As Japan seeks to finance reconstruction, U.S. debt costs could rise
Japan’s need to raise huge amounts of money for reconstruction after the disastrous earthquake raises the prospect of higher U.S. costs to finance its own budget deficit and ultimately higher costs to American consumers on financing everything from houses and cars to credit card debt.
Tokyo has long been a major purchaser of U.S. Treasury bonds, helping to keep demand for U.S. debt high and the cost of financing it low. Last year, Japan bought about $130 billion in Treasuries, much of it with funds accumulated from the nation’s trade surplus.
Now, as it begins the costly process of rebuilding, Japan will almost certainly be buying less Treasury debt and other foreign assets. That in turn could push the United States to pay higher rates on its securities to attract new buyers, eventually putting upward pressure on other U.S. interest rates — including what American consumers pay for credit.
“Interest rates may go up; investors may refuse to take on more Japanese bonds, like Greek and Irish bonds,” said Takeo Hoshi, an expert on Japan’s economy at UC San Diego.
Potentially adding to the problem, Japan could begin selling some of its existing Treasury holdings, $882 billion as of December, to cover insurance payments for losses or if it has trouble raising finances through bond sales.
That’s a real possibility as Japan faces a severe budget problem of its own: It is the most indebted major economy in the world, with public debt totaling about 200% of its gross domestic product, even though most of that is held in Japanese hands.
Beyond purely financial impacts, the damage to Japan’s nuclear power industry could pose broad strains both at home and abroad.
Even though most of Japan’s industrial heartland lies outside the area devastated by the earthquake and tsunami, the damage is causing disruptions and constraints on production and other economic activity that are expected to continue beyond the immediate crisis.
On Monday, for example, countless workers found it impossible to return to work because of the prospect of rolling power outages, as well as transportation problems. And evacuations and other steps taken in response to the nuclear power plant problems could have an even larger economic impact in the weeks and months ahead.
“There could also be an adverse psychological impact on consumers from the power cuts and the nuclear plants that are in danger of melting down — not just in the region that sustained damage, but also Tokyo and the surrounding areas,” said Hiromichi Shirakawa, chief economist at Credit Suisse in Tokyo.
Although difficult to assess at the moment, he said, “it could affect other regions across the country.”
Across the globe, too. For one thing, Japan is the world’s third largest consumer of oil. Its use of fossil fuels will probably increase as a good chunk of its electricity was knocked out by the shutdown of nuclear power. That will add upward pressure on already climbing oil prices.
In the short term, many analysts believe that the world’s third largest economy will face an immediate slowdown in activity, and begin to bounce back in a matter of months as rebuilding takes hold, just as it did after the Kobe earthquake in 1995.
The prospect of a slowdown in foreign demand for U.S. Treasury bonds comes at a delicate moment for the American government, especially the Federal Reserve, which has been buying massive amounts of Treasuries to hold down rates and stimulate domestic economic activity.
Fed policymakers, who are meeting Tuesday, aren’t expected to announce any major changes in short-term interest rates or its $600-billion bond-buying program, which is set to expire at the end of June. But if a major buyer like Japan pulls back sharply, the Fed may feel pressure to keep supporting the Treasury market.
Some analysts said it was too early to predict that Japan would sell U.S. Treasuries. One risk Tokyo would face in selling Treasuries is that it could depress the dollar and thereby drive up the value of the yen, hurting Japan’s export machine at a time when the economy already is reeling.
“If they don’t buy Treasuries the yen is going to go through the roof,” said John Lonski, an economist at Moody’s Investors Service in New York.
Other experts said Japan’s government faced no good options in funding the rebuilding effort.
“They’re going to have to borrow money from somewhere,” said Carl Weinberg, chief economist at High Frequency Economics in Valhalla, N.Y.
Historically, the advantage the Japanese government has had is that its own people and institutions have bought nearly all of its debt. That’s critical because it’s unlikely the rest of the world would accept the country’s rock-bottom interest rates. But Japan’s aging society now is cashing in savings to live, reducing potential demand for bonds and other fixed-income accounts, Weinberg said.
The potential problem for financing U.S. government debt lies at least some distance down the road. On Monday, rates fell on U.S. Treasury bonds amid fresh worries about the global economy. The yield on five-year U.S. T-notes fell to a six-week low of 1.98%, down from 2.05% on Friday.
The dollar weakened slightly against the yen on Monday, to 81.63 yen per dollar from 81.84 on Friday. The yen hit a 15-year high of 80.40 per dollar in October, and has since traded in a narrow range.
Japan’s central bank, in the first full business day since Friday’s earthquake and tsunami, moved to inject $183 billion into money markets to try to stem the financial damage.
Although the quake’s fury bypassed Japan’s industrial heartland, the shock waves were felt from big auto plants to small mom-and-pop establishments. Many of Japan’s leading companies, such as Sony Corp. and Toyota Motor Corp., closed some production facilities. The Nikkei stock average fell 6.2%, and the broader Topix index plunged 7.5% — their steepest daily declines since October 2008, when markets were seized with the global financial crisis.
In addition to Japan’s poor fiscal condition, another key difference today compared with the aftermath of the 1995 Kobe earthquake is the damage to the nation’s nuclear power industry.
Even if Japanese engineers avert a meltdown of nuclear reactors, the problem is likely to send economic ripples throughout Japan and then abroad.
“To the extent the Japanese grid is effected, that may put a drag on the economy longer term,” said David Weinstein, a professor of Japanese economy at Columbia University.
“That’s a challenge,” said Hoshi, the UC San Diego scholar. “Japan needs more robust electricity capacity.”
Times staff writer David Pierson in Beijing and Kenji Hall in Tokyo contributed to this report.
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