Higher Debt-To-Gdp Ratio Together With Lower Bond Yields: Japanese Experience

I recently referred to an older article inward which I showed how higher debt-to-GDP ratios for the U.S. Federal Government was correlated alongside lower bond yields. The post-war U.S. sense was non an isolated case; like relationships concur for the countries alongside free-floating currencies. The Japanese Government Bond (JGB) marketplace is the poster youngster for this correlation.


The nautical chart higher upward shows the internet debt-to-GDP ratio for the Japanese General Government sector (from the International Monetary Fund World Economic Outlook database) inward the elevation panel, as well as the 10-year JGB yield (from the Ministry of Finance) below. Most people who desire to hyperventilate almost Japanese authorities debt levels exhibit the gross debt-to-GDP ratio (which is over 200%), but that ignores the fact that the Japanese authorities has amassed a huge amount of unusual telephone commutation reserves. The internet debt figures give a to a greater extent than realistic moving-picture exhibit of the situation.

In the before chart, I showed a scatter plot for the human relationship betwixt debt-to-GDP as well as bond yields. Just a quick scan of the nautical chart higher upward shows that the negative correlation is present; even as well as then the release of information points would hold out small, as well as and then the scatter plot would hold out fairly dodgy. The curt history of JGB yields is non simply a limitation of the source; the Japanese authorities had depression debt levels for most of the post-war era, as well as did non consequence long-term bonds.

What Debt Term Premium?

One of the pop theories that many desire to seek is that increasing the debt-to-GDP ratio volition heighten bond yields ("all else equal"). Most of these attempts tin hold out summarised as:

An increase inward the debt-to-GDP ratio past times 1% volition increase {bond yields/forward rates/term premia} past times x footing points, (where x is determined past times regression analysis of simply about sort).

None of these variants come upward out looking real adept when applied to Japanese data.

Until diverse European fundamental banks started experimenting alongside negative rates recently, most analysis factored inward the zip fountain involvement rates. With curt rates already at 0%, the hereafter path of curt rates is skewed upwards (which I pointed out when JGB yields were at higher levels). Therefore, fifty-fifty though no serious observers expected much inward the means of charge per unit of measurement hikes from the Bank of Japan, at that spot should accept been a reasonable term premium embedded inward the 10-year JGB yield. This could easily explicate why JGB yields traded betwixt 1-2% during the post-2000 era. (The recent grind lower could hold out attributed to Quantitative Easing.)

This does non exit a whole lot of room for the alleged increase inward term premia caused past times debt-to-GDP levels. The Japanese internet debt-to-GDP ratio was 52% inward 1999, as well as 113% inward 2010, or an increase of 61%. Meanwhile JGB yields broadly traded inward a arrive at over that period.

If I furnish to the human relationship I noted above, it is difficult to run across the value for x even existence every bit high every bit 1 (that is, a 1% increase inward the debt-to-GDP ratio raises the 10-year term premium past times 1 footing point), never involve heed a value that mightiness hold out statistically significant. For example, if x was 4, that would imply that the term premium rose past times over 200 footing points. Since the 10-year yield barely reached the 2% level, such a value seems wholly implausible.

Experience Elsewhere Similar

Most other developed countries accept broadly like yield as well as debt trends every bit the United States. However, the runs of useful information are ofttimes short, every bit bond markets were ofttimes regulated before the 1980s. One could ground how much novel information is incorporated past times extending the analysis to other countries, given the correlation of yields as well as macro trends.

The euro expanse is a chip of an exception, which is what ane should expect. Government finance inside a currency peg arrangement operates inward a quite dissimilar fashion than is the instance alongside a free-floating currency.

On the whole, the solely rubber determination is that at that spot is piddling empirical information to back upward the theory that increasing authorities debt ratios raises bond yields (for free-floating currency sovereigns) past times anything other than a trivial amount.

(c) Brian Romanchuk 2015