Posted on 23-9-2002

Japanese economy - Shaken, Not Stirred
By Alan Marston (photo shows Masaru Hayami, the governor of the Bank of Japan)

The Japanese economy hasn't been favourable for investors for 10 years and
its getting worse by the day.

Japan failed in a vote of confidence, it failed to receive enough bids for
the latest repeat manoeuvre by the Government to shore up the banking
system, yesterday's 10-year bond auction - a clear sign of investor
skepticism that the banking system at the heart of Japanese commerce can
stand many more financial earthquakes. The surprising results — the first
time the benchmark 10-year issue was undersubscribed since the Ministry of
Finance began its auction system in 1989 — sent stock and bond prices
falling and the yen tumbling. The auction came just two days after the
central bank said that it planned to buy stocks from banks to try to
support a shaky financial system. But the announcement, a dramatic policy
reversal by the Bank of Japan, served only to create more confusion among
investors uncertain how the government intended to bolster a crumbling
finance sector recovery and galloping deflation. The central bank usually
invests in cash and government debt, no one expected the Bank of Japan to
surprise the market with a no-confidence vote.

The shortfall of bids will not put the government's ability to raise funds
at risk, Takahira Ogawa, head of Standard & Poor's Asian sovereign rating
team, said today, but "it does highlight the uncertainty among investors.
"Policy disputes among the Ministry of Finance, Bank of Japan and Financial
Services Agency have reached an impasse, to the detriment of investor
confidence," he said, echoing the perceived reality that the Bank of Japan
does not have any answers to the looming collapse of the yen, the banks and
the stock-market indexes leading investors to envision two potentially
negative courses for the bond market.

In one case, the government would issue more debt to finance the central
bank's equity purchases, adding more supply to the market and depressing
prices even further, or, the Bank of Japan might might buy fewer bonds so
it can pay for the stocks.

The central bank's announcement and Prime Minister Junichiro Koizumi's
renewed promises to push Japan's banks to write off nonperforming loans may
also signal, longer term, an end to the grinding deflation that has eroded
corporate profits and economic prospects. If investors believe the economy
and inflation will start to grow, they might start dumping bonds in favor
of stocks. They might, but then again, they might not. Might is right takes
on a new twist.

In yesterday's auction, the Ministry of Finance tried to sell 1.8 trillion
yen ($14.8 billion) of 10-year bonds with a coupon rate of 1.2 percent. Of
the bonds sold to individuals, the government received bids worth just 88
percent of the amount auctioned. By contrast, the government at its last
auction received bids worth 2.5 times the amount of bonds for sale. The
unsold bonds will be sold to a syndicate of financial institutions, the
Ministry of Finance said. The poor result pushed the yield on the benchmark
10-year government bond up 10.5 basis points, or hundredths of a percentage
point, to 1.285 percent, ending a month-long rally in prices that at one
point pushed yields below 1 percent. The confusion in the market was
compounded because banks, the largest buyers of government debt at most
auctions, have moved to the sidelines before the end of the fiscal year on
Sept. 30. Many banks want to sell their bonds to offset losses on their
equity holdings. Any remaining cash has moved into short-term government
bills and notes.

Japanese economy - shaken, not stirred.