The Public Debt of Japan and China – Funded by Investment Credit Creation or by Foreign Borrowing?

1 Japanese Government Public “Debt” and Assets

On 25 July, for the umpteenth time, I was treated to an amazing display of economic misunderstanding by two apparently eminent economists on Al Jazeera. They were discussing the “very high level of Japanese government ‘public debt'” and the possibility of the complete collapse of the Japanese financial-industrial system because of that debt.

If these economists had troubled themselves to investigate the facts of the matter in sufficient depth to make useful explanatory comments, they would have discovered that this “high level of public debt” is not debt at all – it is almost entirely an asset of the Japanese Government, equal to an enormous volume of created investment credit at the Bank of Japan (BoJ), representing indirect loans to Japanese commerce and industry via the secondary banking system. To be more accurate, it is a long list of interest-bearing loans to Japanese companies, rediscounted by (and held at) the BoJ on behalf of the Japanese Government.
   
It is true that the Japanese Government has a real debt of about 6% of GDP comprised of government borrowing from personal savings in the Japanese Post Office Savings Bank (and that has been the case since 1965) but all the rest of the so-called “Public Debt” is investment credit creation at the Bank of Japan. And the small amount of borrowing from Japanese savers in the Japanese Post Office Savings Bank (JPOSB) is not owed to anyone abroad.

That’s why several Japanese officials have from time to time appeared on TV to explain that the Japanese Government cannot be inconvenienced by the opinions or actions of hedge funds or by foreign bankers or by any reduction in their international credit rating, because these views have no leverage and are almost entirely irrelevant to Japan. The Japanese Government owns all the BoJ rediscounted Japanese commercial and industrial loans, and they are not about to call time on their own companies and their own people. Quite the contrary – Prime Minister Shinzo Abe is about to extend, via the Bank of Japan, credit creation equivalent to another $1.44 trillion to Japanese innovators and industry.

Before you can become a banker, it is said, you must be able to distinguish between a bill – a liability representing an amount the bank owes some third party – and a mortgage – an asset or debt that some third party owes the bank. The two situations of a banker and a borrower may look the same because of the double-entry book-keeping system used in the standard national accounting systems, but they are entirely different. A banker borrows money from depositors and lends it to others – and the borrowings from others are liabilities, or money he owes others, while the lending to others is an asset – money others owe him or her.

Mind you, that’s not a discrimination that the CIA seem competently able to make. If you look at the CIA World Factbook, you will find that the level of Japanese Public Debt in 2012 is said to be 214.3% of GDP, allegedly the highest in the world.

But that entry should approximately read:

1 Government assets (additional money loaned by the Bank of Japan to secondary (mainly City) banks for use as investment credit, loaned by rediscounting existing interest-bearing industrial and commercial loans – about 208.3% of GDP.
2 Source of Bank of Japan created credit – no-cost created credit, created as an act of policy written down as “Savings of the people” theoretically equal to the rediscounted debt but like a company “Goodwill” entry – but not actually owed to anyone – so owed to others – zero.
3 Liabilities owed by the Japanese Government to third parties – about 6% of GDP, monies borrowed from the JPOSB, largely used by the Government for Japanese infrastructure such as roads, hospitals and schools – a real debt of 6% of GDP.
4 The net assets of Japanese Government therefore equal to +202.3% of GDP (= total assets minus total liabilities).

So the Japanese are an asset-rich government. How could their asset mountain collapse? Can asset rich nations go bankrupt? The Japanese Government only owes money to the savers in the Japanese Post Office Savings Bank. Asset mountains built on productive investment credits are interest-earning paper wealth and create real wealth. No-one could call in their “savings of the people.” The Japanese Government does not owe foreigners anything, they have zero sovereign debt. They should be at the other end of the table, with positive income-earning assets of +202.3% of GDP, but the CIA don’t show the positive asset-holdings of governments.

The Japanese Government could ask the BoJ to sell their asset mountain if they chose, but why should they? And if they did, who could easily buy assets equal to over 200% of Japanese GDP? 

2 Estimates of Chinese Public Debt and Assets

The CIA entry on Chinese Public Debt is also incorrect in all respects. The CIA say Chinese Public Debt is 31.7% of GDP (2012 estimate), the 114th highest in the world, less than the 38.5% of GDP (previous year 2011 estimate), but the note says this is

“official data; data cover both central government debt and local government debt, which China’s National Audit Office estimated at RMB 10.72 trillion (approximately US$1.66 trillion) in 2011; data exclude policy bank bonds, Ministry of Railway debt, China Asset Management Company debt, and non-performing loans.”

Now the Chinese economic miracle, like the Japanese one, is built on Shimomuran investment credit economics, involving massive low-cost credit creation at the People’s Bank of China. That credit creation is fully, but wrongly, classified as debt in the Japanese Statistics. It is hardly accounted for in the CIA “debt” table at all. But maybe it shouldn’t be.

The exclusions to the CIA Chinese Public Debt table are more sizable than the inclusions.

Policy bank bonds – perhaps about 8 to 10 trillion yuan raised by the three policy banks of the China Development Bank, the Agricultural Development Bank of China, and the Export-Import Bank of China – are noted as not listed in the CIA estimate.

The construction of China’s 10,000 km of modern, very high speed railways and their associated vehicles are in the Ministry of Railway debt – about 3.1 trillion yuan – also noted as not accounted for in the CIA tables.

The China Asset Management Company debt is also noted as not included in these CIA numbers.

Chinese credit creation, since the turn of the century, has funded the construction of 20 new cities a year of about a million people each. The money that created these massive assets are loans to major Chinese construction companies and are of course non-performing, but it hardly matters: the Chinese government owns all of these loans, with no counterpart debt owed to foreigners. The loan assets owed to the Chinese Government due to these 240 massive new cities are not accounted for in these CIA “debt” numbers, because they are non-performing. The loans involved are probably in excess of 50% of Chinese GDP. but that hardly matters – the Chinese government own the IOU notes.

Capital assets in China’s armed forces are obviously non-performing – so are not included in the CIA table, but they would probably not be accounted for anywhere.

In contrast to the CIA estimate of Chinese Public Debt, several other institutions and banks have provided their independent estimates. Reuters reports:

“Fitch Ratings’ estimate of China’s local government debt is vastly more pessimistic than other analyses, but recent statements from government officials suggest that even Fitch may be too optimistic.

The agency, which downgraded the country’s sovereign credit rating this week, puts China’s overall sovereign debt at 74 percent of GDP by the end of 2012, of which 49 percent is central government and 25 percent is local.”

See
http://uk.reuters.com/article/2013/04/16/uk-china-debt-local-idUKBRE93F05Y20130416

One of the most insightful articles is “How Big Is China’s Debt? The Best Guesses” in
The Wall Street Journal – China Real Time Report” where the article begins:

“The Chinese state owes a lot of money – but even in Zhongnanhai, the secluded compound where the Communist Party’s top brass have their headquarters, no one really knows how much.”

Really? To whom do they owe the money?

A range of six estimates (IMF, RBS. Dragonomics, Capital Economics, and Stardard Charted) are quoted, and the article comments:

“A quick review of estimates finds a range from the International Monetary Fund’s lowish 46% to Standard Chartered Bank’s more worrying 78% of GDP.

“China has one big advantage over neighbors like South Korea and Indonesia that were laid low by the Asian Financial Crisis in 1997 – almost none of that debt is denominated to foreign currency, or owed to foreigners. That means a Greek-style public debt crisis is hard to imagine, according to Andrew Batson of Dragonomics, a Beijing-based research firm.”

From http://blogs.wsj.com/chinarealtime/2013/07/30/how-big-is-chinas-debt-here-are-the-best-guesses/
[Italics added}

So the Chinese, like the Japanese, owe the money to themselves, as is quite usual in a Shimomuran-type economy.

In my view all these estimates may be understated and misunderstood. If I add up my estimates of the total debt extended (or the total investments partially funded) by the PBC to all Chinese companies, industrialists, local authorities, and SOEs via the complex web of funders, all indirectly funded by credit creation at the PBC, the result seems to lie in the range 120% to 130% of Chinese GDP.

3 Conclusions

Neither Japan nor China is in any danger of financial collapse. Their Governments own all the created credit chits, and they are not likely to call these in, however their economies perform.

These Japanese and Chinese so-called government “debts” are actually mainly income-generating financial assets, not debt at all. China, like Japan, is another asset rich country based on the zero cost created investment credits at the PBC.

But the CIA don’t have a table registering the total net financial assets of countries.

As I have advised them, they should have such a table.

© George Tait Edwards MBE 2013

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This post was written by George Tait Edwards