The article  was first published on CGTN on  Nov21th, 2025.

Cai Guiquan, is an associate research fellow at the Chinese Academy of International Trade and Economic Cooperation, China's Ministry of Commerce (MOFCOM). The article has been translated from Chinese and edited for brevity and clarity. The article reflects the author's opinions and not necessarily the views of CGTN.

Recently, provocative remarks on China's Taiwan region made by Japanese Prime Minister Sanae Takaichi have heightened regional tensions. Coupled with the simultaneous "triple blow" to Japan's stock, bond, and foreign exchange markets, the Japanese economy, already burdened by government debt exceeding 260 percent of GDP (the highest among major economies worldwide), is now under mounting strain. 

The comprehensive economic package she has championed continues to expand. The finalized plan, which encompasses substantial tax cuts, amounts to 21.3 trillion yen ($136 billion) and reaches 42.8 trillion yen once local government spending is included. This represents a notable upward revision from earlier proposals and remains primarily dependent on debt financing, far surpassing last year's level and marking a post-pandemic high. 

Instead of easing pressures on livelihoods and inflation, this policy has produced a negative feedback loop alongside emerging market crises. Japan's annual debt-servicing costs for interest payments have risen to 28.2 trillion yen, further widening fiscal imbalances and amplifying financial risks. Japan's economy is now facing one of the gravest systemic challenges since the postwar era.

The triple blow to stock, bond, and foreign exchange markets sends Japan's debt-laden economy into a downward spiral

Driven by the collapsing confidence triggered by these provocative remarks, combined with policy missteps, Japan's financial markets have recently fallen into a "triple blow" predicament. Risks are transmitting across markets and reinforcing each other, delivering a potentially fatal shock to Japan's debt-laden economic model.

1. Bond market: Ultra-long-term bonds face heavy sell-off, with yields hitting 17-year highs

The spreading wave of sell-offs has hammered government bond prices and sent yields surging, with ultra-long-term bonds suffering the most.  Concerns over fiscal deterioration stemming from the government's massive economic package and shrinking tourism-related tax revenues pushed the yields on Japan's 40-year ultra-long-term bonds above 3.695 percent (the highest level since its introduction in 2007).  The next day, the yield on newly issued 10-year government bonds further increased to 1.835 percent, the highest since the 2008 global financial crisis.

Market sentiment toward the November 19 auction of 20-year coupon-bearing bonds was broadly pessimistic. Katsutoshi Inadome of Sumitomo Mitsui Trust Asset Management noted that although yields are already elevated, fiscal concerns remain the biggest deterrent, making investors hesitant to buy. The closely watched bid-to-cover ratio was previously 3.56, with the 12-month average at just 3.3. A weak result this time could trigger a deeper downturn in the bond market. 

The Bank of Japan, as the largest holder of Japanese government bonds, is gradually scaling back its bond purchases. Beginning next quarter, its monthly purchases across all maturities will fall from 3.705 trillion yen to 3.3 trillion yen, with a faster reduction planned after April 2026. This underscores that the Bank of Japan's ability to backstop markets is weakening. Meanwhile, Japanese institutional investors, such as life insurers and commercial banks, have reduced their holdings of government bonds or even turned net sellers due to fears of mark-to-market losses from rising yields. Foreign investors are also exiting the long-term bond market, contributing to selling pressure across the board.

The spike in yields has directly driven up the government's debt-servicing burden. With outstanding government debt now exceeding 1,300 trillion yen, every one-percentage-point rise in interest rates raises annual interest payments by more than one trillion yen. Meanwhile, the sharp decline in GDP and the widening fiscal gap resulting from the steep drop in Chinese tourists leave the government little choice but to issue additional debt to cover shortfalls. This, in turn, pushes up the yields of government bonds and inflates interest costs, ultimately trapping Japan in a vicious cycle of "borrowing to make up for deficits – rising yields – soaring interest costs – further borrowing." The debt continues to snowball, and the repayment burden is spinning out of control.

2. Foreign exchange market: Yen slides into the 157 range, leaving policymakers in deadlock

Downward pressure on the yen continues to intensify. Weighted down by fiscal deterioration and a widening US-Japan interest rate differential, the yen briefly slipped into the mid-157 range per US dollar in the New York foreign exchange market on November 20, its weakest level since mid-January this year. The strengthening US dollar has added further depreciation pressure. According to the minutes of the Federal Open Market Committee (FOMC) meeting in October, most officials believe that the policy rate is likely to remain unchanged for the remainder of the year. This cooling of rate-cut expectations has pushed the US dollar index higher, indirectly suppressing the yen.

Confronted with simultaneous turmoil in the foreign exchange and bond markets, the Japanese government and the Bank of Japan now find themselves trapped in an impossible dilemma. On the night of November 19, Bank of Japan Governor Kazuo Ueda, Finance Minister Satsuki Katayama, and the Minister in charge of Economic Security Minoru Kiuchi held a trilateral meeting. Afterward, Katayama merely stated that the government would monitor market developments with a strong sense of urgency and did not mention any concrete measures. 

Markets widely interpreted this as a sign that the Takaichi administration remains reluctant to endorse a Bank of Japan rate hike. Eiichiro Miura of Nissay Asset Management noted that the yen's depreciation momentum remains strong. The bond-market sell-off can hardly be contained, with the ultra-long-term market already showing signs of collapse. 

If the Bank of Japan resumes large-scale bond purchases to stabilize the bond market, the yen's depreciation will only accelerate; but if it intervenes in the currency market by raising interest rates, government bond yields will rise even further. Policymaking has entered a complete deadlock.

3. Stock market: Nvidia's financial performance sparks short-term rebound, but long-term risks persist

Confidence erosion and deteriorating corporate earnings expectations have triggered a sharp correction in Japan's stock market. On Tuesday, the Nikkei 225 index plunged 3.22 percent in a single day, closing at 48,702.98, its steepest decline since early April, with semiconductors and other key sectors leading the losses. On Thursday, buoyed by a strong financial performance of US semiconductor giant Nvidia, the Nikkei briefly reclaimed the 50,000-point threshold, ending a three-day losing streak. Yet this rebound does little to mask the market's deeper structural concerns.

Surging government bond yields have driven up market discount rates and corporate financing costs, squeezing profit margins. The weakening yen is further pushing up import costs and intensifying operational pressures. Combined with market anxiety over strained China-Japan relations and the cascading impact of a depressed tourism sector, multiple headwinds are reinforcing one another and driving continued decline in valuations in the stock market.

Cabinet's aggressive debt-financing policies are creating systemic risks and pushing Japan toward debt cliff

Japan's "triple blow" financial market crisis is, at its core, the inevitable outcome of the Takaichi cabinet's aggressive fiscal expansion and diplomatic missteps. Nevertheless, despite intensifying imported inflation and growing downward pressure on the economy, the Takaichi administration has advanced a comprehensive economic package under the banner of "responsible and proactive public finances." 

The core problem is that this policy relies heavily on debt financing. For comparison, last year's supplementary budget under the Ishiba administration totaled 13.9 trillion yen, with 6.6 trillion yen in new government bonds issued to fill the gap. The current fiscal expenditures are far larger than last year's, and new bond issuance is expected to increase substantially, which has already sparked deep market concern.

Goldman Sachs has warned that investor anxiety over the massive scale of new borrowing continues to pressure long-term Japanese government bonds and the yen, and that Japan's fiscal risk premium may re-emerge. More critically, the enormous injection of government funds into the economy cannot offset the rise in import prices stemming from yen depreciation; instead, it risks exacerbating excess liquidity and further fueling inflation. This creates a vicious cycle of "debt-financed issuance – worsening inflation – yen depreciation – higher prices," intensifying pressures on household living standards and magnifying fiscal risks in tandem.

From a long-term perspective, such an aggressive debt-financing approach has fundamentally undermined the sustainability of Japan's debt-laden economy. Japan's economic growth has long been sluggish, and its government-debt-to-GDP ratio is already the highest among major global economies. If its future economic growth continues to lag behind government bond yields, an imbalance will emerge in which "debt accumulates faster than fiscal revenue grows." The government will then be forced to issue new debt merely to service interest payments on existing obligations, causing the debt snowball to grow even larger and pushing Japan's debt-servicing capacity past a critical tipping point. An even more severe risk lies within the financial sector. Should the Bank of Japan be compelled to resume large-scale purchases to stabilize the bond market, it could face "technical insolvency" and lose its ability to regulate markets effectively. 

At the same time, Japanese institutions such as life insurers and commercial banks, concerned that rising yields will deepen their unrealized losses, are trimming their bond holdings, and foreign investors are withdrawing as well. This sell-off, led by Japanese institutions, is far more destructive than a run driven by foreign investors. If it triggers forced asset sales by life insurers, pension funds, and other institutions, it will impair liquidity across Japanese markets and potentially spill over into global financial markets, transforming latent risks into a full-fledged systemic crisis.

What is particularly alarming is the Takaichi cabinet's attempt to obscure Japan's debt risks by reframing them under the guise of "net debt." Confronted with the fact that Japan's government-debt-to-GDP ratio has reached 260 percent, the Takaichi administration instead highlights a "net debt ratio of 133.9 percent," arguing that financial assets such as pension reserve funds can offset debt pressures. 

However, former finance minister Katsunobu Kato has made it clear that the net debt ratio does not mean Japan's debt situation is any less severe. Daiwa Institute of Research has likewise stressed that pension reserve funds are intended for future benefit payments and cannot be freely used for debt repayment. This conceptual manipulation not only fails to allay market concerns over fiscal discipline but also reveals the administration's intent to obscure a worsening debt situation, further heightening investor fears over increasingly lax fiscal governance.

Japan faces dual backlash of geopolitical opportunism and fiscal imbalance

Takaichi's provocative remarks regarding Taiwan and her administration's aggressive debt expansion reflect, at their core, the Japanese right-wing's insistence on geopolitical opportunism at the expense of economic fundamentals. The current turmoil across Japan's stock, bond, and foreign exchange markets, along with the broader debt crisis, is both a rational market reaction to policy missteps and the inevitable consequence of a high-debt, high-dependence model. 

The economic shock and fiscal shortfall stemming from deteriorating China-Japan relations, combined with surging government bond yields, are feeding into a pernicious feedback loop, pushing Japan to the brink of "debt exceeding its repayment capacity." Unless the Japanese government corrects its course swiftly and rebalances the relationship between fiscal and financial policy, the economy may slip further into recession.