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Hovering over discussions of high levels of US government debt is a question: How does Japan do it? The ratio of gross debt/GDP by Japan’s government is remarkably high. Here’s a figure using data from the OECD:
 

Sure, there are some other countries on this figure with high debt/GDP figures, like Greece and Italy, but they have had well-publicized debt crises, where it became hard for the government to issue additional debt without promising to pay very high interest rates. Moreover, when debt from Greece and Italy looked riskier, then all the Greek and Italian banks holding that government debt as an asset also looked riskier, which was one way that the risks of government debt propagated into the rest of the economy. But there’s Japan with a gross debt/GDP ratio of about 230%, and no especially visible debt crisis.

Yili Chien, Wenxin Du, and Hanno Lustig offer an answer to this puzzle in “Japan’s Debt Puzzle: Sovereign Wealth Fund from Borrowed Money” (Journal of Economic Perspectives, Fall 2025, 39:4, 3–26). (For the record, I work at the JEP as Managing Editor.)

A starting point of their explanation is that there is a difference between “gross” and “net” government debt–and how the difference matters. In a US context, for example, the Social Security Trust Fund, which is part of the US government, by law holds US Treasury debt. Thus, in a US context it is common to distinguish between “debt held by the public”–not including this debt held by the Social Security Trust Fund and certain other government trust funds–and gross or total US debt. The logic here is that if the government was only lending money to itself, there wouldn’t be much to worry about; it’s when government debt is drawing on savings from the public (including both domestic and foreign investors) that issues can arise. Here’s a figure contrasting gross federal debt with debt held by the public for the US economy.
 

Chien, Du, and Lustig take this basic insight and run with it. What if instead of just looking at gross debt, as in the OECD bar graph above, we were to look at the “consolidated” debt of Japan, including gross government borrowing, but also various government funds including pension funds and also funds held through the Bank of Japan?

Short answer: When you take all of this into account, the consolidated debt across all of Japan’s government is only 77% of GDP, even though the gross debt is by the adjusted measure Chien, Du, and Lustig calculation ios more like 270% of GDP. When the authors do a parallel calculation for the US economy, they find that the US has consolidated debt of about 83% of GDP. In other words, what looks like Japanese gross debt far above US levels is actually the same as consolidated Japanese governemtn debt below US levels.

You can read the Chien, Du, Lustig paper for a full explanation of how this happened, but here’s a basic version. For three decades or more, Japan has been able to borrow for its government debt at very low interest rates. In particular, the Bank of Japan buys a large share of Japanese government bonds, pays Japan’s government only a low interest rate for that lending, and then in turn pays Japanese banks a low interest rate on their bank reserves. This cheap borrowing for Japan’s government is supported and favored by an array of regulations, including rules that cause Japanese households to accept putting much of their money in low-interest accounts. Indeed, the authors write: “Japanese households hold half of their wealth in low-return demand deposits, providing the government with an abundant and inexpensive funding source. In contrast, the US household allocates a much larger share of its wealth to stocks, bonds, and other long- duration assets rather than deposits. For Japanese households, a much higher share in deposits is mirrored in a much lower financial market participation rate (around 23 percent own stocks, bonds, or mutual funds), compared to US households (well over 60 percent).”

Japan’s government then takes the funds that it has borrowed at low interest rates and invests in stocks. Thus, by 2024, Japan’s government owned Japanese stock equal in value to about 42% of Japan’s GDP, and in addition owned foreign investment (much of it US stock) equal in value to 62% of Japan’s GDP.

In short, Japan’s government has been borrowing at low interest rates and running up a huge gross government debt, but then investing much of that money in the stock market, building up financial assets that make its consolidated debt much lower. For a rough US analogy, imagine that the US govenment had made a decision to invest the $1 trillion that was in the Social Security Trust Fund back around 2001 in the US stock market, instead of holding Treasury debt. The total return in the US stock market since 2001 (price and dividends) is more than 600%, so that original $1 trillion would have climbed to $7 trillion. Or imagine that the US government had run even larger budget deficits during last 15 years or so, when interest rates were low, and invested that money in the US stock market.

So has Japan found both the solution to government debt and a magic money machine, all in one? Not quite. Japan’s fiscal strategy has relied on using financial and banking rules to assure that it could finance its debt cheaply, through the Bank of Japan, which meant that Japan’s households have received much lower returns on their saving. In addition, borrowing money in shorter-term to purchase stock market assets that are only expected to pay off in the longer term has “duration risk.” And for Japan’s government, borrowing in Japanese yen and then using the funds to purchase US dollar assets comes with the “exchange rate risk” that movement in exchange rates could wipe out gains.

In contrast, when the US government issues debt, it borrows at market-level interest rates determined by global financial markets–not interest rates set artificially low by the Federal Reserve. Unlike Japan, the US economy does not have a high level of domestic savings, and relies instead on net inflows of financial capital from the rest of the world. If the US government tried to follow a policy of borrowing even more, and then investing the additional funds in the US stock market, US debt would appear riskier to the rest of the world, driving up borrowing costs for the US economy. In addition, while the US stock market has been an excellent investment over the long run of the last few decades, there have been some notable downs along with the ups–and linking the riskiness of US government debt to the volatility of the stock market would be a risky financial strategy with some severe downside risks.

In short, the government of Japan imposed substantial costs on its citizens and took relatively high financial risks–but at least up through 2024, the risks have worked out for them! (And no, Japan’s government was not hedging against its duration and exchange rate risks.) Similarly, if the US government had been willing to take the risk of putting some share of the Social Security Trust Fund into the US stock market at the start of the 21st century, it would gave moderately reduced (by about one-quarter) the projected shortfall of US Social Security revenues compared to promised benefits over the next 75 years. But because Japan’s high-risk strategy has worked in the past few decades doesn’t mean that a similarly high-risk strategy is a sensible choice for other countries–and especially not for the US government–in the future.

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