Japan’s price increases and higher interest rates could benefit credit profile

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10th July 2024 – (Tokyo) Japan’s recent price increases and the potential for higher interest rates could have a positive impact on the country’s credit profile, according to Krisjanis Krustins, the Japan sovereign analyst at Fitch Ratings. In an interview with Reuters, Krustins expressed optimism about the effects of inflation and rising interest rates, stating that they are more positive than commonly believed.

One of the advantages of higher inflation is its ability to reduce the value of outstanding debt and lower the debt-to-gross domestic product (GDP) ratio. Additionally, it may encourage job mobility as workers search for higher wages and prompt companies to focus on long-term efficiency. Krustins emphasized that these effects could lead to increased productivity and capital allocation to more productive endeavors, potentially resulting in significant positive impacts for Japan.

Fitch currently rates Japanese credit at A, five notches below the highest AAA rating, with a stable outlook. Krustins noted that if the debt-to-GDP ratio continues to decline persistently, it could lead to an upward rating action for Japan. Although there is no specific threshold, the trend of improvement is a crucial factor in determining ratings.

However, Krustins acknowledged that Japan still faces challenges in addressing its public finances. The government has yet to outline substantial fiscal consolidation measures or additional revenue sources to support various expenditures, including defence and childcare. While the government aims to achieve a primary budget surplus by the next fiscal year, analysts view this target as optimistic.

The primary budget balance, which excludes new bond sales and debt-servicing costs, indicates the extent to which policy measures can be financed without issuing new debt. Japan’s public debt currently stands at more than twice its economy, making it the largest among industrialized economies.

Fitch does not anticipate Japan meeting its fiscal 2025 primary budget-balancing target, but Krustins emphasised that the agency is not overly concerned about the specific target. Last month, a Moody’s Japan sovereign analyst stated that missing the target would not trigger negative ratings action, as the commitment to fiscal reform remains intact.

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