Why Is the US in Debt to Japan?

The relationship between the United States’ national debt and Japan’s significant role as a creditor often leads to questions about the nature of this financial dynamic. Many may envision direct loans between governments, but the reality is more complex and rooted in global financial markets. This article aims to clarify the interconnectedness of these two economies, explaining how the U.S. federal government finances its operations and why various Japanese entities are prominent investors in its debt instruments.

Understanding US National Debt

The United States national debt represents the total outstanding financial obligations of the federal government, accumulated over the nation’s history. As of early August 2025, the total gross national debt stood at approximately $36.93 trillion. This debt arises primarily when government spending on programs and services consistently exceeds its revenue from taxes and other sources, leading to an annual budget deficit. To cover these shortfalls and finance ongoing operations, the U.S. Department of the Treasury borrows money from the public and various government accounts.

This borrowing is predominantly accomplished through the issuance of marketable securities, which are financial instruments that can be bought and sold in financial markets. The main types include Treasury bills (T-bills), which mature in one year or less; Treasury notes (T-notes), with maturities ranging from two to ten years; and Treasury bonds (T-bonds), which have longer maturities, commonly 20 or 30 years. Additionally, the Treasury issues Treasury Inflation-Protected Securities (TIPS), whose principal adjusts with inflation, and Floating Rate Notes (FRNs).

These Treasury securities are widely regarded as among the safest investments globally due to their backing by the U.S. government. This perceived low risk, combined with their high liquidity, makes them highly attractive to diverse investors, both domestic and international, seeking secure assets. The national debt is categorized into “debt held by the public” and “intragovernmental holdings,” with debt held by the public accessible to foreign investors.

The phrase “US debt to Japan” does not signify a direct bilateral loan from the Japanese government to the U.S. government. Instead, it refers to U.S. Treasury securities held by various Japanese entities. These holders include the Japanese government, the Bank of Japan, private financial institutions like commercial banks and pension funds, and individual investors. Their collective investment in U.S. Treasury securities represents a significant portion of the total U.S. national debt held by foreign entities, with Japan being the largest foreign holder, owning approximately $1.1 trillion as of December 2024. This investment highlights the role of U.S. Treasuries as a foundational asset in global financial markets.

Japan’s Economic Landscape and Investment Approach

Japan’s consistent position as a major holder of U.S. Treasury securities is deeply rooted in its economic characteristics and strategic investment needs. A significant factor contributing to this trend is Japan’s historical tendency toward a high domestic savings rate, which generates a substantial pool of capital available for investment. While household savings rates have seen fluctuations, Japan’s overall gross domestic savings, encompassing corporate and government savings, have remained considerable. This surplus capital seeks avenues for deployment that offer stability and reasonable returns.

Additionally, Japan has historically maintained substantial current account surpluses. The broader current account, which includes net income from foreign investments, consistently shows a surplus. These surpluses mean Japan earns more foreign currency, particularly U.S. dollars, than it spends. This accumulation of foreign exchange reserves necessitates investment into secure, liquid assets to preserve their value and facilitate international transactions.

The domestic economic environment in Japan compels its investors to look abroad. Japan has experienced prolonged periods of low domestic interest rates. Yields on Japanese government bonds remain significantly lower compared to U.S. Treasury securities. This yield differential makes U.S. Treasuries more attractive for Japanese investors seeking higher returns.

Furthermore, Japan’s aging population and the needs of its pension funds and insurance companies play a role. These institutions manage vast sums for long-term liabilities and require investments that provide security of principal and predictable income. Given the low-yield environment at home, U.S. Treasuries offer a compelling option. The safety and stability of the U.S. government, coupled with the liquidity of the U.S. Treasury market, align with the conservative investment mandates of these institutional investors.

The appeal of U.S. Treasury securities to Japanese investors also stems from the U.S. dollar’s role as the world’s primary reserve currency. Holding reserves in U.S. dollar-denominated assets provides Japan with currency stability and facilitates international trade and finance. The depth and liquidity of the U.S. Treasury market ensure large volumes of securities can be bought or sold without significantly impacting their price, providing flexibility for managing portfolios. This combination of capital surplus, trade dynamics, domestic economic conditions, and U.S. Treasuries’ characteristics solidifies Japan’s position as a leading foreign holder of U.S. debt.

How Foreign Entities Acquire US Debt

Foreign entities, including those in Japan, acquire U.S. national debt through a market process, not direct government-to-government loans. The initial step is the regular auctioning of new U.S. Treasury securities by the U.S. Treasury Department. These auctions are conducted to finance government operations and roll over maturing debt.

The Treasury announces upcoming auctions, specifying the security type, amount offered, and auction date. Investors, including large institutions and individuals, can participate by submitting bids. There are two main types: non-competitive bids, where the bidder accepts the yield determined at auction, and competitive bids, where the bidder specifies their desired yield.

Primary dealers play a crucial role in this acquisition mechanism. These large banks and financial institutions are authorized to trade directly with the Federal Reserve Bank of New York. Primary dealers bid competitively in Treasury auctions and act as market makers, facilitating the distribution of new securities. They purchase a significant portion of Treasury securities directly from the government and resell them to clients, including foreign governments, central banks, and private institutional investors.

Foreign entities, such as the Bank of Japan, Japanese banks, or pension funds, acquire U.S. Treasury securities through primary dealers or on the secondary market. This acquisition is a market-driven transaction, reflecting investor demand for U.S. debt as a safe and liquid asset. It is an investment decision made by various market participants, not a direct loan between governments.

Global capital flows influence the demand for U.S. Treasuries. The U.S. Treasury market serves as a cornerstone for international investment portfolios, attracting capital seeking stability and liquidity. While Japan is a prominent foreign holder, other countries like China and the United Kingdom also hold substantial U.S. debt. Domestic entities, including U.S. citizens, mutual funds, pension funds, and the Federal Reserve, collectively hold the largest share of the national debt, providing broader context to Japan’s position.