No, Sovereign Currency Nations Don’t Go Bankrupt

National debt continue to dominate economic and political talk. This week Moody’s bond rating agency downrated Japan’s national government debt. The Serious People and Talking TV Heads will be full of dire prognostications for Japan. Of course, I don’t see why we should believe Moody’s or S&P anymore after they reassured us for years that sub-prime mortgage-backed securities were AAA rated secure stuff.  It’s clear they live in an alternate reality world. And that’s where the dire prognostications for Japan belong too – in an alternate reality world, not this one.  Krugman in his NYTImes blog reminds us what happened to Japanese interest rates the last time their debt was downrated to only AA, not even AA-:

Amid all the stories about the S&P downgrade of Japan, I’ve seen hardly any mentions of the fact that Japan was downgraded below Botswana in 2002. And here was the effect on the interest rate:

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Nada. In fact, if you bought JGBs just before the downgrade, you ended up doing very well.

I’m not saying that Japan’s long-run budget situation isn’t troubling. But the rating agencies (a) don’t know anything the rest of us don’t (b) are way too quick to downgrade sovereign debt, especially as compared with their what-me-worry attitude toward private securities (c) have very little actual influence on market.

Japan is an advanced industrial nation with a sovereign fiat currency that borrows in it’s own currency. Much like the U.S., Canada, and Australia. But “Japan has close to 200% debt-to-GDP ratio! ” the debt terrorists scream.  It’s going to collapse and go bankrupt, they say.  The truth is not in this real world.  It’s perfectly supportable. There’s no need to for drastic austerity measures in Japan. Just like there’s no debt problem in the U.S. where the ratio is only around 70-75%.