Japan's rating cut on debt concerns

Standard & Poor's cut Japan's credit rating for the first time in almost nine years Thursday, issuing a harsh critique of the government's ability to control its ballooning debt.

The agency lowered Japan's long-term sovereign debt rating one notch to AA-, which is the fourth highest level and the same rating given to China, Saudi Arabia and Kuwait. The news sent the dollar as high as ¥83.18 from ¥82.20.

The downgrade is a stern reminder to Japan that it faces consequences for letting its debt swell to twice the size of gross domestic product. Prime Minister Naoto Kan is pushing to reform the country's tax and social security systems, but the downgrade could complicate the fiscal picture by making it more expensive to finance the country's debt. Creditors typically demand higher interest rates when credit ratings fall.

Japan's debt ratio, already among the highest in the developed world, is on track to rise more than expected and won't peak until the mid-2020s, S&P said in a statement. The country's problems, it added, are exacerbated by persistent deflation and a rapidly aging population.

Japan is the world's fastest-aging country, with its population projected to shrink from 127 million people now to 90 million by 2055 — 40 percent of whom will be over 65.

The finance ministry estimated this week that the Japan's public debt would swell to ¥997.7-trillion ($12-trillion U.S.) by March 2012, up from ¥943-trillion this year.

But so far Japan has avoided the financial market vigilantism that buffeted debt-laden Greece and Ireland. That partly reflects the buffer provided by Japan's large foreign exchange reserves, high national savings and the relatively low level of Japanese government debt in foreign hands.

Mr. Kan has proposed a record ¥92.4-trillion budget for the next fiscal year starting April 1, but the plan faces considerable opposition that could delay its passage.

S&P expressed little faith in the government's ability to make meaningful progress.

“The Democratic Party of Japan-led government lacks a coherent strategy to address these negative aspects of the country's debt dynamics, in part due to the coalition having lost its majority in the upper house of parliament last summer,” S&P said in a statement.

Masamichi Adachi, senior economist at JPMorgan Securities Japan, said the rating downgrade comes as no surprise. While many policy makers and voters acknowledge the need for reforms, there is no consensus on specific action.

“It looks very difficult to expect that meaningful reforms will be decided in the near future,” Mr. Adachi said in a note to clients.

Economic and Fiscal Policy Minister Kaoru Yosano said he was “disappointed” by the rating cut, according to Kyodo news agency. S&P does not appear to “understand sufficiently that the Cabinet is pressing for fiscal reconstruction,” Mr. Yosano told reporters.

S&P maintained its A-1-plus rating on Japan's short-term debt. It also said its outlook on the long-term debt rating is “stable,” noting Japan's diversified economy, high foreign net assets and the yen's role as a key international reserve currency.

“Should the government be able to consolidate its finances and to enact measures to improve its growth prospects — as it did in the early part of the last decade — upward pressure on the ratings would build,” S&P said.