Japan’s five-year notes rose toward a three-week high before data tomorrow that may add to evidence the nation is mired in deflation. Ten-year bond yields traded near the lowest level this month after China increased interest rates over the weekend to cool its economy, sparking concern trade in the region will slow. Prime Minister Naoto Kan plans to cap new bond sales at 44.3 trillion yen ($534 billion) in fiscal 2011 to finance a record budget for the year starting April 1, according to a proposal approved by the Cabinet on Dec. 24. “Money is prone to flow into the bond market as consumer prices gradually erode,” said Ayako Sera, a strategist in Tokyo at Sumitomo Trust & Banking Co., which manages about $310 billion. “China’s monetary tightening may slow its economic growth, reducing investor expectations for Japanese corporate earnings.” The yield on the benchmark five-year note fell 1.5 basis points to 0.47 percent as of 1:22 p.m. in Tokyo at Japan Bond Trading Co., the nation’s largest interdealer debt broker. The 0.5 percent security due December 2015 gained 0.073 yen to 100.145. The yield fell to 0.465 percent on Dec. 20, a level not seen since Dec. 8. The benchmark 10-year yield added one basis point to 1.16 percent after touching 1.125 percent on Dec. 22, the lowest since Dec. 1. A basis point is 0.01 percentage point. Ten-year bond futures for March delivery rose 0.07 to 139.80 at the Tokyo Stock Exchange. Japan’s consumer prices excluding fresh food declined 0.6 percent in November from a year earlier, unchanged from the pace in the previous month, according to the median estimate of economists in a Bloomberg News survey. The government report is due tomorrow. Deflation, or a general drop in prices, enhances the value of fixed payments from bonds. Budget Poll The People’s Bank of China increased key one-year lending and deposit rates by 25 basis points on Christmas Day in its second move since mid-October. The change took effect yesterday. China was Japan’s biggest export market by the value of products shipped during the six months to Sept. 30, according to Japan’s Ministry of Finance. Kyodo News said yesterday an opinion poll it carried out showed Kan’s 2011 budget plan had a disapproval rating of 76 percent. The government expects new bond issuance to exceed tax revenue for a second consecutive year. “What’s most problematic is that there is almost no visible clue to how Japan will consolidate its finances,” said Sumitomo Trust’s Sera. “With Japan’s finances in this state, 10-year bond yields below 1 percent are not appealing even to domestic investors.” The Bank of Japan today released minutes from a Nov. 4-5 meeting. A few members said “careful attention should be paid to the economy’s vulnerability to downside risks, particularly when the pace of economic improvement remained slow,” according to the minutes. To contact the reporter on this story: Masaki Kondo in Tokyo at mkondo3@bloomberg.net. To contact the editor responsible for this story: Rocky Swift at rswift5@bloomberg.net

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