Who on earth is buying JGBs?
25 March 2010
A key theme of the year so far – highlighted by the ongoing Greek drama – has been global investors’ increasing focus on sovereign credit risk. Yet while Japanese gross government debt continues its relentless rise to around 200% of GDP – by far the largest debt stock of all economies – demand has remained rock solid, keeping Japanese government bond (JGB) yields close to historically low levels. So who on earth is still buying JGBs?
The Bank of Japan’s latest flow of funds data provide an insight. And once again, it is domestic institutional buyers – who hold almost 95% of all outstanding JGBs – who the government has to thank for hoovering up issuance despite the paltry returns on offer. In particular, given exceptionally weak demand for loans to finance corporate investment, Japan’s banks remained happy to channel their spare cash into JGBs. And with other financial firms also keen buyers, in the final quarter of last year Japanese institutions upped their holdings by more than ¥7trn. In contrast, given low yields, Japanese households continued to scale back their direct holdings, down by about ¥0.5trn on the quarter. And, most strikingly, foreigners reduced their holdings by almost ¥4trn (nearly 10%), to their lowest level for more than three years.
Change in JGB holdings over the quarter
Source: BoJ and Daiwa Capital Markets Europe Ltd.
Over the near term, we think Japanese investors will continue to absorb the government’s steady supply of new JGBs, allowing yields to remain in their recent ranges. In particular, with investment growth set to remain modest this year, private financial institutions may have little choice but to channel their funds into JGBs. And public financial institutions will also remain net buyers. Reports this week that the government may increase the ceilings on postal deposits and postal life insurance contributions suggest that Japan Post – the largest single holder of JGBs – could have even more funds at its disposal, much of which are likely to be invested in Japanese sovereign debt. Meanwhile, despite suggestions earlier in the year that Japan’s public pension fund, the world’s largest, should diversify its portfolio, the Health Ministry is set to maintain a prudent approach based predominantly on domestic bonds.
Outstanding JGBs held by the public sector
Source: BoJ, Japan Post Bank and Japan Post Insurance
As the economic recovery matures over the next few years, yields will eventually rise as deflationary pressures wane. The BoJ will presumbly at some point scale back its JGB holdings. Private sector banks will direct their funds increasingly towards corporate investment. And with Japan’s population continuing to age rapidly, the household savings rate, which has trended down over recent years, may well turn negative. If so, Japan’s current account also risks turning from healthy surplus to growing deficit, leaving the government increasingly reliant on foreign investors to finance its debt. At that point, if it has not yet put its public finances onto a sounder footing the consequent jump in yields could be sharp, raising the risk of more profound financing difficulties. The government has an opportunity to ward off such concerns in June when it presents its fiscal consolidation plan. However, given Prime Minister Hatoyama’s determination not to raise the consumption tax for five years, we have doubts that it will deliver the goods.
Chris Scicluna, Deputy Head of Economics
Emily Nicol, Junior Economist
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