This next chart, from a Societe Generale report, seems to show that the Japanese are financing 40% of their budget. I say “seems” because there is a quirk in the way the Japanese do their fiscal accounting. Pay attention, class. This is important to understand. If you do not grasp this, you will not understand Japanese budgets and how they deal with their debt.
Under a Japanese law called the “60-year redemption rule,” the government is required to retire its bonds in cash over a period of 60 years, irrespective of bond duration. In the case of 10-year bonds, this would mean that one-sixth of all 10-year bonds would have to be redeemed every 10 years for cash.
In the US and Europe (and to my knowledge everywhere else in the world), we simply roll those bonds over, and they are not part of the budget. When we adjust the Japanese budget for this redemption expenditure, we find that the primary expense (the proportion of the budget that is not interest expense and deficit financing) is “only” 87.8% for the 2015 budget. Given that the current budget estimates a 1.8% 10-year bond yield and that the government is rolling over those bonds at 0.22%, interest-rate expenses are likely to fall over the coming years. That is especially true when a significant portion of those rollover bonds will show up on the balance sheet of the Bank of Japan, which will remit the interest charges back to the government. Nice work if you can get it.
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