Japan's Perpetual Motion Debt Machine

Perpetual motion is impossible, but Japan has managed the illusion of perpetual debt for 20 years.

Perpetual motion--a machine which produces more than it consumes indefinitely, without any visible energy source--is impossible. So too is an economy which consumes more than it produces and fills the gap with debt. Yet Japan has maintained the illusion of a perpetual motion debt machine for 20 years.

Back in 2001 I wrote an article describing Japan's Runaway Debt Train: 40% of its annual budget was borrowed, and much of its tax revenues were gobbled up by interest payments on its mind-boggling public debt.

Nine years later, nothing has changed: welcome to perpetual motion. Japan's government approved a record 92.4 trillion yen ($1.1 trillion) budget for the 2011 fiscal year, of which 44 trillion is borrowed, 7 trillion is lifted from various trust funds and a mere 41 trillion is tax revenues.

So roughly half (48%) of Japan's Central State spending is borrowed.

Japan has borrowed almost half its government expenditures for a decade or so. Even at super-low bond yields of around 1%, it now costs 21 trillion yen to service that ever-growing mountain of debt. So 23% of the government's budget is spent on servicing debt. Roughly half of all tax revenues (51%) are devoted to paying interest on public debt.

The more Japan borrows, the more revenue must be devoted to paying interest.

Japan's total bond issuance in fiscal 2011, including roll-over of existing bonds and the additional 44.3 trillion, is 169 trillion yen--184% of the entire annual budget.

Despite a decade of vast "pump-priming," prices are still declining in Japan: the core consumer price index, which doesn’t include volatile fresh-food prices, was 0.5% lower in November than in the year-earlier period. Compared to October, the core CPI lost 0.1%. (Apparently the Japanese government has adopted the useful legerdemaine of "core" and "non-core" consumer price indices.)

Has Japan really invented a perpetual motion debt machine, in which consumption can exceed revenues by 50% forever? For an answer, we must look at culture and demographics. Japan is a very traditional society in key ways, and the citizenry have historically been prodigious savers. They have accepted low rates of return and other restrictions on their investment options as part of their social contract.

As a result, most of the gargantuan public debt in Japan is owed to its own citizens, life insurance companies, pension funds, etc. Its high savings rate and conservative culture has enabled a self-funding perpetual motion debt machine.

But the nation's demographic tides have turned against the self-funding. Given Japan's low birth rate and longevity, the generation which is now retiring is outsized compared to the younger generation which is supposed to fund the retirees' retirement. As globalization has eroded the old social contract of lifetime employment and high salaries, many of the younger generation earn a mere slice of their parents' wages.

Predictably, Japan's savings rate has plummeted as retirees start withdrawing their savings, and many younger workers find their incomes too low to save anything.

Japan may well try the Federal Reserve's approach of printing credit to buy government bonds--a perpetual motion debt machine if there ever was one--but Japan's debt may well have reached a critical mass that is simply too large to monetize without triggering serious consequences.

In the U.S., we are borrowing "only" 41% of our Federal expenditures, roughly $1.4 trillion a year. The U.S. annual borrowing is equal to roughly 58% of its tax revenues of $2.4 trillion. The Federal deficit is about 10% of the nation's entire GDP of $14.5 trillion.

Clearly, American politicos and recipients of Federal largesse are hoping that its debt will also be a perpetual motion machine. But Americans don't save much of their income; while the Chinese sock away roughly a third of their income, Americans save a meager 5-6%, and that number is dropping as the urge to consume overwhelms the culture's brief interlude of fiscal prudence.

Spendthrift consumption-obsessed America cannot self-fund its gargantuan government debt, so it must rely on external sources and the Fed's monetization.Despite the pretense of "concern" coming from the politicos in Washington D.C., America's "leadership" (barf) clearly believes that the U.S. government can operate a perpetual motion debt machine like the Japanese have done for an entire generation.

But just as perpetual motion is impossible, so too are perpetual motion debt machines which consume more than they produce via the "magic" of borrowing.

The end-game is not yet in sight, but the rumblings can be heard and the lightning flashes are now visible over the horizon.

The crush of 14-hour workdays and events has caused me to fall behind my email once again, so please allow me to thank everyone who sent their holiday greetings and best wishes to me: thank you for your kind thoughts.


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