A woman walks past a screen showing the yield on the 10-year Japanese government bond in Tokyo on Sept. 25. Earlier in the day, Japanese government bond yields rose to their highest level since August 1996.EPA/YONHAP
Kim Dong-ho
The author is an editorial writer at the JoongAng Ilbo.
Japanese companies are raising food and beverage prices this month, covering more than 3,000 products, as raw material costs climb. After more than three decades of deflation, Japan is now wrestling with inflation. Higher interest rates are needed to curb prices. But Japan has a bigger problem: the boomerang from more than 30 years of expansionary fiscal policy. Japan long enjoyed a world in which borrowing cost almost nothing. Monetary easing held rates down, allowing the government to expand spending. When rates rise, however, government debt reveals its true cost.
The bill is now arriving. Since ending its negative-rate policy in March 2024, the Bank of Japan has raised its policy rate to 1.25 percent. Japan's fiscal 2027 budget requests total 143.07 trillion yen ($909 billion). Of that, a record 36.64 trillion yen is earmarked for servicing government bonds, up 5.36 trillion yen, or more than 17 percent, from this year. The long-term market rate used to calculate interest costs was also raised from 3 percent this year to 3.8 percent next year. With further rate hikes being discussed, the debt burden could grow further.
More troubling is that government debt is constraining Japan's ability to respond to a weak yen. Yen depreciation raises import prices for energy and food. The Bank of Japan may want to raise rates further, but its room to maneuver is limited. Higher rates increase interest costs on government debt, including bonds and borrowings, projected to approach 1.5 quadrillion yen ($9.53 trillion) by the end of the year. That debt exceeds twice Japan's GDP.
If the central bank hesitates, however, Japan must tolerate a weaker yen and higher import prices. Government debt is thus restricting monetary policy itself.
Measures to ease inflation deepen the fiscal dilemma. The Japanese government plans to cut the consumption tax on food from 8 percent to 1 percent for two years starting next April. The goal is to ease household burdens, but lost tax revenue creates another fiscal strain. Tax cuts are also difficult to end: Restoring the previous rate effectively becomes a tax increase, inviting political resistance and potentially weakening the revenue base for longer.
Japan is consequently slipping into a cycle in which debt creates more debt. Taxes alone cannot cover principal and interest payments, so new bonds are issued to repay maturing ones. That was manageable during the ultralow-rate era. But as rates rise, new bonds carry higher interest costs, which in turn squeeze government spending.
Japan shows what can happen when fiscal soundness weakens. National debt is not simply a number future generations must repay. It constrains policy choices involving interest rates, exchange rates, prices and taxes.
Japan's predicament is not someone else's problem. Korea accelerated fiscal spending under the Moon Jae-in administration and is stepping on the accelerator again under the Lee Jae Myung administration. The government's proposed 2027 budget totals 820.9 trillion won ($604 billion), up 93 trillion won, or 12.8 percent, from this year. Expectations of stronger tax revenue from the semiconductor boom underpin this supersized budget.
Semiconductors, however, are a quintessential cyclical industry. Downturns have invariably followed booms. A semiconductor boom will not last forever, but spending expanded during years of abundant tax revenue leaves behind debt. Interest payments on government bonds alone will exceed 40 trillion won ($29.4 billion) next year. With spending expansion taking precedence over debt reduction, national debt is projected to rise by 106 trillion won despite buoyant tax revenue, reaching 1.52 quadrillion won. As debt and interest rates rise, so does the interest burden.
More concerning is the 162.3 trillion won Future Preparedness Fund, a large pool over which the government has considerable discretion. The government plans to invest about 45 trillion won in growth engines, youth, regional development and education, while using 12.5 trillion won to reduce new bond issuance. Some estimates suggest the fund could grow to 218 trillion won ($160 billion) if tax revenue rises further.
Temporary excess tax revenue should first be used to reduce national debt and rebuild fiscal room. If such a huge fund finances politically attractive programs such as holiday discounts on agricultural and livestock products, it risks becoming a discretionary government purse.
Korea has additional reasons to manage its finances carefully. Japan has traditionally absorbed most of its government bonds domestically, while the yen is widely traded internationally. Yet even the yen has weakened, and Japan is struggling to contain inflation.
Korea should not assume it is safe simply because its debt-to-GDP ratio is lower than Japan's. The won is less internationalized than the yen, leaving Korea with less room to respond in a crisis. Sound public finances also helped Korea overcome the 1997 Asian financial crisis. Japan's experience with the trap of expansionary fiscal policy should serve as a lesson for Korea.
This article was originally written in Korean and translated by a bilingual reporter with the help of generative AI tools. It was then edited by a native English-speaking editor. All AI-assisted translations are reviewed and refined by our newsroom.
