Foreign holdings of Japanese Government Bonds (JGBs) rose to nearly $1 trillion earlier in June, according to data from the Bank of Japan. At the end of the fiscal year on March 31, foreigners owned about 8.3 percent of all outstanding JGBs, the highest level since 1979 when the central bank started keeping such records.

Japanese debt levels, though high, have been financed by domestic investors and backed by about $15 trillion in household savings. But the increase in foreign ownership could make JGBs more susceptible to yield spikes if non-residents start asking for a higher return, posing a problem for the government.



"It (JGBs) is the mother of all bubbles. The big problem for the Japanese is that they're addicted to debt and much more so than the Europeans," Brad McFadden, Founder of Daily Trading Report, an investment newsletter, told CNBC's "Cash Flow" "You look to debt-to-GDP ratio, which everyone knows is 230%."

He adds that currently half of the government's revenue goes to paying the interest rate on these bonds. "It doesn't take a rocket scientist to work that if those rates start ticking up, for whatever bizarre reason, you may see the Japanese government spending 100 percent of its tax take on pure interest-rate servicing and that's a very dangerous position to be in," McFadden said.

The 10-year JGB yield stood at 0.810 percent on Thursday, compared to 1.625 percent on comparable U.S. Treasurys.

Andy Xie, an independent economist, agrees that Japan's debt situation is not sustainable and that the country is becoming increasingly reliant on foreign capital flows. Even though the yield on 10-year JGBs is less than 1 percent, the interest expense is expected to top 22.3 trillion yen ($280.6 billion) in the current fiscal year, Xie said.

"This is one-quarter of the budget," he added. "If the bond yield rises to 2 percent, the interest expense would surpass the total expected tax revenue (this year) of 42.3 trillion yen."

Xie added that Japan is caught in a vicious cycle - it needs a strong yen so that yields, and hence interest costs can stay low, but a strong currency kills domestic companies.

"A strong yen makes people willing to take on the low yield, people think that by buying into the Japanese yen, they may make (money) on capital gains," Xie said. "But once people realize that a strong yen is really hollowing out the Japanese industry like automakers and electronics firms, there will be a real backlash."

Another expert who is worried about high levels of debt is Richard Duncan, Chief Economist of Blackhorse Asset Management, and also the author of "The New Depression: The Breakdown of the Paper Money Economy."

According to him, since the 2008 financial crisis the private sector hasn't been able to take on more debt, because they weren't able to repay older debt. But, he adds "governments have been taking on more and more debt and financing it with paper money creation (printing money).

"Over the longer term that's not sustainable. The real problem will come not in the near-term, but further out, 5, 10 years."

- By CNBC's Jean Chua.