While the government technically has the power to increase the money supply directly, our current system isn’t built that way. Of the three forms of money—coins, banknotes, and deposits—the government only issues coins directly, and even then, only in small amounts. With the highest denomination being a mere 500 yen, coins are hardly a practical tool for large-scale funding. Instead, the government raises funds by issuing government bonds and having financial institutions purchase them.
But why take such a roundabout approach? Why not just issue money directly? Simply put, it’s a safeguard against high inflation. History is littered with examples where governments printed money recklessly to cover budget deficits, leading to hyperinflation.
By issuing bonds, the government subjects itself to the evaluation of investors and banks. If they issue too many bonds, interest rates rise, and eventually, no one will want to buy them. This market pressure acts as a leash, maintaining fiscal discipline. Of course, this mechanism breaks down if a government simply forces its central bank to buy up all the debt. However, in most nations today, central bank independence has been strengthened to prevent such pressure. As a result, since the 1990s, inflation had largely ceased to be a global crisis—until the recent surge starting in 2022.
The “Debt” Masquerade
Issuing government bonds is essentially just one way the state creates currency. It only takes the form of debt to maintain a sense of fiscal restraint. Unfortunately, this “look” has led to a widespread and deeply rooted misunderstanding that “issuing bonds equals borrowing money.”
This misconception is championed by a parade of major authorities across the entire political spectrum: the LDP, the CDP, Nippon Ishin, the Ministry of Finance, business federations, labor unions, academic societies, and the traditional media. The leadership of Keizai Doyukai (Japan Association of Corporate Executives), for instance, seems to have an unwavering commitment to austerity, regardless of who is in charge. You would think that as corporate executives, they could at least analyze both sides of the balance sheet—looking at the government’s assets as well as its liabilities (though even that analysis, in my view, is flawed).
The Psychology of “No Free Lunch”
Beyond the internet-savvy crowd, it seems the vast majority of voters share this misunderstanding. People think, “Living within your means is common sense in a household or business; I won’t be fooled by ‘Magic Wand’ economics.” Generally, the intuition that “there’s no such thing as a free lunch” is a healthy defense mechanism against scams.
But as we saw in my previous post, issuing government bonds is not effectively a debt. Looking at the messaging from major parties and the Ministry of Finance, it doesn’t seem like they are operating on some profound economic theory. Rather, they just seem stuck in the same “no free lunch” mindset as the general public.
Meanwhile, I suspect many economists have already realized their mistake—that they were wrong to believe fiscal health should be measured by the size of the deficit or debt-to-GDP. But having preached the importance of these metrics for decades, they likely feel they’ve reached a point of no return. As long as this misunderstanding persists, Japan’s economic stagnation will likely continue.
A Final Clarification
Maintaining sound fiscal policy is important, but it must be judged solely by the strength of inflationary pressures. To focus on debt-to-GDP ratios or “debt per capita” is not just wrong—it is entirely beside the point. I cannot emphasize this enough.
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