- The Washington Times - Wednesday, March 30, 2011

Fears that Japan might start dumping some of its vast holdings of U.S. Treasury bonds to pay for earthquake reconstruction have eased in financial markets.

The Asian giant has signaled that instead it will finance the nearly $300 billion cost of rebuilding areas devastated by this month’s major earthquake and tsunami by issuing bonds — a move that would add to Japan’s already sizable public debt but pose little threat to U.S. markets.

The reassurances from Japan come as a relief to investors who shortly after the March 11 quake were bracing for massive sales of U.S. Treasury securities and a major exodus from U.S. markets. The panicky episode briefly drove the U.S. dollar to record lows below 80 yen.

But Japan’s government quickly stepped in to quash the speculation — which was not only hurting prospects for the U.S. dollar and interest rates, but threatened to make it more difficult for Japan’s export industries that depend on sales to the U.S. and are hurt by a rising yen.

In a coordinated intervention with the U.S. Treasury and several other Group of Seven industrialized nations March 17, the Bank of Japan moved to prop up the dollar and soften the rise of the yen — a step that appears to have sufficed for now to calm unnerved investors and markets.

“We see limited likelihood of significant selling of U.S. Treasuries to finance rebuilding,” said David Greenlaw, economist at Morgan Stanley.

The rare move by central banks to stem speculation after the quake — the first such coordinated action in a decade — and the threat of further action by the Bank of Japan will put a cap on the yen strengthening that roiled markets briefly after the quake, according to Morgan Stanley.

The Wall Street firm expects that the small amount of Treasuries sold by the Japanese government and insurance companies to finance reconstruction will not significantly disrupt U.S. or global markets.

Alex Jurshevski, analyst at Recovery Partners, agrees.

Japan has almost $3 trillion of net foreign assets [including $737 billion of U.S. Treasury bonds], but it is unlikely that it will liquidate these to support reconstruction,” he said.

“U.S. and European political pressure will more probably dictate that Japan finance this through an [easing of monetary policy], which will see the yen money supply pumped up in order to accommodate Japanese government-bond issuance,” he added.

While Mr. Jurshevski expects Japan’s own gigantic budget deficits to be further bloated as a result of this strategy, he said the “additional dollops of zombie finance” should pose little threat to the U.S. or global markets.

“The real problem with the Japan disaster is that it has severely hurt that economy and the ability of many of its top companies to contribute specialized goods into the global supply chain,” he said. “The bottom line is that global growth will suffer.”

Because the disaster is expected to pull down growth in Japan and dampen global growth in the short term, some analysts see U.S. interest rates declining — and Treasury bonds rallying — in response to the disaster, at least for a while, making it easier for Treasury to sell its bonds.

Many analysts worry about Japan increasing its huge debt load to finance reconstruction. Japan’s national debt is already the highest worldwide at 200 percent of economic output, about twice the level of the U.S. national debt.

But Robert C. King, economist at the Jerome Levy Forecasting Center, said taking on new debt should not be a problem for Japan.

Like the United States, he said, Japan is able to sustain large debts because the debt is dominated in its own currency, the country has a large and liquid debt market, and it has a stable government with a history of effective tax collection.

“These characteristics, among others, means that Japan can carry much more public debt than countries such as Ireland or Greece without dire consequences” for Japan’s economy, he said.

“In fact, rebuilding from disaster — via increased stimulus from public investment as well as a renewed sense of national unity and purpose — could eventually be the catalyst for a strong and lasting economic recovery in Japan,” he said.

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