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Ardagna, Silvia, Francesco Caselli, and Timothy Lane, 2004, “Fiscal Discipline and the Cost of Public Debt Service: Some Estimates from OECD Countries,” NBER Working Paper Series, No. 10788 (Cambridge, Massachusetts, National Bureau of Economic Research).
Berkmen, S. Pelin, 2011, “Bank of Japan’s Quantitative and Comprehensive Easing: Are They Now More Effective?,” forthcoming IMF Working Paper.
Bolton, Patrick and Olivier Jeanne, 2011, “Sovereign Default Risk and Bank Fragility in Financially Integrated Economies,” NBER Working Paper No. 16899, March 2011, (Cambridge, Massachusetts, National Bureau of Economic Research).
International Monetary Fund, 2011, Japan: Staff Report for the 2011 Article IV Consultation, IMF Country Report No.11/181 (Washington: International Monetary Fund).
Kallestrup, Rene, David Lando, and Agatha Mugoci, 2011, “Financial Sector Linkages and the Dynamics of Bank and Sovereign Credit Spreads,” mimeo, July. http://forskerskolen.rente.nhh.no/portals/0/Files/lando.pdf
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Indeed, financial assets and liabilities are almost balanced in the financial sector (excluding the Bank of Japan) with financial assets exceeding liabilities by only 3 percent of GDP at end-2010.
These numbers are calculated on an unconsolidated basis. For example, JGBs held directly by households are not subtracted from the assets or liabilities.
Excluding Japan Post Bank due to data constraints.
These variables are included to control for business cycles and risk appetite. Including other variables (e.g., equity returns) to control for risk appetite does not change the results much.
For example, banks may reduce loans to purchase government bonds.
Using first differences, the hypothesis that loans do not Granger-cause govtsec is rejected at the 1 percent level, while the hypothesis of no Granger-causality in the reverse direction is not rejected at the 10 percent level.
Unit root is not rejected for govtsec, deposits, or loans, but is rejected for the residual in the estimated equation. This suggests that the three variables (govtsec, deposits, and loans) are cointegrated and that the results are not subject to endogeneity bias.
According to a recent survey by Teikoku Data Bank (July 2011), 25 percent of manufacturing companies believe that oversea investment will accelerate. Overseas mergers and acquisitions activities by Japanese corporations have already increased significantly to a record of 3 trillion yen (0.6 percent of GDP) in the first six months of 2011.
Over time, oversea investments will contribute to corporate surpluses through repatriation of profits, but in the short term, an increase in oversea investments is likely to result in net cash outflows.
For example, the Cabinet Office projected in August 2011 that assuming an increase in the consumption tax rate to 10 percent by FY2015, the general government overall fiscal deficit (excluding the social security fund) would narrow by only 3 percent of GDP between FY2010-15.
Estimated using regression results in Tokuoka (2010), which report that a decline in corporate or household financial net worth of 1 percent of GDP would raise 10-year JGB yields by 1–2 basis points.
There is some empirical evidence consistent with the view that the impact of a rise in debt on yields is nonlinear and becomes significant once the debt exceeds a certain threshold (e.g., Faini, 2006; Ardagna, Caselli, and Lane, 2004).
This episode was termed the “VaR shock” because the rise in volatility increased risk measures in banks’ internal value-at-risk (VaR) models and led to one-sided selling by banks as they attempted to shed risk (Bank of Japan, 2010).
A large portion of JGB holdings are held in banks’ balance sheet as ‘available-for-sale’ or ‘held-to-maturity’ accounts outside the trading book. Banks would need to provide impairments for the valuation losses depending on the magnitude of the losses (in practice if market value falls below 70 percent of the book value). In case banks apply internal risk-based method and use zero risk weight on their JGB holdings, market investors could price in the perceived increase in risk on bank valuation. A sustained rise in sovereign yields could pose interest rate risks to banks’ balance sheets. Unexpected illiquidity in the JGB market and the uncertain prospect of fiscal consolidation could also dampen their prices.
According to the authors’ estimates, the average maturity rose from 4.7 years at end-FY2005 (March 2006) to 5.8 years at end-FY2010.
For example, so called “FILP shock” took place in 1998 when yields spiked due to confusion over the purchases of JGBs by the Fiscal Investment and Loan Program (FILP) Special Account.
Statistical analysis, however, does not point to a particular direction of causality.
Japan’s CDS market is not very liquid and consists mainly of foreign hedge funds. Foreign investors looking to short JGBs typically acquire short positions on JGB futures, or buy out-of-the-money put options on interest rate swaps.
The analysis uses daily data from 2005 with an ARIMA specification that accounts for the auto-regressive and heteroscedastic features of short-term yield movement. Lagged variables are used as explanatory variables. An ARIMA model applied as a statistical test on sovereign yields suggests that the time series are non-stationary. The regression includes U.S. Treasury and German Bund yields, and the implied volatility of JGB yields as a proxy for investor’s risk appetite. Other risk factors include exchange rate volatility and term premia. These risk factors in essence capture both domestic and external risks.
The hypothesis that 10-year U.S. Treasury yields and 10-year German sovereign yields do not Granger-cause 10-year JGB yields are rejected with F-statistics equal to 51.7 and 35.4 (both p-values close to zero), indicating the statistical significance at the 5 percent level. However, the reverse causality from 10-year JGB yields to 10-year U.S. Treasury yields or 10-year German yields is not statistically significant, with p-values close to 0.3 and 0.2, respectively.
Alper and Forni (2011) suggest a notable spillover of government bond yields from advanced countries by as much as 30 basis points on average across the advanced and emerging economies, after controlling for domestic and global fundamentals.
The IMF’s Global Financial Stability Report (October 2010) and the Bank of Japan’s Financial System Report (September 2010).
The probability-based distress model was developed by Segoviano (2006) and Segoviano and Goodhart (2009) to analyze the interconnectedness and the common dependence on specific shocks. The analysis uses daily data of the equity prices and CDS spreads of large Japanese financial institutions from November 2006 to June 2011. Distress refers to the case when the CDS spreads of sovereign or individual financial institutions exceed the tail 5 percent VaR threshold that is implied by the data.