The Japanese government, burdened by one of the highest levels of national debt in the world, is projected to see its debt servicing costs—principal and interest payments—skyrocket to a record high next year amid an expansionary fiscal stance and rising interest rates.

According to the Nihon Keizai Shimbun (Nikkei) on the 23rd (local time), the Japanese Ministry of Finance plans to allocate a record 36.6 trillion yen (approximately 319 trillion won) for government bond redemption and interest payments (national debt expenses) in its budget request for fiscal 2027 (April 2027 to March 2028).

This is an increase of about 46.2 trillion won compared to the initial budget for national debt expenses in fiscal 2026, which was the previous record high. The growth rate of 17% is the highest in the past 20 years.

The sharp increase in national debt expenses is analyzed to have been driven by the rise in the assumed interest rate applied to government bond interest calculations, from 3.0% in the fiscal 2026 budget to 3.8%.

The hike in the assumed interest rate reflects the recent steep rise in Japan's long-term government bond yields, driven by fiscal health concerns surrounding the expansionary fiscal stance of Sanae Takaichi's cabinet, rising inflation, and expectations of additional interest rate hikes by the Bank of Japan.

On the 18th, the yield on 10-year Japanese government bonds, a benchmark for long-term interest rates, rose to 2.945%, reaching its highest level in about 30 years, leading to forecasts that long-term interest rates in Japan are on the verge of entering the 3% range.

Concerns are also growing over a vicious cycle where fears of worsening fiscal conditions drive up long-term interest rates, which in turn increase the burden of debt servicing costs and further weaken fiscal soundness.

Japanese government ministries' budget requests for fiscal 2027 are projected to exceed a record high of approximately 1,135 trillion won. With national debt expenses accounting for nearly 30% of this total, it will constrain the allocation of budgets for other items such as growth investments.

Nikkei pointed out that since the assumed interest rates applied to government bond interest calculations will be finalized during the year-end budget compilation process, if interest rates rise further by the end of the year, government bond costs could swell even more.

During next year's budget compilation process, it has been discussed that the Japanese government will need to secure more than approximately 87.2 trillion won in new financial resources for the Takaichi cabinet's key initiatives, including increased defense spending and a temporary reduction in the food consumption tax, in addition to investments in growth sectors.

The Takaichi administration has established a policy to secure financial resources through increased tax revenues, non-tax revenues, and a review of expenditures.

However, according to medium- and long-term projections by the Japanese Cabinet Office, tax revenues for fiscal 2027 are expected to be around 789 trillion won, an increase of about 59.3 trillion won from the 2026 forecast. This has drawn criticism that it will not be enough to cover both the increase in national debt expenses and the financial resources required for new policies.

Nikkei also pointed out that as Japanese government bonds, which were issued at low interest rates for a long period, mature and are rolled over into higher-interest bonds, the Japanese government's interest payment burden could intensify.

As of last year, Japan's national debt stood at 204.4% of its gross domestic product (GDP), recording the highest debt-to-GDP ratio among major developed countries.

However, some evaluations suggest that the risk of external default is lower than in countries with high foreign-currency-denominated debt, because the majority of Japan's debt is issued in yen-denominated bonds and the proportion held by domestic investors, such as the Bank of Japan and domestic financial institutions, is high.