S&P downgrades Japan citing debt, deficits and ageing population; plus why traders don't run Japanese bonds

Japan is downgraded.  They lost their coveted AAA in 2001.  They are now down to AA-.  Currently, Japan's debt to GDP, at about 200%,  is way over Greece's or Portugal's.  Their total debt is about $11 TT.  Their budget deficit is 9.1%, which also happens to be greater than the PIIGS. 

They were downgraded prior to big movements in debt yields or CDS spreads.  Wheras Europe the CDS spreads and debt yields were the first responders. 

We've long wondered why Japan hasn't had a fiscal crisis like they have in Europe.  It's their assets.  Where Europe is running budget deficits and is a net debtor nation, Japan is a net creditor nation both at the government level and at the business level.  So while they have a lot of debt, if they were repaid in full from all the credit extended and had to pay in full their debt, they would still have some left over.  The things that save it is that they are the worlds largest net external creditor in absolute terms, with projected net assets of an estimated 254% of current account receipts at year end 2010.

This is a balance sheet play.  They have a lot of debt, but a healthy asset base as well.  The country's current gold and foreign exchange reserves of over $1 TT are second only to China's. In addition, both the financial sector and the corporate plus household sectors are external creditors.

That is why, given the debt level, traders haven't made a run on Japan like they have at the PIIGS. But, if they can't slow down the budget deficit in the next five years, expect to see a run on Japanese bonds. Via S&P:
  • Standard & Poor's expects Japan's fiscal deficits to remain high in the next few years, which will further reduce the government's already weak fiscal flexibility.
  • We have lowered Japan's long-term sovereign credit ratings to 'AA-' from 'AA'. We affirmed the short-term ratings at 'A-1+'.
  • The outlook on the long-term rating is stable, reflecting our view that Japan's strong external balance sheet and monetary flexibility partially offset the pressures stemming from the fiscal side.
 The downgrade reflects our appraisal that Japan's government debt ratios--already among the highest for rated sovereigns--will continue to rise further than we envisaged before the global economic recession hit the country and will peak only in the mid-2020s. Specifically, we expect general government fiscal deficits to fall only modestly from an estimated 9.1% of GDP in fiscal 2010 (ending March 31, 2011) to 8.0% in fiscal 2013. In the medium term, we do not forecast the government achieving a primary balance before 2020 unless a significant fiscal consolidation program is implemented beforehand.

Japan's debt dynamics are further depressed by persistent deflation. Falling prices have matched Japan's growth in aggregate output since 1992, meaning the size of the economy is unchanged in nominal terms. In addition, Japan's fast-aging population challenges both its fiscal and economic outlooks. The nation's total social security related expenses now make up 31% of the government's fiscal 2011 budget, and this ratio will rise absent reforms beyond those enacted in 2004. An aging and shrinking labor force contributes to our modest medium-term growth estimate of around 1%. 

LAT: Japan's debt rating cut as deficits pile up
BW: Debt plus deficit = downgrade


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