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A complicated task

By Anthony Rowley   
  • Asia
  • Global
  • Japan
Banking turmoil muddies the water for Japan’s new central bank chief

Japan had plenty of banking issues of its own even before the recent bank turmoil sparked by the collapse of a couple of regional US banks and then Credit Suisse rocked markets and alarmed banking regulators. The issues for Japan arise mainly from impending changes at the helm of the central bank and their impact on monetary policy.

Newly minted Bank of Japan Governor Kazuo Ueda and his lieutenants are trying to normalise the monetary policies of outgoing chief Haruko Kuroda, which have brought economic stability to the country at the cost of distortions to the financial system. The team’s task is now complicated by the collapse of Silicon Valley Bank and Signature Bank in the US, and the rescue of Credit Suisse through a merger with Switzerland’s largest lender UBS in a deal engineered by Swiss regulators. 

Apart from the issue of how these developments will be transmitted to Japan, questions now loom large over everything from the transition away from rock bottom interest rates toward a more “normal” monetary policy and their impact on the foreign exchange, stock and bond markets.

Officials from the BoJ, the Finance Ministry and the Financial Services Agency met in a special session on March 17 and agreed to closely monitor the developing impact of the international banking tremors on Japan’s financial system.

Two days later and hours after the announcement of Credit Suisse’s rescue, the central banks of Japan, Canada, England, Switzerland, the European Central Bank and the US Federal Reserve announced coordinated actions to boost US dollar liquidity via existing dollar swap line arrangements.

Japan’s chief Cabinet Secretary Hirokazu Matsono welcomed the move but also emphasised that the Japanese banking system is not at risk of contagion.

Speaking at a panel discussion in Tokyo on March 17, Sayuri Shirai, a professor at Keio Universtity and former member of the BOJ policy board, described circumstances surrounding Credit Suisse’s collapse as “unique”. 

Another speaker, Tohru Sasaki, head of Japan markets research at JPMorgan Chase in Tokyo, argued that Credit Suisse was a “liquidity and risk management issue and not necessarily systemic”.

According to Shirai, some 70% of total deposits at Japanese banks are from individuals and are stable while the corporate deposit base is well diversified, so there is little fear of bank runs. But while fallout from the banking turmoil may have little direct impact on Japan’s megabanks, the contagion effect in credit markets could damage smaller banks that have raised their international lending.

Regional banks face losses

The chief concern is over the 62 Japanese regional banks which act as leading banks in their regions, serving individuals, companies and local governments through branch networks. These banks have diversified significantly into overseas lending in recent years in order to escape a stagnant lending market in Japan, and hold quite a large part of their assets in foreign bonds. 

According to veteran Japan analyst Jesper Koll, who also participated in the panel discussion, these regional lenders are facing some 1.4 trillion yen (US$11 billion) of unrealised losses on their foreign bond holdings as a result of steep rate hikes in the US and elsewhere.

The megabanks and other large lenders also face losses on bonds, although the number is smaller relative to their total assets compared to the regional banks. The “value at risk” on bonds held by larger banks in the event of a 200 basis point rise in interest rates was some 2.3 trillion yen as of mid-2022, according to the BoJ.

How far and how fast the BoJ might raise rates under its new governor who takes office on April 8 is the subject of much speculation. The central bank currently maintains a minus 0.1% short-term rate while capping yields on the benchmark ten-year Japanese government bonds at around 0.5%.

Few expect Ueda to change this yield curve control policy quickly. But with consumer price inflation in Japan having touched 4%, double the BoJ’s annual target rate , continued food price inflation, and rising wage increases, pressure for change is growing.

Sasaki believes the BoJ will probably call an extraordinary meeting of its policy board to clarify policy by June while avoiding clashes with the Golden Week holidays that begin in late April and the Group of Seven summit in Hiroshima in May. Neither he, Shirai or Koll expect any significant shift in the BoJ’s yield curve control policy at that time.

Ueda is a “pragmatist rather than a dogmatist” and will await market developments before moving, according to Koll. He also believes that Ryozo Himino, the new deputy governor who is a former head of the Financial Services Agency will wish to cushion Japanese financial institutions against any sudden shocks.

Under Kuroda’s yield curve control policy, the BoJ has bought 52% of all Japanese government bonds as well as exchange-traded funds representing more than 5% of the popular Topix stock index. Any sudden change in holdings could create market turbulence.

Another key issue that the BoJ’s new regime will need to contend with is the possible impact of policy shifts on the yen exchange rate. Sasaki expects that, with a 400 basis point gap between US and Japan short-term yields, the yen will “remain weak”. However, Shirai sees dollar weakness ahead as a result of  slowing growth and financial turmoil in the US.