http://biz.yahoo.com/rb/010317/business_global_risk_dc_2.html

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Saturday March 17, 4:33 pm Eastern Time

Global Markets Spooked by Japan's Banks

By Daniel Sternoff

NEW YORK (Reuters) - It all comes out in the wash.

And as crumbling global stock markets take investors to the cleaners, financial markets are targeting Japan's sickly banking system as the most likely potential systemic risk to the world economy.

``Watch Japan. Japan is a particular tinderbox at the moment,'' Bill Gross, managing director of Pacific Investment Management Company, the world's biggest bond fund, told CNBC.

Japan's banks have been saddled with a mountain of bad loans for much of the last decade, and investors have for years been carping about ineffective government efforts to tackle the problem.

``There are embedded losses of at least 5 to 10 percent of GDP (gross domestic product),'' said Vincent Truglia, managing director of sovereign risk at Moody's Investors Service.

``Anyone who is surprised about problems in the banking system would have had to have had their heads in the sand for quite some time,'' he said.

But a potent cocktail of severe stock carnage, a darker global growth outlook and new Japanese accounting rules that may expose the extent of the banking system's troubles have now sparked fears that the rot could infect overseas markets.

``It has reached the point where things go bust,'' said Carl Weinberg, chief global economist at High Frequency Economics in Valhalla, NY.

CONTAGION EFFECT?

Japan, the world's second largest economy, is again teetering on the brink of recession after a decade of stagnant growth. Political confusion is adding to a crisis atmosphere.

The collapse in the benchmark Nikkei stock index to 16-year lows has heightened worries over Japan's banks, which possess huge equity holdings.

Japanese institutions have been forced to sell assets invested overseas ahead of the end of the fiscal year on March 31 to shore up their books, which have been battered by stock losses.

And to make things worse, the global equity sell-off coincides with accounting rules introduced for the new fiscal year, which require Japanese banks for the first time to report the actual market values of their now-depleted equity holdings.

Tony Crescenzi, chief bond market strategist at Miller Tabak & Co., said that present Nikkei stock index levels ``would essentially render many Japanese banks insolvent under the new accounting rules.''

``The spreading of Japan's problems has increased the systemic risks posed to the world financial system,'' he said.

On Wednesday, shares of global financial services firms, including U.S. giants like Citibank (NYSE:C - news), Bank of America (NYSE:BAC - news) and J.P. Morgan Chase (NYSE:JPM - news), were hammered as ratings agency Fitch placed 19 Japanese banks under negative review.

Japanese institutions own a massive $2.2 trillion in foreign stocks and bonds, and a credit crunch in Japan could hurt North American and European asset markets.

``If the Nikkei continues to fall, that means the banks are in trouble, and that means the Japanese may repatriate securities in order to shore up their economy,'' said PIMCO's Gross.

Weinberg said given Japan's tight links to the world financial system, a ``disorderly shutdown'' of a major bank or trust fund could ripple into world markets by disrupting credit and trading relationships with foreign institutions.

``We have seen banking systems fail, but never a banking system with huge cross-relationships in the world financial system. Any one major Japanese bank will be a much more important shock,'' Weinberg said.

HOLD THE CRISIS TALK

But other analysts say fears of a systemic banking crisis in Japan and ``contagion'' of foreign markets are misplaced.

``Financial markets are undergoing a great deal of stress around the world, so people are looking at what may be the weak link in that system. Therefore eyes are focusing on Japan and Japanese banks,'' said Moody's Truglia.

But he said the Japanese government would ultimately use taxpayer cash to bail out troubled banks should the system be threatened with insolvency.

And given the well-advertised problems of Japan's banks, any crunch should not blindside financial markets.

``By definition, a crisis has to be unexpected. Otherwise it is simply a problem,'' he said. ``If you adequately price in all the risk and have identified where the risks are, you won't get a crisis out of it.''

-- (M@rket.trends), March 20, 2001

Answers

http://biz.yahoo.com/apf/010319/japan_economy_2.html

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Monday March 19, 2:36 pm Eastern Time

Japan Interest Rates May Near Zero

By YURI KAGEYAMA

AP Business Writer

TOKYO (AP) -- Conceding to mounting demands for action, Japan's central bank reverted to what is essentially a zero interest rate policy on Monday in an attempt to turn around the lagging economy and end the dangerous downward spiral of deflation.

Although the steps by the Bank of Japan showed its determination to do all it could to fix the economy, there were questions about how effective it could be without broader reforms initiated by politicians and business leaders.

The zero-interest rate policy the central bank began in 1999, then abandoned in August, did little to cure Japan's more than 10 years of economic woes.

More alarmingly, analysts warned that dangers loomed if the measures don't work, leaving the Bank of Japan with little else it can do.

``The Bank of Japan is making an all-out effort,'' said Tetsuro Sawano, senior economist at Tokyo Mitsubishi Securities in Tokyo, adding there was no guarantee the steps will boost the economy. ``There is a big risk if nothing happens.''

While it did not directly cut interest rates, the Bank of Japan decided at a policy board meeting to take other measures such as increasing the money supply and buying up government bonds, that will end up having the same effect.

The plan is to keep the measures in effect until prices stop dropping.

When the Bank of Japan decided in August to end the zero interest rate policy, it did not see a threat of deflation, in which prices continue to fall, threatening to start a downward spiral that pulls down income and profits.

But the government announced Friday that the economy had entered a state of deflation for the first time since the end of World War II.

The Bank of Japan is reversing the long-standing view of BOJ Gov. Masaru Hayami, who had insisted that counting on easier monetary policy to achieve economic growth would not work without cleaning up the estimated 64 trillion yen ($520 billion) in problem loans weighing on the nation's banks.

Hayami has also pushed for wider reforms, such as helping to ease government regulation and encouraging new types of businesses, as a better way to solve Japan's problems.

But the recent spate of bad news about Japan's economy prodded the central bank to reverse course.

``Japan's economy has failed to return to a sustainable growth path and is now faced again with a threat of deterioration,'' the central bank said.

The major barometer on the Tokyo Stock Exchange plummeted recently to 16-year lows and helped set off declines across the Pacific on Wall Street last week.

The decision comes at a time when Prime Minister Yoshiro Mori is in Washington to meet with U.S. President George W. Bush. Mori told reporters Monday morning he looks forward to explaining the bank's action to Bush. ``I'm certain that it will have a positive effect on our economy,'' Mori said.

With Mori's political future in question, it was unclear what could come from the meeting between the two leaders. Mori is expected to step down as early as next month over gaffes and scandals, and public dissatisfaction has been growing over his apparent inability to boost the economy.

Some analysts remained skeptical whether anything the Bank of Japan could do would bring about quick recovery unless commercial banks start Japan on a clean slate by wiping out their bad loans.

Mitsuru Saito, chief economist at Sanwa Securities in Tokyo, compared the Japanese economy to an ambling carriage hooked to worn-out horses that were not moving forward either by lashes of a whip or a carrot on a stick -- and the driver was the BOJ.

The horses need more than quick fixes like tax breaks on stock investments or easier monetary policy -- both ideas being tossed around by the ruling coalition to help stop the tumble of Tokyo stocks, Saito said.

``The horses are so sick they need surgery,'' he said.

On the Tokyo Stock Exchange, the benchmark 225-issue Nikkei Stock Average, which had surged earlier Monday on hopes for lower interest rates, closed down 0.34 percent. The BOJ moves were announced after the market closed.

It was the BOJ's third cut in interest rates this year. In February, the central bank lowered the largely symbolic official discount rate to 0.35 percent from 0.5 percent, then later that month, it lowered its rate for overnight interbank loans by 0.1 percentage point to 0.15 percent. It also lowered its official discount rate, the rate for central bank loans to banks, by 0.1 percentage point to 0.25 percent.

Government officials welcomed the BOJ decision.

``We have hopes the steps will lead to positive results,'' chief government spokesman Yasuo Fukuda said.

-- (M@rket.trends), March 20, 2001.

``By definition, a crisis has to be unexpected. Otherwise it is simply a problem,'' said Moody's Truglia.

Wrong. A crisis is a turning point.

In premodern medicine a doctor might diagnose the disease (aka "the problem") long before the crisis occurred, the point at which the fever either killed the patient or broke the back of the disease.

he said. ``If you adequately price in all the risk and have identified where the risks are, you won't get a crisis out of it.''

Risk assessment is pure guesswork. The better your knowledge is, the better your guesswork. But because knowledge (especially of future events) is highly imperfect, risk can never be perfectly reflected in price. Big risks are especially hard to price.

A crisis is the point at which uncertainty about an outcome is resolved rapidly into certainty. It is also the moment at which the risk-based price resolves itself rapidly into the true-outcome price. That price shift can be very dramatic and very sudden, even if a certain amount of risk was factored into the price ahead of time.

-- Little Nipper (canis@minor.net), March 20, 2001.

Today is Wednesday. The Nikkei went up 7% today and edged back over 13000, a level that many identify as the break-even point for Japanese banks. What is odd about this is that there is no news to account for this jump. CNNfn is attributing it to the drop in Japanese interest rates, but why? Those rates dropped from effectively zero to effectively zero - the rate was already so low as to be vanishing. In real terms, the drop was purely symbolic.

The obvious reason the Nikkei went up is that buyers came into a thin market. We can only guess what was on their mind, but bouyant optimism about Japan's economy probably isn't the answer.

-- Little Nipper (canis@minor.net), March 21, 2001.

Got gold?

-- Porky (Porky@in.cellblockD), March 23, 2001.