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House of cards grows higher in Japan

13 Nov 2012 by Jim Fickett.

Japan's debt continues to grow, and the debt continues to migrate from savers to fickle foreign investors and a central bank that is in danger of losing its independence.

Recently Japan's Ministry of Finance released its very useful quarterly newsletter, with most data running through Q3.

Japan not only spends a large fraction of the total government budget on interest for its huge pile of debt but, even leaving interest out of the picture, the country is running a primary deficit (which it hopes to eliminate by 2020).

Hence the government needs to borrow a great deal to function. The problem everyone has seen coming for a long time is in the demographics. The deficit has been funded by domestic savers for a long time, but as the population ages, private citizens and pension funds have begun to withdraw rather than build up savings. Since 2009 the share of the debt held by households and pension funds has dropped from 21% to 13%, while the portion held by foreigners and the Bank of Japan has risen from 13% to 19%.

Holdings by retail investors peaked at the end of 2008:

Holdings by foreigners have been in a long-term uptrend, and foreigners now hold 17% of all short-term JGBs.

Japan is grateful for the foreign demand but, whereas domestic savers could be depended to hold the bonds for life, foreigners will rush for the exits at the first sign of trouble.

The increase in central bank holdings is worrisome for a different reason. Hyperinflations happen when there are no buyers left but the central bank, and the only way to continue funding the purchases is to print money.

Everything is fine right now, with yields continuing to fall, but fragility continues to build, and the reaction when a crisis is triggered is likely to be very painful.