Free money just Japan's first step

Although the central bank may drop rates today, Mori isn't expected to offer many reforms.

Japanese Prime Minister Yoshiro Mori arrives at the White House today looking like a regent from a crumbling kingdom, with its court in disarray and the value of its treasury dwindling by the day.

But as Japan's stock prices regress to 1985 levels and fears of a collapse in the banking system surge, few here or around the globe have faith that Mr. Mori is poised to present - much less implement - remedies the US is hoping for when the leaders of the world's two largest economies meet today.

While Japan's banks have for years been troubled because they are carrying large numbers of nonperforming loans, they are doubly vulnerable now to recent market swings because they are large shareholders in so many companies.

Yet hope for the embattled Japanese economy may come not from Mori and his increasingly dysfunctional Liberal Democratic Party, but from the Bank of Japan, which is expected to announce a cut in interest rates today.

But even the central bank's decision to cut rates and increase the money supply, which could boost share prices and halt deflation, would be just one step forward. The world is waiting for the government to make reforms the US has been urging for most of the decade.

"It's like Nero fiddling while Rome burns," says Ronald Bevacqua, an economist with Commerzbank in Tokyo. "They're all trying to decide if anyone should take over, or if and when Mori will go, but meanwhile they're not doing anything."

According to several news reports, the Bank of Japan may return to the zero interest-rate policy that it abandoned last August. At the time, the bank disregarded rumblings that its move was hasty, given the frailty of the recovery that the economy appeared to be making last year.

By beefing up the country's money supply and buying government bonds or other financial instruments, the move could help arrest deflation and buoy sinking stock prices.

Such an inflationary push is viewed as a necessary partner to offset corporate bankruptcies that will likely occur if the government pursues long overdue structural reform.

"The only way out is for the Bank of Japan to inflate this entire economy," says Bevacqua. "What it does say ... is that 'we're doing all we can,' so it throws the ball back into the politicians' court," adds Bevacqua.

Mori will present economic stimulus measures in Washington today, Japan's Kyodo News Agency says, and the two nations will announce a joint body on economic policy. But few expect that Mori, whose political epitaph has been written in the Japanese press nearly every day for the past two weeks, has something practicable to show.

Asked why Mr. Bush would agree to meet Mori at a time of such uncertainty in Japan, one US official pointed out that Japanese politicians wanted Mori to meet the new president in Washington ahead of South Korea's Kim Dae Jung, who held talks with Bush the week before last. Kim's arrival before Mori was due to scheduling problems, making it difficult for the US to postpone Mori's visit. Bush has vowed to strengthen lax ties with Japan, America's largest economic and strategic ally in Asia, but relations grew tense shortly after his inauguration when the USS Greeneville submarine sunk a Japanese fishing boat on Feb. 9, killing nine.

The global economic slowdown is being felt even more potently in Japan because the country's fiscal year ends on March 31. Companies are scrambling to boost stock values to prevent their balance sheets from coming up short. Revised accounting laws that force banks to disclose more clearly their exposure to stocks is expected to leave many banks looking insolvent by April, possibly forcing some to declare bankruptcy.

Monitoring the potential turmoil, Fitch, a London-based rating agency, said last week it was placing 19 Japanese banks on "negative review," sending both Japanese and US stocks tumbling.

"The banking system is surviving on the charity of the government, and it is making people fearful that there'll be a collapse of the banking system," says John Hayter, global strategist with Pavilion Asset Management in London. "The last thing the world needed is a banking scare in the world's greatest debtor nation, and that's what we've got."

While investors may welcome rate cuts, broader reforms - and political stability - are needed to counteract jitters that seem to be driving prices even lower, says Keisuke Naito, senior market economist with Mizuho Securities in Tokyo. "Deflation is affecting the market and having a negative impact on people's psychology," says Mr. Naito. In the meantime, Tokyo may be hoping that the US will post a recovery - or at least finesse a soft landing - to help Japan. "If the economy of the US recovers late this year, then only a short-term adjustment is needed in Japan," add Naito. "But the government needs to act - immediately."

(c) Copyright 2001. The Christian Science Monitor

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