Posted by: Dirk | August 24, 2011

Constructed reality: the SPIEGEL and the recent Moody’s downgrade of Japan

It is very interesting how the press displays the recent downgrade of Japanese sovereign debt by Moody’s. Historically, the bond yield of Japanese sovereign bonds has been quite low, which is not surprising when having in mind that a) Japan is in a liquidity trap since 1991 and has an interest rate close to zero b) the currency (Yen) is under pressure to appreciate and c) 95% of bondholders are domestic. A sober assessment comes from the FT:

The International Monetary Fund estimates the country’s gross debt will be equivalent to 233 per cent of the size of the economy this year. This will be exacerbated in the coming years by the government’s expectations for annual budget deficits of at least 7 per cent through 2015, which Moody’s points out exceeds nominal growth rates.

Moody’s move is unlikely to affect the bond market as domestic investors hold 95 per cent of Japanese government bonds, and are well aware of the country’s fiscal situation. The JGB market showed little reaction earlier this year when S&P downgraded the country’s credit rating.

Now here is the conclusion the German weekly SPIEGEL comes to, on the same topic:

Die Absenkung der Bonität erhöht den Druck auf Japans Politik, die desolaten öffentlichen Finanzen zu sanieren.

So, the downgrade puts pressure on Japanese policy makers to reform the public finances, which are in a desolate state. Interesting. Japanese interest rates has been low for two decades now, while public debt is growing. Paul Krugman has a post on the 2002 downgrade, which changed – nothing.

The Japanese economy is in a difficult situation since 1991, and pointing out that its public finances are in disorder is a ridiculous thing to do. The country has unsolved problems, and one of the symptoms is ever-increasing public debt. Richard Koo thinks that this is the best you can do given the circumstances. Another symptom is the yen’s tendency to appreciate, given that the country is a net exporter. The macroeconomic situation is difficult to understand, and much has been written about it. Fighting just one symptom of the economic malaise will surely not return the Japanese economy towards healthy growth. At the SPIEGEL, ideology stands in the way of reporting the facts as they are. However, their recent issue indicates that there might be a change in paradigma coming up.

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