Japan’s Sisyphean Labors

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Japan’s public debt burden has long been one of the highest in the world, most recently estimated by the US Central Intelligence Agency as standing at 214.3 percent of the country’s gross domestic product. One of the key enabling factors for that high debt level is the fact that Japan has been the world’s largest creditor nation for the past 22 years.

Largely thanks to the Japanese investment wave of the 1980s, the country has scored an account surplus in most months as those investments continue to pay off. But according to official Japanese government data, Japan’s current account surplus plunged 63.7 percent in August on a year-over-year basis, the first decline in nine months and the lowest surplus since 1985. The consensus looked for an almost 24 percent increase in the surplus.

A major contributor to the shift in fortunes has been Japan’s nuclear shutdown. Last month, the country’s last operating nuclear reactor went offline for maintenance but there isn’t a firmly scheduled restart date, as the country continues to grapple with safety concerns in the wake of the Fukushima disaster.

While nuclear reactors are extremely capital intensive upfront, they are relatively inexpensive to run as those costs are amortized over the reactor’s lifetime. But since the shutdown, Japan has increasingly had to rely on the import of expensive fossil fuels to provided electricity for the nation, driving up import costs and dinging the current account surplus.

Even as the country becomes increasingly reliant on imported energy, Prime Minister Shinzo Abe and his recently appointed head of the Bank of Japan (BOJ), Governor Haruhiko Kuroda, have implemented an aggressive mix of stimulus and monetary easing to devalue the yen and give a boost to Jap! anese exporters. Much like the US Federal Reserve, the BOJ is committed to the goal of expanding Japan’s monetary base by JPY60 trillion to JPY70 trillion per year, until inflation runs at a rate of least 2 percent in two years.

While I have been and remain supportive of Abe’s goal of breaking Japan’s 15-year deflationary spiral, the current account surplus data demonstrates the fine line the government is walking in trying to stimulate the economy while maintaining the tenability of its debt situation. A terrific example of that is the recent increase in the country’s sales tax, which was bumped up from 5 percent to 8 percent in April, to pay for rising welfare costs and boost the government’s coffers to keep bondholders calm.

It’s likely that the surplus data will remain lumpy for the rest of the winter, as Japan’s energy imports rise to meet the demand of peak heating season.

The country’s investment income will also likely remain lumpy, especially because of the current debt ceiling quagmire in the US. A substantial portion of that investment income is sourced in the US, hence the reason the BOJ has been issuing dire warnings to America that it must overcome the impasse.

The Japanese central bank has said several times over the past two weeks that a downgrading of US government bonds in response to the crisis would likely have the ripple effect of increasing the risk premiums in foreign markets, potentially increasing Japan’s own borrowing costs.

Assuming America doesn’t blow itself up over the debt ceiling issue, Japan seems to be on a sustainable course for now. While increased reliance on energy imports will be a significant challenge for some time to come, as the global economy levels out the country’s investment income should continue to compensate. That’s particularly true given the rapid devaluation of the yen over the course of 2013.

However, I wouldn’t be surprised to see ! the Nikke! i level off for the time being given these lurking challenges, especially since Japan’s public debt recently hit JPY1 quadrillion (yes, you’re reading that right) or about USD10 trillion. While that still pales compared to the US debt level of USD16.7 trillion, it’s a big boulder to push even as the BOJ continues its monetary easing.