|Unsustainable debt. Depression-era fiscal policy. Monetary madness. Welcome to Japan. You may not live or invest in Japan, but your investments may well be affected by what is unfolding in the Land of the Rising Sun. Be prepared.Japans government has vowed to end deflation by pursuing both depression-era fiscal policy and aggressive monetary policy. We recently analyzed implications of Japans planned fiscal policies for the yen (see How Low Will the Yen Go: Depression-Era Policies). Since then, Bank of Japans (BOJ) new governor Haruhiko Kuroda has warned Japans debt is not sustainable. Indeed, the only reason why Japans debt has been sustainable may be because deficits have historically been financed domestically. However, Japans current account balance has been deteriorating: in our assessment, dynamics will be radically different once foreigners are expected to help finance the budget deficit. Already we can see that the yen no longer fulfills the role as a safe haven; that is, whereas the yen was a great beneficiary of the flight to safety in 2008, the currencys status has been eroding in tandem with the countrys current account balance (for more on the yen as a safe haven, see our analysis Is the Yen Doomed?)As domestic investors may not be able to support the countrys deficit any further, and international investors may be unwilling to, the BOJ could step in and buy bonds to help finance the deficit. The valve then, in our assessment, has to be the currency. As the debt is monetized, there could be grave consequences for the yen.
While the yen has weakened of late, we may not have seen anything yet. Thats because unlike the BOJs reputation, the central bank there has actually been rather modest in its quantitative easing programs in recent years. Here is a chart comparing the amount of money select central banks have been printing (the colloquial term for monetary easing, even if no banknotes are physically printed)
Is the Yen Doomed?