Japan Is Dragging the World Down with It

Original author: Zhao Ying

Original source: Wall Street CN

Japan's government bond yield has broken above 3% for the first time in 30 years, and Nomura Research Institute warns that this round of global long-term interest rate increases originates from Japan, not from external factors. The combination of Japan's fiscal risks and expectations for monetary policy normalization is spreading globally through the bond market, posing a systemic threat to tech stocks, AI investment, and even the real economy.

The 10-year Japanese government bond (JGB) yield briefly exceeded 3.0% in Tokyo trading, the first time since September 1996. According to the Zhuifeng Trading Desk, Nomura Research Institute Executive Economist Takahide Kiuchi pointed out in a recent report that over the past year, the 10-year JGB yield has risen by about 1.4 percentage points cumulatively, while the increase in the US 10-year Treasury yield over the same period was only about half that of Japan, indicating that the rise in JGB yields is mainly driven by domestic factors rather than transmission from overseas markets.

Takahide Kiuchi believes that in terms of absolute yield levels, JGBs have hit a 30-year high, while US Treasuries have only returned to highs since January 2025, the German 10-year government bond yield is at its highest since 2011, and the UK 10-year government bond yield is at its highest since 2008. Taken together, Japan is more likely to be the source driving global long-term interest rates higher, rather than a passive follower. At the same time, the Trump administration has begun to intervene unusually in Japan's economic policy, pressuring the Bank of Japan to raise interest rates and the Japanese government to tighten fiscal expansion.

Three factors push JGB yields above 3%

According to the Nomura Research Institute report, the 10-year JGB yield approached the 3% threshold in August and finally broke above this round number intraday on September 1, driven by three factors.

First, expectations for Federal Reserve rate hikes have intensified. Federal Reserve Chair Kevin Warsh's remarks at the recent Jackson Hole symposium reinforced market expectations for a Fed rate hike at the September Federal Open Market Committee (FOMC) meeting, putting pressure on global bond markets.

Second, expectations for Bank of Japan rate hikes have intensified. The market widely expects the Bank of Japan to raise its policy rate at the September monetary policy meeting, further pushing up JGB yields.

Third, Japan's fiscal expansion risks have intensified. As of the end of August, the total general account budget requests submitted by Japanese ministries and agencies for fiscal year 2027 were about 20 trillion yen higher than the fiscal year 2026 budget, significantly exacerbating market concerns about the deterioration of Japan's fiscal situation.

Fiscal risk is the main driver of rising yields

Nomura Research Institute decomposed the causes of the 1.4 percentage point rise in the 10-year JGB yield over the past year. The results show that rising inflation expectations contributed about 0.49 percentage points, changes in the Bank of Japan's share of JGB holdings contributed about 0.08 percentage points, the rise in the US 10-year Treasury yield contributed about 0.08 percentage points, changes in real policy rate expectations contributed about 0.15 percentage points, and "other" factors contributed as much as 0.60 percentage points—this item is believed to mainly reflect the risk premium from Japan's deteriorating fiscal situation.

This means that among all factors driving JGB yields higher, the fiscal risk premium is the largest single contributor, far exceeding the impact of inflation expectations and monetary policy expectations.

Takahide Kiuchi pointed out that rising long-term interest rates are not always "bad"—if they stem from improved economic growth potential or rising inflation expectations, real interest rates may not necessarily rise, and the negative impact on the economy is limited. However, if the rise is mainly driven by fiscal risk, it often has a substantial negative impact on economic activity, and this impact is usually more delayed and harder to detect than a rise in short-term interest rates.

Trump administration unusually intervenes in Japan's economic policy

The Trump administration has begun to intervene in Japan's economic policy in an unusual manner. US Treasury Secretary Bessent clearly stated to Japanese Finance Minister Katayama Satsuki and Bank of Japan Governor Kazuo Ueda at the recent G20 Finance Ministers and Central Bank Governors Meeting that Japan needs to clearly communicate its fiscal sustainability path and rate hike plans.

Previously, after the end of the Japan-US joint foreign exchange intervention in late July, Bessent had publicly expressed expectations for the Bank of Japan to raise interest rates. Nomura Research Institute believes that the logic behind the Trump administration's move is: The continued depreciation of the yen and the decline in JGB prices (rising yields) could have a negative impact on the US and even global markets, so Washington is seeking to intervene more proactively in the direction of Japan's economic policy, pushing the Bank of Japan to raise rates and urging the Japanese government to tighten its fiscal expansion stance.

The report pointed out that if the Japanese government gradually adjusts its proactive fiscal policy stance, the risk of Japan's fiscal deterioration will decrease, and the upward pressure on the 10-year JGB yield will also ease accordingly.

Rising JGB yields may trigger global financial market turmoil and cool the AI boom

Nomura Research Institute warns that the global long-term interest rate rise originating from Japan cannot be underestimated in its potential impact on the economy and financial system.

From a macro perspective, rising long-term interest rates will increase government interest expenses in various countries, potentially triggering a negative spiral of "fiscal deterioration—rising yields," while also depressing the market value of bonds in financial institutions' asset portfolios and shaking the stability of their balance sheets. In addition, rising interest rates will also suppress the prices of risk assets such as real estate and stocks.

Particularly noteworthy are technology and AI-related stocks. These assets are especially sensitive to rising interest rates. Takahide Kiuchi pointed out in the report that if the long-term interest rate rise centered on Japan continues, it may trigger a cooling of the AI boom in the stock market. A decline in AI-related stock prices will further weaken the ability of related companies to raise large-scale investment funds through equity or debt financing, thereby putting the brakes on the expansion of physical asset investment in AI infrastructure.

"This may not just be a gradual cooling of global economic activity, but could trigger a sudden economic slowdown," the report wrote. Nomura Research Institute believes that this partly explains why the Trump administration has chosen to take rare direct intervention actions, urging Japan to move away from policy paths that could further depress the yen and push up long-term yields.