bond comparison, japan vs. europe

i am curious why the yield for the 10yr bond for japan is flatter and lower than the european states currently experiencing financial crises. they are both struggling with high national debt and have had bonds downgraded - if anyone can provide a backdrop to this situation i would appreciate it.

will japanese bonds rise in the near future as the recent rating downgrade plays out, or is the difference related to the fact that japan has been trying to keep interest rates low for so long?

10yr bonds:

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Permalink Reply by Prathamesh Godbole on March 16, 2011 at 1:34pm

Most of Japan's debt is held domestically, unlike European debt, which is held by other countries, or banks, 97% or so approximately.

Japan has kept it rates near 0 for so long, with no expectations of a hike, which has led to a flat curve.

I think the JPY being the favorite funding currency, if the markets tank, it'll create a JPY short unwinding causing a selloff in bonds which could lead to slightly lower prices.

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Permalink Reply by Nandan Madhiwalla on March 16, 2011 at 4:04pm

Japan has been keeping interest rates low for a long time. Also they have been experiencing deflation so their real rates are actually higher than the nominal rates. Besides that after the recent tsunami the Bank of Japan is planning to inject total of $220 billion dollars into the banking system which would further keep the interest rates low and cause the prices to rise.

One big difference between Japan and the European nations you mentioned is that those European nations come under the framework of European Central Bank and so they do not have the flexibility to lower interest rates on their own (i.e they cant print euro's) while Bank of Japan can slowly monetize their debt. The reason why this is important i think is because the credit ratings given by the agencies are for default risk and not the risk of monetization. I don't know if the Japanese bonds will bounce back but the difference is because Japan keeps its rates low while the European countries have a lesser control on the interest rates. This is not to say that 10yr yields for Japan cannot rise.

I am not sure what you mean when you say that the 10yr bond for Japan is flatter. Do you mean it has experienced less volatility? Generally you talk about the yield curve being flat or steepened not a particular point on the curve