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Rating Action:

Moody's affirms Japan's A1 rating; outlook stable

 The document has been translated in other languages

Global Credit Research - 06 Dec 2017

Singapore, December 06, 2017 -- Moody's Investors Service has today affirmed the Government of Japan's A1 local and foreign currency issuer ratings and local currency senior unsecured rating. The rating outlook is maintained at stable.

The affirmation reflects the strengthened prospects of a broadly stable debt burden over the next few years and further improvements in debt affordability, helped by somewhat higher GDP growth at present that supports Moody's assessment of the economy's competitiveness and some effectiveness of government policies.

These credit features are balanced by significant longer-term credit challenges posed by an extraordinarily high debt burden which will maintain refinancing needs at very high levels, making the sovereign's credit profile highly dependent on the continued availability of large domestic savings flows at a time when demographic decline and very low potential growth could undermine such flows.

Japan's long-term local- and foreign-currency bond and deposit ceilings remain at Aaa. The short-term foreign-currency bond and deposit ceilings remain at Prime-1.

RATINGS RATIONALE

FIRST DRIVER -- PROSPECTS OF A STABLE DEBT BURDEN AND IMPROVING DEBT AFFORDABILITY, AIDED BY ECONOMIC COMPETITIVENESS AND SOME POLICY EFFECTIVENESS

Moody's expects the debt burden to remain broadly stable in the next few years, albeit at very high levels, as the government pursues fiscal consolidation and the macroeconomic environment remains relatively favorable.

On a general government basis, fiscal deficits narrowed significantly to 3.3% of GDP in the fiscal year ending in March 2016 (fiscal 2015) from 10.2% in fiscal 2010. Although Moody's expects the stimulus package announced in 2016 to lead to a widening of the deficit in fiscal 2016 and fiscal 2017, the general government debt burden is likely to stabilize in the next few years at around 220% of GDP, which remains the highest debt burden among rated sovereigns.

Moody's expects that partial withdrawal of fiscal stimulus together with the 2019 consumption tax hike will support fiscal consolidation over the medium term, even though the primary balance target previously set by the government will not be reached by FY2020. As the economic platform of the ruling Liberal Democratic Party (LDP) in the recently concluded parliamentary elections was premised on the implementation of the consumption tax hike, the LDP's strong electoral mandate reduces the probability of another delay. Although the impact of the tax hike on lowering fiscal deficits is blunted by promises to earmark revenue for higher social security spending, the increase in government receipts will further enhance debt affordability, as measured by interest payments as a share of revenue.

Beside fiscal consolidation, Japan has made progress on engendering economic growth amidst structural pressures from ongoing demographic decline, which also supports government revenues and stability in fiscal metrics. The economy had recorded seven consecutive quarters of positive quarter-on-quarter real GDP growth as of Q3 2017, its longest streak since the period between Q2 1999 and Q1 2001. Even though inflation remains well below the Bank of Japan's (BOJ) 2% target, Japan is on track to post its fifth consecutive year of above-1% nominal GDP growth. In recent years, nominal growth has been driven increasingly by growth in real output as distinct from economy-wide inflation (as measured by the GDP deflator).

That growth is essentially cyclical. Japan's highly competitive economy has benefited from the synchronized global expansion currently underway, as well as from the ongoing policy stimulus and construction for the 2020 Olympics. Overall, Moody's forecasts real GDP growth at 1.5% in 2017 and 1.1% in 2018. That is above Japan's long-term potential and Moody's expects growth to fall thereafter to under 1%.

That said, we do expect policies enacted under the "third arrow" of the Abenomics program to raise potential growth somewhat relative to our estimates a few years ago. In particular, the participation of women and elderly in the labor force has risen, mitigating somewhat the impact of demographic decline on a tightening labor market. Since the trough reached in Q4 2012, overall employment in seasonally adjusted terms has increased 4.3% as of Q2 2017, even as the total population declined by 0.6% over the same period. Deregulation, the corporate governance reform and revisions to the corporate tax structure are also likely to raise potential growth somewhat.

Nevertheless, Moody's expects that real GDP growth will decelerate to 0.5-1.0% over the medium term. The effect of this deceleration on nominal growth, and consequently government indebtedness, may initially be offset by somewhat higher inflation. But in the long run, it is unlikely that the current pace of nominal GDP growth can be sustained in the absence of more vigorous improvements in potential growth. While growth in labor productivity has been robust, Moody's expects that sustained productivity growth will mainly offset the downward drag from the long-term decline in the labor force, rather than increase potential growth.

SECOND DRIVER -- LONG-TERM CHALLENGES POSED BY HIGH DEBT AND LOW POTENTIAL GROWTH REMAIN

Over the long term, the ability of the government to continue to refinance its extraordinarily high debt burden at affordable costs will determine Japan's credit profile.

So far, the risks posed by that debt burden are mitigated by very low interest costs, which reflect the Japanese government's ability to draw on the very large pool of domestic savings, in large part invested in government assets. That so-called 'home bias' is long-standing and stable and provides high assurance that funding costs for the government will remain low and stable over the coming years notwithstanding the very high refinancing needs.

In particular, against the backdrop of the BOJ's extraordinary easing measures, the government's ability to refinance its debt at lower rates has more than offset the effect of a high debt burden on debt affordability. Moody's expects this to remain the case at least until the BOJ changes its policy stance and starts liquidating its JGB holdings. Even a renewed increase in the debt burden would be unlikely to prevent further improvements in debt affordability, since market yields will remain well below average coupons on outstanding debt over the medium term.

Over time, however, the challenge of maintaining debt affordable may rise. Eroding demographics leading to Japan's depressed growth potential may start to affect Japanese households' propensity to save, and the willingness of households and corporates to continue to invest in domestic assets.

RATIONALE FOR STABLE OUTLOOK

Japan's stable outlook reflects Moody's view that those longer-term pressures are unlikely to materialize over the next 12-18 months. Upside and downside pressures are broadly balanced.

On the upside, recent progress in maintaining positive nominal GDP growth may indicate a larger and more sustained positive shift in economic conditions than we currently estimate. In turn, a more robust growth environment would provide greater scope for the government to accelerate fiscal consolidation and lower the debt burden on a sustained, albeit gradual basis. Such trends would likely further solidify the home bias.

Conversely, the prospect of a prolonged period of very high debt and very low potential growth in the absence of policy measures that effectively relieve the demographic burden on the domestic labor force could erode the home bias if households' propensity to save were to fall, or if savers were to diversify their investments towards assets offering prospects of higher returns. In that case, Japan's fiscal metrics and credit profile could weaken markedly.

WHAT COULD CHANGE THE RATING UP/DOWN

Sustained progress on fiscal consolidation and debt reduction, most likely accompanied by policy action that Moody's concluded would materially and sustainably boost nominal growth, would be credit positive and could, over time, lead Moody's to move the rating up.

Moody's would begin to move the rating lower were it to conclude that, whatever the prevailing cyclical conditions, the government's ability refinance its very large stock of debt at affordable rates was likely to erode over time. Such a conclusion might reflect i) an event, such as a further delay in the implementation of the second step of the consumption tax hike, which signified a credit negative shift in policy; ii) the return of medium-term pressures, including a return of deflationary pressures, or a further erosion of growth potential, which the government was unable to counter; or iii) any other development which signified the government's inability to sustain medium-term fiscal consolidation and to take measures to mitigate the long-term economic and fiscal costs related to an aging society.

GDP per capita (PPP basis, US$): 41,220 (2016 Actual) (also known as Per Capita Income)

Real GDP growth (% change): 1% (2016 Actual) (also known as GDP Growth)

Inflation Rate (CPI, % change Dec/Dec): 0.3% (2016 Actual)

Gen. Gov. Financial Balance/GDP: 4.1% (2016 Estimate) (also known as Fiscal Balance)

Current Account Balance/GDP: 3.8% (2016 Actual) (also known as External Balance)

External debt/GDP: 74.2% (2016 Actual)

Level of economic development: High level of economic resilience

On 04 December 2017, a rating committee was called to discuss the rating of the Japan, Government of. The main points raised during the discussion were: The issuer's economic fundamentals, including its economic strength, have not materially changed. The issuer's institutional strength/ framework have not materially changed. The issuer's governance and/or management have not materially changed. The issuer's fiscal or financial strength, including its debt profile, has not materially changed. The systemic risk in which the issuer operates has not materially changed. The issuer's susceptibility to event risks has not materially changed.

The principal methodology used in these ratings was Sovereign Bond Ratings published in December 2016. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

The weighting of all rating factors is described in the methodology used in this credit rating action, if applicable.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Christian de Guzman
VP - Senior Credit Officer
Sovereign Risk Group
Moody's Investors Service Singapore Pte. Ltd.
50 Raffles Place #23-06
Singapore Land Tower
Singapore 48623
Singapore
JOURNALISTS: 852 3758 1350
Client Service: 852 3551 3077

Atsi Sheth
MD - Sovereign Risk
Sovereign Risk Group
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Releasing Office:
Moody's Investors Service Singapore Pte. Ltd.
50 Raffles Place #23-06
Singapore Land Tower
Singapore 48623
Singapore
JOURNALISTS: 852 3758 1350
Client Service: 852 3551 3077

No Related Data.
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