(Bloomberg) - Former Treasury Secretary Lawrence Summers said that what unfolds in Japan is among the key financial developments he’s now watching, given the potential for difficulties should the country need to abandon its pegged bond-yield policy.
“There’s been a lot of borrowing money in Japan to finance things all over the world,” Summers told Bloomberg Television’s “Wall Street Week” with David Westin. “So if Japanese interest rates start to change, that could be a pretty big deal.”
Bank of Japan Governor Haruhiko Kuroda has kept a zero percent target for 10-year government bond yields, along with a negative short-term benchmark rate, even with inflation surging to the fastest in more than three decades. Observers expect Kuroda -- who argues Japan’s price gains aren’t sustainable and are only temporarily being propelled by energy and other costs -- to stick to his stance until his term ends in April.
Difficulties may ensue whenever the BOJ does shift tack, according to Summers, a Harvard University professor and paid contributor to Bloomberg Television. He drew parallels with other incidents from economic history when fixed policy price targets were abandoned.
“Whenever you peg things -- whether it’s an exchange rate or the interest rate or you stabilize the price of a commodity -- it’s always easier to begin stabilizing it by saying the government’s committed to maintaining a price than figuring out how to manage the situation when you no longer want to be committed to that price.”
Switzerland saw its exchange rate strengthen sharply after it abandoned a cap on its currency versus the euro in early 2015. Later that year, China needed to deploy capital-control measures and spend a portion of its foreign-exchange reserves after it devalued the yuan and pledged to reduce management of the currency and give markets a greater say.
China’s move in particular had ripple effects across the globe, with the turmoil even contributing to a decision by the Federal Reserve to forgo an interest-rate increase.
Pressures have been mounting on the BOJ not just from inflation, but from a rapidly depreciating yen. It approached 152 per dollar on Friday, reaching the weakest since 1990. It’s tumbled 22% this year, a move that’s driven up Japanese import costs and tipped the trade balance into a record deficit.
Japanese authorities have intervened to buy yen in an effort to support the currency. That’s effectively taking liquidity out of the Japanese financial system, at the same time that the BOJ is injecting liquidity through its continuing bond purchases, Summers highlighted last month.
“It’s an extraordinary thing that they’re doing in Japan,” Summers said in late September. “There are vast holdings of fixed-income instruments globally in Japan, so that’s something that all of us concerned with the markets need to keep our eye on,” he said at the time.
By Christopher Anstey
