Somehow, this is a point that’s rarely made.
And yet, it is pretty important.
Last time Japan went scouting for JGB investors, it had a plentiful resource in its own population base — all of whom were aging but were also looking for a risk-less investment until retirement day.
This time round, though, the aged Japanese pensioner is unlikely to be as enthusiastic a purchaser of JGBs simply because in many circumstances retirement day has already dawned. In fact, they’re likely to start cashing those JGBs in.
Ben Davies, CEO of investment management firm Hinde Capital makes the point in a recent interview with King World News.
Although he adds extra detail in a recent note to FT Alphaville:
Respect for-the-Aged’ Day (敬老の日Keirō no hi?), is a day to honour centenarians in Japan. It’s come to symbolise the declining demographics of the country. Japan’s dependency ratio is now approaching 100. This is significant. The dependency ratio is the percentage of retired people supported by working people.
Very soon Japan will have more retired people than working people, and the savings rate will fall further. This is not only an issue for the productive capital of economy, it means Japan will be in less of a position to use domestic savings to fund their burgeoning deficit. Gross debt to GDP is 200%.
And here’s the really salient bit (our emphasis throughout):
Japan has survived this long because foreigners don’t buy Japanese bonds. Through savings and insurance companies that are directly or indirectly controlled by the state, 94% of all JGBs have been bought by the Japanese.
Japan’s government debt to private GDP is now 253%, having moved sharply higher in the last year. The three largest holders of JGBs are the Japan Post Bank, Japan Post Insurance and the Government Pension Investment Fund (GPIF).
Prior to the 2001 Fiscal Investment and Loan (FILP) reform, postal savings and pension reserves were required to be deposited at the Fiscal Loan Fund.
As part of the reform, the compulsory deposits were discontinued and existing deposits and interest on deposits were to be sequentially returned. From 2001-2009, Japan Post Bank and GPIF used those returned deposits to buy JGBs, and those deposits are now almost completely liquidated.
Japan Post Insurance will soon not be a likely buyer because insurance reserves have been in steady decline given Japan’s demographics, and their year over year holdings growth is almost 0%. Banks have been filling the void, but don’t have a ton of additional capacity given Basel II guidelines.
Which he says means Japan will be forced this time to finance their issuance in international markets. Not quite as easy, given the competition – eh?
As Davies puts it:
We have already stated that this is highly unlikely due to sovereign debt levels around globe. Due to aging demographics, the Japanese savings rate will not rise. The Japanese fertility rate is 1.2 children born per woman (2010est) ranking them 218 out of 223. Interestingly the only countries with lower rates are some other Asian countries S.Korea, Taiwan, Singapore, Hong Kong and Macau.
The US by comparison has a rate of 2.06 which ranks them 126 in the world. The replacement rate is 2.1 – the golden rate. The demographics dictates the savings rate will go down not rise. The lifecycle savings hypothesis points out you spend when you’re young and you save when you get older and then when you get much older, you will spend the money you’ve saved in your lifetime.
Now the Japanese are getting really old, and they’re about to
start drawing down their savings. The savings rate will go negative. All bubbles burst when financing becomes an issue. The Japanese bond market will, in the not too distant future, face a fiscal crisis that will require either draconian tax increases and spending cuts, but that would be extremely socially divisive or debt monetization. This recent intervention leads us to conclude Japan will choose to print money and create an initial illusion of health. Most countries have bad choices and worse choices. Japan has only worse choices.
The likely result? In Davies’ opinion: a wholesale exit out of the yen and JGBs by the Japanese and the makings of a hyperinflationary environment, offset by a mega rally in gold.
But, of course, Hinde Capital does manage the Hinde Gold Fund, a gold hedge fund.
Related links:
Ben Davies: Part II – King World News
Hugh Hendry: short China, via Japan – FT Alphaville
BoJ says: ‘Bye, bye bank note rule’ – FT Alphaville