we believe that similar to past stimulus measures, the additional fiscal spending will not cause a permanent rise of economic activity, but rather leave the country on the road to a fiscal crisis.
|Determined To Make An Impact In A Broad Range Of Sectors|
|Japan - Breakdown Of Supplementary Budget Allocation (% of Total)|
Expenditures To Soar With More Public Works And Subsidies
Aside from a contribution of JPY2.8trn to the national pension fund, the rest of the JPY10.3trn in the government's latest supplementary budget is targeted at reviving demand in various sectors of the economy. The plan sets aside JPY3.1trn for healthcare, education and other social security-related spending, and a similar amount to aid biotechnology research and investment into energy-saving and renewable energy equipment. The remaining funds are slated for reconstruction efforts in the Tohoku region and other public works such as the repair of aging tunnels and roads (spurred by the collapse of the Sasago Tunnel).
|Growth Of Government Debt To Spike In 2013|
|Japan - Total Government Debt, % Of GDP (LHS) & % chg, y-o-y|
Meanwhile, reforms to broaden the tax system and streamline the burden of the national pension scheme have been limited, implying that improvements to fiscal revenue and expenditure streams from these steps are unlikely to be sufficient to prevent further growth in fiscal expenditures. Together with our expectations for the government to employ more stimulus measures in their 2013/14 fiscal budget (due at the start of the fiscal year in April), bond sales are likely to increase further. Indeed, we forecast the rate of growth of government debt to increase sharply to 4.7% year-on-year after declining over the past few years.
How Much More Can Debt Levels Grow?
Despite our forecast for government debt levels to increase further in 2013, we maintain our view that the current path is unsustainable and will likely hasten the arrival of a fiscal crisis in the near future. While it is difficult to ascertain the point when the loss of confidence will be sufficient to tip the market, the increasing supply of government bonds could destabilize the market and we believe demand for bond will stagnate at best. Indeed, we have seen the Government Pension Investment Fund, the world's largest public pension fund, start to sell its JGBs holdings to raise cash and invest in higher yielding assets, which will compound the impact of rising withdrawals to meet retirement needs. A structural decline in JGB demand is likely underway at a time when supply is set to increase rapidly from an already dangerous level. Further fiscal stimulus measures will thus be fraught with danger as yields rise.
With the Abe administration's plans to forgo the budget cap (set by the previous government at JPY71trn, excluding cost of interest and principal for outstanding bonds), we expect that for FY2013/14, more than half of the fiscal budget will be financed through the issues of bonds (49% of FY2012/13 budget was financed through bonds). Thus, given the structural decline in place for the demand of government bonds, we believe that the fiscal measures of the Abe administration will push Japan closer to a fiscal crisis. With this in mind, we maintain our bearish view on 10-year JGB's.