Japan’s ultra-long JGBs plunge... “Fiscal discipline is breaking down”
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Summary
- Japan’s ultra-long JGB yields hit record highs as bond prices plunged, amplifying concerns about weakening fiscal discipline.
- Both ruling and opposition parties are competing to push zero consumption tax on food and other consumption tax cuts, with an expected annual revenue drop of 5 trillion yen.
- As fiscal discipline weakens, risks of higher JGB yields, a weaker yen, and prolonged inflation are rising, driving continued bond selling.
Japan’s political parties compete on ‘consumption tax cuts’ without funding plans
Zeroing the food consumption tax would cut annual revenue by 5 trillion yen
Fiscal deterioration fears... ultra-long yields hit record highs
On the 20th, yields on Japan’s ultra-long government bonds surged in the Japanese bond market (with prices plunging). The 30-year JGB yield at one point hit 3.88% per year, while the 40-year reached 4.215%, both setting new record highs. It is extremely rare for Japanese government bond yields to rise by more than 0.2% points in a single day.
Behind the move is the risk of fiscal expansion. Ahead of the House of Representatives (lower house) election, Prime Minister Sanae Takaichi said on the 19th that she would set the food consumption tax rate to zero for two years, adding that she would “end an excessive tilt toward austerity.” The new party formed by the opposition Constitutional Democratic Party and Komeito, the “Centrist Reform Alliance,” also included “zero consumption tax on food” in its basic policy platform.
With both ruling and opposition parties putting consumption tax cuts at the center of their pledges, concerns are growing that fiscal discipline will unravel. The Nikkei said that “tax-cut policies without sufficient funding measures are populist,” adding that “the bond market moves on the 20th show that the market’s concerns about tax-cut policies have risen to an extreme level.”
Among the Japanese government bonds it issues, those with long maturities—20-year, 30-year and 40-year—are called ultra-long bonds. Issuance amounts are 800 billion yen a month for the 20-year and 700 billion yen a month for the 30-year. The 40-year, issued once every two months, is 400 billion yen per auction.
Typically, the longer the borrowing period, the higher the interest rate. That is because the longer the lending period, the greater the risk of not being repaid. In Japan’s bond market, while the 10-year yield—an indicator for long-term rates—stands in the 2% range per year, the 40-year has risen above 4%.
Bond yields and prices move in opposite directions. Even if market prices change, the amount a JGB buyer can receive from the government at maturity does not change. On the 20th, almost no buyers emerged for 30-year or 40-year bonds in the bond market, and prices plunged, pushing yields higher.
The collapse in JGB prices reflects concerns over fiscal discipline. The annual cost of cutting the food consumption tax is about 5 trillion yen. While Prime Minister Takaichi said it would be a temporary, two-year measure, many market participants are increasingly concerned it could gradually lead to permanent tax cuts.
The Centrist Reform Alliance also plans to use new government-affiliated funds and other sources as funding, but whether they will provide a stable source of revenue remains unclear. If the government’s funding conditions deteriorate, investors will demand higher yields as compensation for buying government bonds.
Inflation worries also contributed to bond selling. If fiscal discipline weakens, the currency’s value may also fall, heightening the risk of prolonged yen weakness and inflation. Fiscal expansion in the form of consumption tax cuts could stoke inflation. Bond investments are more vulnerable than equities and other assets to inflation that erodes the currency’s value.
Tokyo = Correspondent Kim Il-gyu black0419@hankyung.com
