New government bonds attempt to play it safe

June 25th, 2010 by Philip Brasor & Masako Tsubuku

Investing can be a beach

Investing is a beach

For the first time in four years, the Ministry of Finance is issuing a new government bond product. Starting this month you can buy fixed-rate, 3-year bonds starting at denominations of ¥10,000. The product is specifically aimed at average consumers, so they are “easy to buy” at banks and brokerage houses. The annual interest rate is 0.19 percent, compounded semiannually, which, after the 20 percent tax, comes to 0.152 percent. New bonds are issued monthly, and can be canceled without penalty after one year.

Compared to bank time deposits, it may not seem like much of a deal to the average saver. A three-year savings plan, albeit for a minimum deposit of ¥1 million, is running about 0.43 percent right now, but the MOF seems to think the new bond will be a popular product. (The MOF also offers its usual 5-year, fixed rate bond at 0.42 percent, and its 10-year, variable rate bond at 0.48 percent. These are issued four times a year.) After the so-called Lehman Brothers shock, securities companies surprisingly sold a lot of government bonds at about the same interest rate, apparently because consumers thought it was a safe investment in the midst of all that financial uncertainty. The MOF hopes this feeling is still at large, because it needs a more stable investment base.

As of the end of 2009, the Bank of Japan estimates that ¥830 trillion of Japan’s national debt is in government bonds, of which ¥340 trillion is held by financial institutions; ¥170 trillion by insurance companies and pension funds; ¥90 trillion by various government entities, central and local; and ¥35 trillion by individuals, accounting for only 4 percent of the total, which is even less than the percentage held by foreign investors (about ¥50 trillion). The MOF wants to increase the amount of bonds held by individuals because bonds for individuals are non-marketable securities. Their value is fixed, since they cannot be traded on the bond market.

According to experts, the MOF is trying to avoid a Greece-like meltdown. If interest rates go up, the value of government bonds drops and everybody rushes to sell theirs, as foreign investors did in Greece. It’s thought that Japan is sort of safe since more than 90 percent of its government bonds are held domestically. Not so, says outspoken economist Noriko Hama in the Asahi Shimbun, since the vast majority of these bondholders answer to stockholders, so they are just as likely to sell if interest rates go up. Also, banks right now buy a lot of bonds because they don’t have any loan business, but if the economy recovers, lending will increase and their purchase of bonds will drop.

The idea is that the more non-marketable bonds the government sells, the more stable the debt situation becomes, but that’s assuming the economy will remain in the doldrums. The money that financial institutions, including Japan Post, are using to buy bonds and not giving out as loans are taken from people’s savings and other investments, so it’s all the same cash circulating in one enormous self-perpetuating loop that doesn’t really get the economy moving.

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