The Finance Ministry expects higher long-term interest rates to push up Japan's debt-servicing costs in fiscal 2026 by around 4.5 trillion yen ($35 billion) from the next fiscal year, government sources said Wednesday, factoring in an uptrend in bond yields.
The estimate is based on the assumption that the yield on 10-year Japanese government bonds will be 1.6 percent for fiscal 2026, higher than the 1.1 percent for fiscal 2023 starting in April.
The Bank of Japan is guiding the benchmark yield to around zero percent, only allowing it to trade within a range of minus 0.5 percent and 0.5 percent but financial markets expect the band to widen or eventually be abolished.
Total debt servicing costs, used for debt redemption and interest payments, are expected to rise to 29.8 trillion yen in fiscal 2026, according to the estimate.
Financial markets are rife with speculation that the BOJ will be forced to change its ultralow rate policy even as Haruhiko Kuroda, the current governor whose term ends in April, has rejected the idea of raising interest rates.
The U.S. Federal Reserve and other major central banks have been scrambling to curb inflation with aggressive rate hikes.
Debt-servicing costs already account for a quarter of Japan's budget. Fiscal reconstruction has taken a backseat in recent years despite the debt being more than twice the size of the economy after the government stepped up spending amid the COVID-19 pandemic and as the result of inflation partly caused by Russia's war in Ukraine.
Swelling debt-servicing costs could add pressure on the government to trim other spending, in areas such as social security, public works and education.
The government plans to substantially increase defense spending in the years ahead to cope with security threats from China, North Korea and Russia but has so far ruled out the issuance of government bonds to secure the necessary funding.
On the assumption that Japan's economy will grow 3 percent in nominal terms, the government has set the 10-year yield at 1.3 percent in fiscal 2024, 1.5 percent in fiscal 2025, and 1.6 percent in fiscal 2026, the sources said.
The benchmark 10-year yield temporarily spiked to 0.510 percent on Wednesday ahead of the BOJ's policy decision but ended the day at 0.415 percent.
Japanese Prime Minister Fumio Kishida, who has focused on reviving economic growth before restoring fiscal health, is set to pick a successor to Kuroda, who led the BOJ's powerful monetary easing.
The governor on Wednesday dismissed the idea of expanding the trading band for 10-year yields further from the current band as its inflation target is still far off.