Bond market wary of Japan move to cut debt

08:31, December 25, 2009      

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Japan's government is likely to cut the spending plans it made during its election campaign earlier this year to help bring its large debt burden under control, but the bond market was wary of plans to boost issuance of long-term debt.

The government's decision to backtrack on major campaign promises that brought it to office in September will on the one hand reassure the bond market that it can achieve its self-imposed cap on new government bond issuance of 44 trillion yen.

But on the other hand, government sources said the Ministry of Finance plans to increase issuance of 30-year bonds in the fiscal year 2010/11, which could add further pressure to a market already worried about the government's fiscal discipline.

The yield curve has been steepening due to lingering concerns about fiscal policy. The 2-year/20-year spread hit the highest in a decade earlier this month.

"Fiscal spending is likely to match up with revenue and bond issuance, but just barely," said Katsutoshi Inadome, fixed income strategist at Mitsubishi UFJ Securities in Tokyo.

"The government has gone back and forth over where it will cut and where it will spend. I seriously question the decision to sell more long-dated bonds. Fiscal woes mean 30-year yields already carry a premium."

Prime Minister Yukio Hatoyama has abandoned plans to scrap a gasoline surcharge, agreed to raise taxes on cigarettes and cut public works spending in response to an unprecedented slump in tax revenue this fiscal year.

Economists warn that less spending on public works will hamper growth next year. Analysts say the government's tendency to cut some projects and then promise spending on new measures has rattled confidence in the three-month old administration.

Less than half the 7.1 trillion yen that the government wanted to set aside in 2010/11 to implement key policy initiatives will make it to the final budget due to fiscal constraints, the Nikkei newspaper said yesterday.

The 2010/11 budget spending is likely to be around 92 trillion yen, the Nikkei said.

This would be a record but still less than initial spending requests worth 95 trillion yen as the government cut wasteful public works. Cabinet ministers have said they hope to approve the budget today.

Some economists say 2010/11 tax revenue will be around 37 trillion yen, the same as for the current fiscal year.

If the government keeps bond issuance at 44 trillion yen, it would have an 11 trillion yen shortfall, which it hopes to plug by raiding surplus funds in special accounts.

The government decided on Monday to keep a surcharge on gasoline to rein in public debt, which is approaching 200 percent of GDP, the biggest among industrialized nations.

Hatoyama said he wanted much of that revenue to go to schemes to boost jobs, offsetting the benefit of keeping the tax.

Hatoyama is keen to avoid a return to recession before upper house elections in mid-2010, where a big victory could help his Democratic Party tighten its grip on power as it could rely less on its coalition partners.

A return to recession isn't likely as Japan's exports rebound, but the shifting of spending to support households from building roads and dams risks hampering a recovery from the worst post-war recession.

"Next fiscal year's budget will bring a big decline in public works from the previous year, which will hurt domestic demand," said Yasuo Yamamoto, senior economist at Mizuho Research Institute in Tokyo.

"I understand Japan's finances aren't great, but it isn't good to cut public works so suddenly."

Japan is likely to issue around 145 trillion yen in government bonds to the market next fiscal year, sources told Reuters on Wednesday. This figure, which includes new bonds and bonds issued to rollover existing debt, would be a record.

The government is likely to forecast GDP will growth 1.4 percent in fiscal 2010, the first growth in three years as the economy recovers from the financial crisis, the Nikkei said.

Source: China Daily
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