Common Cents

Japan - Land of the Rising Debt

Ralph Murphy

(3/2013) According to the Organization for Economic Cooperation and Development, Japan’s debt to annual, domestic-production-ratio in 2012 was 228%. The highest in the world. That is, the national debt was a debilitating burden to the Japanese economy when compared to a single year’s domestic production. To be more specific - in 2012, the Japanese economy generated 5.87 trillion dollars worth of domestic goods and services for a population of 127.9 million. This meant that the nation owed its creditors over 13 trillion dollars.

The U.S., by comparison, owes foreign and domestic lenders a national debt of 16.3 trillion dollars. However, this debt is spread over a much larger population of 314 million people. Our domestic economy generated 15.09 trillion dollars in 2012. That is 24.35% of the world's output. This debt is horrendous, but Japan's per capita debt is far worse.

How did Japan get into such a debt situation, and can it work its way out of it? The answers are elusive and have resulted in political turmoil for Japan. Recent elections swept the LDP (Liberal Democratic Party) back into power after a brief rule by the DPJ (Democratic Party of Japan) that failed to heal the nation’s economy. Japan has suffered four major recessions since 1991 - including the one that the nation is currently battling.

A brief review of history shows Japan's post war economy similar in important ways to that of the United States’. Both have an independent central bank - ours the Federal Reserve - theirs the Bank of Japan. The U.S. and Japan also have taxed and borrowed heavily in the post-war period to fund social programs. Japan has spent relatively little on military hardware that is limited by the Japanese Constitution. But, the Japanese did enjoy a boom in real estate and stocks that crashed badly in the 1980's and 1990's leading to what is called the "lost decades". This led to an examination of the funding sources responsible for the collapse and a production mind-set that allowed for a "safety net" to provide greater stability.

The "safety net" is unique to the Japanese mentality in that the people trusted the Ministry of Finance and BoJ (Bank of Japan) to arrange for small banks to be acquired by large ones in the event they became insolvent. This arrangement seemed to work well, and was backed by a Deposit Insurance Corporation, created in 1971 that is similar to the U.S. FDIC. The Japanese Deposit Insurance Corporation was lightly funded because it was seldom used. It did, however collapse spectacularly when the "bubble economy" burst in the 1980's. Most people invested their money in the government-owned 24,700 office, Post Service Agency. This was renamed in 2003 as the Japan Post Holdings Co., that offered higher interest yields than conventional banks, and attracted more money. It also crashed and was bailed out by itself - the Japanese government.

The Japanese people had confidence in their Ministry of Finance and the Bank of Japan with the Post Office bank performing banking, lending, and insurance functions. It employed one third of all Japanese government employees and held 2.1 trillion dollars in savings accounts. It also held another 1.2 trillion in "kampo" (Chinese, herbal medicine) services, and owned 25% of all household assets in Japan. All this, while retaining one fifth of the government’s debt in the form of bonds. It was so popular and "protected" that, in 2005 - then Prime Minister Junichiro Koizumi ran on a plank to privatize the Japan Post Office, and won. Private banks reportedly resent the "cozy" relationship the Post Office has with itself (i.e. the government), but they cannot do much about it.

The privatization of Japan Post bank was put on hold in 2010 after internal bickering between the DPJ and LDP. The DPJ caved in to the majority wishes of its members and the PNP (Peoples National Party) to keep the Banking Post Office in government hands.

Once the largest economic entity in the world, the Japan Post Bank was ranked by Forbes magazine as the 13th biggest in 2012. As of October of last year the MoF (Ministry of Finance) remains a 100% shareholder of the company, although the LDP Prime Minister Shinzo Abe won last year’s election and plans to sell a third of its shares - ostensibly to fund earthquake and associated tsunami disaster relief. This is expected to raise 87 billion dollars by 2015 if it passes.

The new government under Shinzo Abe is pursuing desperate measures to defeat deflation and restore public confidence in the shattered economy. Abe has threatened to take over the BoJ. This is a move that is akin to the U.S. President taking over the Federal Reserve Board. Abe actually has domestic support for this measure. He has tried to devalue the yen against the dollar. His administration is even suggesting that the U.S. strengthen its currency. Both measures are designed to boost Japanese exports. Minister Abe is even dabbling with a bit of old fashioned Keynesian, pump-priming through the purchase of factories and machinery valued at over 10 billion dollars. That figure, of course, is dwarfed by the overall, Japanese, national debt of 1 quadrillion yen (13 trillion dollars). The government may be trying to use failed measures from the past but, under entirely, new circumstances

If Abe is successful in pumping more yen into the Japanese economy, it could turn out to be an inflationary rather than deflationary measure. It could wipe out savings and creditor investments. But, a weakened yen would boost exports in the short run - before disgruntled manufacturers flock elsewhere or wait out the expected, debt tsunami.

Japan's aging population currently entertains one of the highest social services outlays in the world. They have the world's biggest Post Office-bank that has contributed to its mind boggling debt. There is also the misguided infrastructure spending of the 1980s and 1990s. What the U.S. media likes to call "bridges to nowhere". This and repercussions from the real estate boom-bust has left the Japanese government holding the debt.

The world will closely watch to see if Japan can find a solution to its debt problem - one that could be otherwise applied elsewhere. The nation imports commodities and exports manufactured goods, so default would probably be rough on the relatively few exporters to that market, but the world would likely survive the implosion.

Not so Japan - that has now been labeled "the land of the rising debt"!

Ralph Murphy is a former member of the CIA Headquarters Staff in Langley, VA.