Here are two contrasting facts about Japan. Number one: the yield on 30-year government bonds hit an all-time high of 3.21 per cent earlier this month after a series of weak auctions — a sign, perhaps, that markets are finally becoming concerned about the country’s enormous public debt. Number two: according to Morgan Stanley, Japan’s budget deficit was almost completely eliminated in the first quarter of this year, putting the public finances in their best position for almost three decades.

Which of these is signal and which is noise? Is it a moment for alarm or for optimism about Japan’s finances? A bad election result for the ruling Liberal Democratic party this month, which raises the odds of spendthrift, populist governance, seems like a good reason for markets to worry. But the remarkable and little-appreciated transformation in Japan’s economy since the pandemic makes the second fact more relevant: after decades when it was trapped in a deflationary equilibrium, Japan is on its way to a new regime. Managing the public finances of an elderly, low-growth country will always be difficult, but Japan’s position is no longer obviously worse than Italy, France or the UK, and its immediate fiscal trajectory looks quite a lot healthier than the US. It is quite a turnaround.

To make sense of the shift, consider Japan’s situation during the so-called “l(fā)ost decades” after its bubble burst in 1990. The country suffered from chronically weak demand. Corporates and households both sought to save rather than spend. Prices were in deflation or thereabouts; interest rates were stuck at zero. Wages were flat. To keep unemployment down and the economy afloat, Japan’s government acted as the spender of last resort, stepping in with regular stimulus packages, running persistent deficits that cumulated into a large debt, all without ever doing enough to break free from the deflationary trap. (China’s situation today is somewhat similar.)