Japan's interest rate cut

I was surprised by Japan's central bank decision to cut their current rate of 0.5% to 0.3%.

It's true the domestic market never completely recovered from the 1990s. The rate cut was explained as a way to ease the credit crunch (small business has complained of difficulty in getting loans) and as a sign to global markets that they were a player in the world response (the US S.Korea, China, Hong Kong and Taiwan also cut rates this week). But 5% drop in the Nikkei on Friday seemed to deem the gesture ineffective, although the market had surged 10% on Thursday in anticipation of the news.

What is likely to do more for the economy is the 27 trillion yen ($275 billion) stimulus package announced Thursday by Prime Minister Aso. The credits for small businesses and a cash payback to every household should have a short term effect.

Yet Japan has to do something to respond to the rising yen, which drives their export-driven economy down. The reason I was surprised by the interest rate drop is because the rise of the yen correlates to investors borrowing yen at its perennially low interest rates* and then make a killing investing that same money in other currencies. This works when the markets are stable, but now they are divesting those other currencies and buying back yen, thus the surge in value.

Japan's banks are still sitting on a big stash of cash, but interestingly, one weak spot is their traditional practice of "cross shareholding", "where banks and their borrowers hold stakes in each other to cement ties" (WSJ 10/28/08). These holdings by Japanese banks are 3% of the stock market and were hit by the huge decline in stocks (40% since June). Yet Japanese banks are not expected to report losses and recently bought stakes in Lehman Brothers Asia and Europe, Morgan Stanley and Union BanCal Corp.

I've been hearing that the next US shoe to drop will be credit card debt. This would not be an internal Japanese problem because individuals rarely use credit cards. To function best in Japan, you need travel with cash.

* The interest rate was only raised to 0.25% in July 2006 and to 0.5% seven months later in February 2007. Today's rate cut is the first time since March 2001. There was a five year stretch when the interest rate was held at zero.


Sources: Sources: http://www.nytimes.com/2008/11/01/business/worldbusiness/01japan.html

http://hosted.ap.org/dynamic/stories/A/AS_JAPAN_CENTRAL_BANK_ASOL-?SITE=YOMIURI&SECTION=HOSTED_ASIA&TEMPLATE=ap_national.html