Game Design, Programming and running a one-man games business…

Japan’s economy in Democracy 4: making sense of irrational economics

So… I am currently working on adding Japan as a playable country to Democracy 4, which is still in Early Access. Although I think Japan is super interesting in many ways, especially cultural (very conservative on prisons, super-generous on maternity leave, amazingly high percentage of retired people, very high tech, super-low immigration…), its economics are absolutely batshit crazy. Lets look at some numbers.

Tokyo: the latest stock market darling | Business| Economy and finance news  from a German perspective | DW | 16.01.2018

The current GDP of Japan is 559 trillion yen and its debt is currently 1.328 quadrillion yen, which gives us a debt to GDP ratio of 237%. The country in 2019 (pre-covid) had a deficit of 17 trillion yen. Compare this to the USA in 2019 which had a GDP of $21 trillion, debt of $22trillion, which is a ratio of 104% and a deficit of under $1trillion.

The USA has the dollar, which is the reserve country of the whole world, and I think its fair to say both countries have fairly similar stability in political terms. They are both monetizing this debt by using some form of quantitative easing. The US flirts with helicopter money, but the amounts are relatively small. I think its fair to say the biggest difference between the two is that the US debt to GDP ratio is dramatically lower than that of Japan. In other words, its riskier to lend money to Japans government than the US< by quite a margin, as the economy of Japan looks way less likely to repay that debt than the US. This *should* be reflected in the interest people demand to lend to Japan. lets look at 10 year government bonds:

United States 10 year bond yield: 1.59%

Japan 10 year bond yield: 0.09%

HELP. At this point I feel that someone like me with a decent (but hardly expert) understanding of economics is basically in this position:

Pied Piper

This makes no sense. Would you lend any money to the US government for just 1.59% return? me neither, especially when just splatting the money onto the S&P500 would get you 13.6% a year over the last 10 years, but OMG why on earth would anybody lend money to the Japanese government for 0.09%. It makes no sense, and much more fundamnetally than breaks the simulation for my game Democracy 4!

Basically the game has hard coded into it the attitude of the international bond market when it comes to government debt. The general principles of the code are that every six months the bond market evaluates your country and looks at the debt/gdp ratio, the deficit/gdp ratio, the level of ‘stability’ and inflation in the country, and then decides on what the credit rating should be. The interest rate on the debt is then applied, based on that credit rating. The game assumes that the maximum conceivable debt/GDP ratio is 250% (Japan has broken this!). As the game stands right now, a few turns into a new game on Japan instantly triggers a really bad debt crisis:

The game also assumes that this upsets everybody, really badly, but in fact, this may be outdated because it seems that people generally seem very unconcerned by the size of japans debt. This is possibly because right now the world has other concerns with covid, and also because we have had a post-2008 general global credit crunch which has meant global use of QE to the extent that global interest rates have collapsed. Every country has bad debt and low interest rates, which maybe makes japan look not so crazy…

But it still should be WAY worse than the USA. Japan *is* in a debt crisis, and the way in which it seems to be given a free pass on staggering levels of debt is baffling…and yet this needs to be somehow handled in democracy 4… Hence we reading a lot, and looking for some justifiable ‘fudge factor’ I can code into the game that justifies all this. By any standard Japans credit rating should be something like D right now. In fact… its A.

The clearest explanation i have found so far is “A large portion of wealth is held by seniors who lack financial literacy and prioritize stability rather than return” (source). This also states that most Japanese govt debt is owned by Japanese citizens. This kind of implies I need to hard-code in something that says ‘Japanese tendency to not realize they are making shit investments’, as a modifier to boost the credit rating of Japan. That can’t be right!

There is an argument for saying that the country is more stable, and less vulnerable to external pressure on its debt because its mostly owned by its own citizens. The current economics of the game are actually giving Japans super-high debt about the right impact on the finances, so the problem is mostly that the debt crisis is triggering when it probably should be put off a bit by these factors.

So I suspect my actual solution here is to add a special modifier (domestic debt ownership) for the debt crisis situation , but leave the credit rating and interest rate stuff alone. I suspect this works because although the current bond yield on japans debt is super low, some of it will be much older and potentially paying out higher amounts.

Anyway….fun fun fun. I guess its different to balancing games with laser guns and magic spells.

16 thoughts on Japan’s economy in Democracy 4: making sense of irrational economics

  1. > Japanese tendency to not realize they are making shit investments

    But is it really a shit investment? Maybe in the short term, individually. In the long term, collectively, it seems it might be the only thing keeping the ship more or less afloat.

    > why on earth would anybody lend money to the Japanese government for 0.09%

    National pride? I know it is difficult for us Europeans to grasp. But hear me out. The reasoning is not: “With this investment, I will get the max amount of money”. It’s “With this investment, I get money *and help my country*”. I’m not saying I share it. But I understand it.

    When I visited Japan, I got a *voluntary* guide. She was old. The only thing that she asked me in return was to tell others how great her country was. I can see her totally making that kind of investment.

    1. Nationalism in investment, that makes a particular sort of sense. It’s also reasonable to consider mass delusion from irrational actors in the economic space.

    2. If you are a bank and you can’t get enough credit worthy borrowers to lend to at say 0.2% for 30 years, the 0.09% ultra safe government bond(called JGB Japanese Government Bond) is a an extremely amazing tool to make your balance sheet bigger and healthier.

  2. Ratings aren’t a judgment about how good a bond is as an investment. They’re a judgment of: the bond is a contract; how likely is your counterpart to break their side of this contract?

    Japan’s bonds are denominated in yen, and the Japanese government is the issuer of yens. There is literally no way that they can be forced to default, so unless their politicians are entirely insane (aka they want to default for ideological reasons), their bonds deserve the highest rating by default.

    This may sound crazy when you encounter it the first time, but it really isn’t.

    The thing that matters is real resources. Money is merely an abstraction. One that often works well, but for a monetarily sovereign government the abstraction becomes leaky as hell. Plainly spoken, countries like Japan don’t have a budget constraint; instead, they have an inflation constraint.

    I recommend looking into modern monetary theory a bit. Won’t give you a quick fix for the game simulation though, sorry…

  3. Sure, the credit rating isn’t rating investment return, but given that you have to account for the risk of default within the investment decision, its an effective proxy surely?

    I’m aware of MMT, but frankly I am unconvinced by it. Obviously its true that if they wanted to, the government could just print more yen, but the side effect there is that it dramatically weakens that currency compared to others. In some circumstances this may not matter, but every Japanese citizen that buys imported products or services must surely be impacted if the yen becomes worth half as many dollars?

    Like you say, its ultimately about resources. The government can print more money, but that doesn’t create any more resources, productivity or technology. It just renders existing money in that currency less valuable.

    1. Also, last I heard, the Japanese central bank was EXTREMELY averse to anything that poses any risk of inflation, so they’d be very unlikely to print money to get out of debt.

  4. IMO the world is getting to a point where so much wealth has been generated by advanced economies that people are running out of places to invest it. Japan’s bonds might have a low yield, but they’re 100% safe since the Japanese government is stable and prints its own currency. This makes it a useful hedge against other types of investments since it’s safe. A corporation is not nearly as stable so corporate bonds and stock investments are always riskier than investing in a 1st world country.

    Countries with poor credit ratings tend to be poor countries. Their poverty is caused by instability, and that political/economic instability is a far greater risk to the ability to pay back a loan than any amount of debt to GDP ratio. The Japanese government is not going anywhere anytime soon. So of course it’s a better investment than Egypt for example which has a lower debt to GDP ratio but a less stable regime. Investors would prioritize Japan with a 500% debt to GDP ratio over Egypt.

  5. Can the Japan vs. US interest rates be explained by deflation? Looks like last month the US had 4.2% inflation while Japan was at… -0.2% (deflation!).

    Not getting into different ways of measuring inflation, how you calculate the percentages, etc. etc. but some quick napkin math on the after inflation rates.

    USA: 1.59% – 4.2% = -2.61%
    Japan: 0.09% + 0.2% = 0.29%

    So I guess with that interpretation Japan is paying 2.7% more than the US? Makes sense to me! Still works if you plug in 2% and 0% inflation, it’s just a lot less dramatic.

  6. Thing is, my research shows that the Japanese government is quite definitely printing money (in a way) with its buying of its own debt. I have this in the game as QE, which is a bit of a blunt way to represent it but anyway…
    Basically it makes no sense that Japan is not suffering from inflation, along with a poor credit rating. perhaps everybody is saving like crazy, and the actual underlying inflation rate is massively negative? Japan has had enough economic shocks that you can imagine they have a higher propensity to save than Americans or Europeans.

    1. Japan was facing serious deflation before they started QE on a large scale. So yeah, the underlying inflation is probably quite negative.

  7. These kind of economics are prevalent along the world. You need to model yours accordingly. QE is not inflationary, quite the contrary. It makes government bonds as safe as they can be. It guarantees the debt “will be paid back”, allowing the government to spend money on the economy, taking collateral out of the private sector. In the modern world(post 1990 for Japan), these “stimulus” packages haven’t resulted in high inflation, but they are consistently fighting with deflation.

    Post 2008, the same situation is seen throughout Europe(low growth and inflation and QE) and partly in the USA(low growth and inflation post 2008 except 2021 which is likely transitory) but their long term(20+ year) government bonds yield significantly above 0. Currently the US 30 year is around 2.2% a big difference with German 0.3% approximately indicating tighter financial conditions in Germany than in the US.

    The banking system is mainly a balance sheet construct, way divorced from how the public sees money as. A primer here:

    To accurately simulate economics you need to properly simulate banking, which is extremely complex and extremely interconnected globally in ways we cannot even imagine. Any bank can issue a new financial product(an example is derivatives but there are much more), which will interact in more ways than one with the entire system. I think this can be a feature on Democracy 5 as it requires fundamental changes to how the game works.

    The Debt crisis and the way interest rates work in the game need a complete revamp to somehow accurately simulate the real world major economies. Also, if a sovereign debt crisis(Greek like) will even happen depends on the role of the country in the Eurodollar system and ECB and EU policy for the Eurozone(Greece could be saved, but powers that be chose not to).

  8. “This makes no sense. Would you lend any money to the US government for just 1.59% return? me neither, especially when just splatting the money onto the S&P500 would get you 13.6% a year over the last 10 years, but OMG why on earth would anybody lend money to the Japanese government for 0.09%. It makes no sense, and much more fundamnetally than breaks the simulation for my game Democracy 4!”

    How did Japan get into debt? When I was growing up they were taking over the world with their superior manufacturing.

    My thoughts on the difference between Japan and America, is America doesn’t make anything, it just imports, and is increasingly becoming very polarized politically. Japan is stable politically, because unlike the West it was allowed to remain a homogeneous nation.

    So perhaps it is not a case of lending Japan money expecting a return, it is super rich people looking for a safe law abiding country to park their money in, in case politics in the US boils over, or they go communist. The rich of America have been building bunkers in New Zealand as a hedge against atomic war and pandemics, so perhaps they are parking some of their money in Japan?

    “S&P500 would get you 13.6% a year over the last 10 years”

    If I was the investing type I would play Bitcoin and get 11,000% over the same period. I just realized today, it is not a currency, it is not a store of wealth either, it is in fact a game. I call it Clip The Newbies.

    How to play Clip The Newbies:
    Lure them in with good press and a big pot of money that increases a crazy amount every 4 years. Then put out FUD to crash the market, and buy up as many coins as possible from the newbies that panic sell.

  9. I am Japanese and have investigated this issue. And the answer to why this happens is clear.
    This is because the Japanese government has not completely liberalized the financial markets for government bonds.

    First of all, as stated in the article linked to this blog, half is undertaken by the Bank of Japan.
    The other half is then processed in a unique way that is not found in other countries. Japan has a unique system in which the post office doubles as a savings bank and credit union and spends some of its public interest investment on the purchase of government bonds. Under this system, the post office will underwrite about a quarter of the other half, that is, about one-eighth of the total government bonds.

    Most of the remaining three-eighths are purchased by major Japanese financial institutions, but there are also gimmicks here. There is a legally recognized official cartel agreement between Japanese financial institutions and the government. The content of the agreement is that the government gives financial institutions privileges such as the exclusive right to purchase certain types of government bonds. And in return, financial institutions always buy a certain amount of government bonds from the government.

    These systems allow the Japanese government and the Ministry of Finance to create buyers of government bonds in the financial markets themselves, so no matter how low interest rates are, buyers will always appear.

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