Japan May Sell Bonds to Fund Package, Officials Say

By Kyoko Shimodoi and Keiko Ujikane

Sept. 5 (Bloomberg) -- Japan may sell bonds to help pay for a budget overrun for the first time in six years, two Finance Ministry officials said, a sign that the government is failing to contain the world's largest public debt.

The government may issue as much as 500 billion yen ($4.7 billion) of so-called construction bonds to fund some of the extra spending for an economic stimulus package announced last week, the officials told Bloomberg News today on the condition of anonymity.

Selling the bonds will expand a debt burden that the Organization for Economic Cooperation and Development estimates will total 182 percent of gross domestic product in 2008. The ruling Liberal Democratic Party, which needs to pick a new leader after Prime Minister Yasuo Fukuda announced his resignation on Sept. 1, may want to increase spending further to appeal to voters ahead of elections due within a year.

``Construction bonds, deficit-covering bonds, whatever you call it, debt is debt,'' said Yasunori Kuroda, who helps oversee about $46 billion of assets at Sompo Japan Insurance Inc., the nation's third-largest casualty insurer. ``More bond sales will worsen Japan's fiscal health. Toward the election, politicians may call for more spending, loosening Japan's fiscal grip.''

LDP Secretary General Taro Aso and Economic and Fiscal Policy Minister Kaoru Yosano are among the candidates to replace Fukuda in what is becoming a battle over Japan's economic future.

Tax Versus Spend

Aso said last month that the government should consider postponing its goal of balancing the budget by 2011 because the economy is probably in a recession. Yosano, who favors doubling the sales tax to pay for swelling welfare costs, said Aug. 29 the government is ``still on track'' to meet the budget goal.

Japan has 778 trillion yen of outstanding borrowings, according to the Finance Ministry. Expanding the debt may prompt investors in Japanese government bonds to demand a higher risk premium, said John Richards, head of Asia-Pacific debt-market strategy at RBS Securities Japan Ltd. in Tokyo.

``Uncertainty surrounding the fiscal situation is expected to add to the upward pressures to the yields going forward,'' Richards wrote in a note published Sept. 3.

Japan's economic slowdown has increased demand for government bonds, pushing yields on 10-year bonds to a four- month low on Aug. 29. The yield decreased 4 basis points to 1.46 percent as of 4:45 p.m. in Tokyo after a Finance Ministry report showed businesses cut spending last quarter.

Extra Budgets

The government plans to compile a 1.8 trillion yen supplementary budget to help pay for the stimulus package. A second extra budget may be required later this year to pay for possible tax cuts for low-income earners, Finance Minister Bunmei Ibuki said when the measures were announced on Aug. 29.

The government may need to sell more bonds to fund the tax cut later this year should tax revenue fall short of expectations. Revenue was 51 trillion yen in the year ended March 31, less than the government had projected, the Finance Ministry said in July.

``Corporate tax revenue is falling because of worsening corporate profits and household income is slowing,'' said Susumu Kato, chief economist at Calyon Securities. ``Japan has entered a cycle of fiscal expansion.''

Construction bonds are used to finance public works projects and would cover such measures in the stimulus package as projects to make school buildings more earthquake resistant.

Deficit-Covering Bonds

Fukuda said last week that the government won't issue deficit-covering bonds to fund the extra budget. Deficit- covering bonds are used to cover revenue shortfalls.

The government last issued debt for an economic package in 2002, when then Prime Minister Junichiro Koizumi abandoned a pledge to cap new bond sales at 30 trillion to bolster growth. His administration issued 5 trillion yen in extra bonds that year to pay for public works projects and programs to reduce the unemployment rate from close to a record 5.5 percent.

To contact the reporters on this story: Kyoko Shimodoi in Tokyo at kshimodoi@bloomberg.net; Keiko Ujikane in Tokyo at kujikane@bloomberg.net