Ratings agency downgrades to negative outlook on Japan
Standard and Poor's has changed its outlook on Japan to negative and threatened to again cut the country's sovereign credit rating. The ratings agency said the government had no plan to deal with its debt, worsened by last month's earthquake.
REUTERS - Standard and Poor’s threatened to cut Japan’s sovereign credit rating again, warning the huge cost of last month’s devastating earthquake will hurt already weak public finances unless bickering politicians can agree to raise taxes.
It affirmed its long-term sovereign credit rating on Japan at AA minus—the lowest among the major agencies—but cut the outlook to negative from stable.
The ratings agency cut Japan’s sovereign credit rating in January for the first time since 2002, saying the government had no plan to deal with its mounting debt while adding the administration’s loss of an upper house majority had compounded the problem.
Public debt, already twice the size of the $5 trillion economy, is set to grow further as the country faces reconstruction costs following the March 11 earthquake and tsunami that could reach 50 trillion yen ($613 billion), S&P said.
“If there are no revenue enhancing measures such as tax increases, we expect the central and local governments to bear most of this cost,” the agency said.
However, the country’s deepest crisis since World War Two has not healed rifts between the government and the opposition, whose majority in the upper house stands in the way of fiscal reform.
In addition, Prime Minister Naoto Kan’s deep unpopularity means that even within his party, he has little room for manoeuvre to shore up the country’s public finances.
“This will put more pressure on the Japanese government to do something about revenue enhancement,” Takuji Okubo, chief economist at Societe Generale, said.
Still, Okubo said the S&P action could help the government’s case for fiscal reform, which centres on raising the 5 percent consumption tax—something acknowledged by Japan’s finance minister.
“Fiscal reform is something we cannot avoid,” the minister, Yoshihiko Noda, said. “The government at present is doing its utmost for disaster relief and reconstruction. It is important to pursue fiscal reform at the same time. We will try to gain trust in Japan’s economy and public finances in and outside Japan.”
Budget deficit swelling
Japanese sovereign credit default swaps were 1 basis point wider at 77 basis points after the S&P announcement, but they remain well off post-quake peaks near 120 basis points and a few basis points tighter than just before the disaster.
The yen dipped shortly after the announcement with the dollar climbing to an intraday high of 81.781 yen , but analysts said the S&P move was unlikely to have much impact.
“The impact on the forex market is likely to be temporary,” said Masafumi Yamamoto, chief currency strategist at Barclays Capital in Tokyo.
Japan is not alone among industrialised countries in confronting a swollen budget deficit.
Just last week S&P slapped a negative outlook on the top-level AAA credit rating of the United States, where lawmakers are also squabbling over how to deal with a massive fiscal deficit.
The European Union is facing a critical test as the region deals with its worst debt crisis since the single euro currency was launched.
Japan’s government has estimated that the cost of the damage from the 9.0-magnitude earthquake and tsunami on March 11 could reach just above $300 billion.
However, S&P projected reconstruction costs at between 20 trillion yen and 50 trillion yen ($245 billion to $613 billion).
It said if government revenues are not boosted, these costs would add 2 percent of gross domestic product to the general government fiscal deficit this year and 1 percent next year. Deficits would remain above 8 percent through 2014, it said.
“Much will depend on Japan’s political leadership and its ability to forge a political consensus on how to offset fiscal measures in the future,” S&P said.
Japan is expected to pass an initial 4 trillion yen ($49 billion) extra budget for disaster relief in early May that won’t entail fresh borrowing, but that is just a down payment on the expected cost of rebuilding in Japan’s devastated northeast.
“Given the huge damage from the earthquake, everyone knows that government spending will be massive,” said Junko Nishioka, chief economist at RBS Securities Tokyo.
“We are not expecting big new government bond issuance for the coming second supplementary budget but political deadlock is likely to heighten the negative risk for sovereign debt.”
In an early sign of the impact the quake has had on private consumption, which makes up more than half of Japan’s economy, nationwide retail sales fell in March at the fastest annual pace since 1998, data showed on Wednesday.
The data, the first measure of consumption since the natural disaster, highlights the need for the government to quickly resolve the nuclear crisis, ensure power supply and help manufacturers restore damaged supply chains so they can produce more goods.
S&P said the downgrade of the ratings outlook meant that a cut in the actual rating could follow over the next two years if there is no fiscal consolidation.
The AA minus rating is S&P’s fourth highest rating.
Moody’s Investors Service warned in February it might cut its Aa2 rating—its third highest—if government policies fall short of comprehensive tax reform.
Fitch Ratings has an AA rating—the company’s third highest—with a stable outlook.