LONDON: The yen should stay weak as the new Japanese government’s budget plans, piling more public debt on to Japan’s existing mountain of obligations, is unlikely, based on previous experience, to kickstart the economy.
Japan’s government will compile a 12 trillion yen ($ 136.30 billion) extra budget with up to 10 trillion yen set aside for economic stimulus, several sources said.
The government will sell more than 5 trillion yen in new bonds to fund the budget, the sources said.
Other funds will come from unspent money from last fiscal year’s budget and, notably, money originally allocated to servicing existing debt.
While such a proposal is readily understandable from a political perspective, given Prime Minister Shinzo Abe’s manifesto commitment to re-energising the economy, it is likely to be negative for the yen.
“For two decades, Japan has acted as if fiscal ‘stimulus’ must eventually work, running up the biggest peacetime debt in history at over twice the size of annual output,” said Derek Scissors, a research fellow at The Heritage Foundation, a Washington-based conservative think-tank, in December.
“The result? Japanese GDP in 2011 was no larger than in 1992. Mr. Abe wants to do more of the same, and he will receive more of the same in return.”
The harsh reality is that Japan’s rising general government debt to gross domestic product (GDP) ratio, which rating agency Fitch forecast would hit 235 percent at the end of 2012, is at least partly testimony to failed stimulus plans.
If debt-financed stimulus plans do not create economic activity whose effect is to enhance productivity and raise GDP at a rate that offsets and exceeds the rate of rise in debt obligations, then the debt-to-GDP ratio will increase.
Put simply, if US automaker pioneer Henry Ford had borrowed money to invest in more washrooms at his factory, the productivity gain would have been far less than investing in a new assembly line which revolutionized car production capacity.
Unless, Abe’s stimulus plans are revolutionary, which given the details so far released seems unlikely, the risk is that the extra budget just adds to Japan’s debt burden without lasting economic benefits.
That debt burden falls on an ageing population, which Bank of Japan Governor has said is partially to blame for Japan’s Slow economic growth rate.
Investors might reasonably conclude that piling more government debt on a greying population whose economic activity declines with age is hardly a recipe for a strong yen.
Of course a weaker yen is not a problem for the new government in Tokyo.
Abe’s government sees a weaker yen as part of the solution to Japan’s economic ills, providing exporters with a greater competitive advantage and encouraging imported inflation to help defeat stubborn deflationary pressures in the economy.
Japan is even poised to buy bonds issued by the euro zone’s permanent bailout fund, utilising Tokyo’s foreign reserves, a move intended to help foster financial stability in Europe but with the side effect of supporting the euro against the yen.
But that is an aside.
The core of the issue is that while piling debt on debt might be an obvious policy route for the Japanese government, its consequences only further bolster the case for a weaker yen.
— Neal Kimberley is an FX market analyst for Reuters.
The opinions expressed are his own.