Japan’s Troubling Impact on the Global Financial System

Japan is causing a major headache for the global financial system. The Bank of Japan (BOJ) has maintained its ultra-loose monetary policy for years, keeping interest rates at a record low of -0.1%. While other central banks have started raising rates, the BOJ has stuck to its guns. This has created a significant gap between Japanese bond yields and those in the rest of the world, leading to potential risks for both Japanese investors and global issuers. The cost of hedging overseas investments for Japanese financial firms has also increased due to the large difference in short-term interest rates between Japan and other countries. As a result, Japanese buyers are now facing guaranteed losses when purchasing long-term bonds in foreign currencies. This has prompted some Japanese insurers to sell off their foreign bond holdings. The situation is further complicated by the possibility of rising yields on long-term Japanese bonds if the BOJ abandons its yield-curve control policy. This could lead to a capital repatriation wave, putting pressure on the funding of Western firms and governments. The flow of Japanese capital to the rest of the world, which has been significant in recent years, is expected to decrease. The full impact of these developments is yet to be seen, but it is clear that someone will feel the effects.