As coronavirus infections in Japan spark increasing alarm, the government has left investors guessing on how much money it will pump into the economy through a third extra budget.

This presents a huge challenge for the bond market trying to gauge how much additional debt will be issued in the current fiscal year through March, along with which maturities will be in focus and the likely impact on yields.

Primary dealers told the government that the market has the capacity to absorb more 20- and 40-year bonds, an official at the Finance Ministry said after a meeting on Thursday. Here are some of the main scenarios seen by interest-rate strategists in Tokyo:

The issuance pipeline for this fiscal year is already at a record ¥212.3 trillion ($2 trillion), which puts pressure on the government to limit additional sales, if it can.

But the risk of a big jump is very real if virus infections increase significantly. Tokyo last week raised its COVID-19 alert to the highest of four levels amid a resurgence of the pathogen across the country — a spike that’s come after Prime Minister Yoshihide Suga called on officials to prepare the third extra budget.

New issuance could run from as low as ¥3 trillion to more than ¥10 trillion, according to the most likely scenarios sketched by strategists. The wide range reflects the lack of public guidance on the size of the supplementary budget itself, with the market coalescing around a figure of ¥10-15 trillion while media reports speculate on a number as high as ¥20 trillion and some members of the ruling party call for ¥30 trillion.

To keep issuance toward the bottom of the range, the Finance Ministry could tap reserve funds of about ¥7 trillion that haven’t been used yet from its first two extra budgets, according to Shinji Ebihara at Barclays Securities.

It is also ahead of schedule in refinancing debt that is coming due, providing another source of funds before selling more bonds.

Daiwa Securities Co.’s Kouji Hamada sees yet another potential scenario — that the extra budget may bring another ¥15 trillion of issuance but that the calendar for sales remains largely unchanged if the same amount of debt is shelved in the government’s fiscal investment and loan program.

Further complicating efforts to narrow in on a consensus figure, the extra budget could be rolled out together with plans for next fiscal year, creating a 15-month budget. The budget for the fiscal year ahead is typically compiled and put to the Cabinet for approval around mid- to late-December.

Ebihara is among those who expect a large chunk of the new issuance to come in the form of short-term debt, with three- to six-month bills seen as a likely focus.

This would be consistent with the second extra budget and the trend in stimulus-related debt issuance globally during the pandemic. And it could also limit the impact on Japan’s yield curve, which has steepened this year.

Yet the uncertainty is still fueling concern about the supply of superlong bonds.

Citigroup Global Markets notes that while the government probably has the capacity to limit new issuance, 10-, 20- and 40-year bonds would be candidates for an increase if the third extra budget is unexpectedly large.

Yield premiums that the 30-year bonds offer over 10-year notes have almost tripled to more than 60 basis points from a low of 24 basis points in March. Yields on the 40-year bond touched 0.7% earlier, a level last seen in March 2019.

More than half of the ¥128.8 trillion issuance plan from the initial budget for the full fiscal year was made up of bonds maturing in 2 to 10 years, while superlong bonds of 20 years and longer and shorter-term bills were both at the low ¥20 trillion level.

The first extra budget in April saw superlong debt increase modestly while bills jumped to ¥37 trillion. The second supplementary package in May brought another modest increase in the superlong sector while bills surged to ¥82.5 trillion.

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