BANK OF JAPAN WORRIES ABOUT MARKET COLLAPSE
The Bank of Japan has become increasingly
worried about a possible crash of high-flying financial
markets, Bank of Japan sources said.
    "We're afraid that someday the bubble will burst and that
the deflationary impact on the economy will be very disastrous,"
one source said.
    They said the central bank has embarked on a delicate
policy -- it wants to deflate the speculation that has pumped
up prices sharply in recent months without bursting the bubble.
    Stock prices plunged 393.31 points today, extending the
sharp declines of earlier this month, as the market speculated
that interest rates would rise.
    The Bank of Japan bought 100 billion yen in certificates of
deposit (CDs) via repurchase agreements today to show its
determination to maintain an easy money policy, central bank
officials said.
    Today's CD buying operation was designed to reassure the
market the Bank has not changed its policy, a senior central
Bank official told Reuters.
    "There is a possibility that a deflationary impact would
permeate the economy if the prices of existing assets
collapsed," the Bank of Japan said earlier this month in its
annual economic report.
    Such a possibility has been heightened by what the Bank
sees as excessive speculation in stock, bond and land prices.
    Over the last two years, the stock market average has
doubled, driving price/earnings ratios to over 70, compared
with about 15 on Wall Street. Bond yields have dropped sharply,
while land prices in Tokyo have soared.
    The excessive speculation means the markets are
increasingly out of touch with economic reality and thus more
vulnerable, one central bank source said.
    A collapse now could rob businessmen and consumers of what
little confidence they have in the economy after the
yen-induced recession of the past year, private economists
said.
    Some hard-pressed exporters already make greater profits
through financial dealings than from their basic businesses,
they said.
    "There seems to be an accelerated demand for money to
support transactions in shares, bonds, land and other existing
assets which has little bearing on value added and therefore on
GNP," the Bank of Japan said in its report.
    The increased inclination of investors to seek capital
gains and the accompanying rise in prices of existing assets
could have dangerous implications for the economy, it added.
    In the Bank's view, a major reason behind skyrocketing
prices was its own easy monetary policy and the belief in the
market that interest rates were heading inexorably lower.
    Mindful of the potential inflationary dangers posed by
excessive liquidity, the Central Bank's board recently decided
it had to spell out clearly to the markets that a further
discount rate cut was not in the offing, one source said.
    But the bank had to do that without tightening monetary
policy and running the risk of a market collapse.
    This was achieved partly by a rise in short-term interest
rates, which Bank sources ascribed to seasonal pressures and to
a change in market expectations.
    While denying the bank was tightening monetary policy, a
senior source welcomed the change in market expectations.
    The source acknowledged the shift may have been caused
partly by the decision to press commercial banks to limit
lending in the July/September period. Faster than expected
economic growth and a strong dollar also played a part.
    In the longer run, the Central Bank is counting on a
gradual upturn in the economy to draw liquidity from the
financial markets into productive areas like capital spending,
one Bank of Japan economist said.
    But while it waits for that to occur over the next six
months, it may have to avoid any overt tightening of monetary
policy that could collapse the market and lead to recession.
 REUTER
