Reference News Network, December 22 report: According to a December 19 article on the French newspaper Les Echos website, in the past, Jacques Chirac was elected President of France, the movie "Toy Story" was released, and Sony's first PlayStation entered households across the country. In Japan, it was the last year that the central bank's benchmark interest rate remained at 0.75%. Afterward, it gradually fell to near-zero levels. On December 19 this year, the Bank of Japan decided to raise the rate by 0.25%, bringing it back to 0.75%, which is the level from 30 years ago.

Last year, the Bank of Japan initiated an extremely cautious monetary tightening process. It explained that the inflation-adjusted real interest rate would still be "significantly negative," and the financial environment would remain "sufficiently loose" enough to support domestic economic activity.

The Bank of Japan is trying to find a balance in interest rates: on one hand, the rate needs to be low enough not to impact the profitability of thousands of weakly profitable companies in the country, which have been borrowing at near-zero cost for decades; on the other hand, the rate needs to provide some return on capital to attract capital back to Japan or at least slow down the flow of capital to countries with more attractive returns.

This series of actions has caused the Japanese yen to depreciate significantly against major currencies. This week, 1 euro can be exchanged for 183 yen. In 2012, 1 euro was only worth 95 yen.

Koji Otake of Goldman Sachs' research department said: "One of the goals of raising interest rates is to curb the weakness of the yen. We expect foreign exchange market developments will remain a key consideration in Japan's monetary policy operations."

The depreciation of the yen has delighted foreign tourists and exporters but frustrated Japanese consumers. Japan is highly dependent on imports for food, energy, and daily necessities. For months, the inflation rate has remained above 3%, slowly eroding household purchasing power.

As investors generally anticipated the Bank of Japan's decision to raise interest rates, the market remained almost unchanged after the rate hike on December 19. During the afternoon Asian trading session on that day, the yen even weakened further against the dollar and the euro.

Stéphane Henry of Moody's Analytics noted: "Now, the yen is completely detached from interest rate differentials and economic fundamentals." Meanwhile, the Nikkei 225 index, the benchmark of the Tokyo Stock Exchange, rose more than 1% before and after the Bank of Japan's announcement, continuing its previous trend.

Although most experts believe that this round of interest rate hikes by the Bank of Japan will not trigger fundamental changes domestically, some hope that as the Bank of Japan's interest rates and Japanese government bond yields gradually rise, the strategies of global large funds and domestic Japanese investors may trigger a chain reaction, starting with "carry trades."

They first pointed out: Japan's long-standing near-zero ultra-low interest rates made the yen a "favorite financing currency" for hedge funds and institutional investors. For many years, these players have used so-called "carry trade" strategies: borrowing low-interest-rate yen, converting it into high-interest foreign currencies (especially the U.S. dollar), and then investing in higher-yielding assets in the international market, including U.S. Treasury bonds and U.S. stocks.

Nicholas Smith, an analyst at CLSA in Tokyo, quipped: "The yen carry trade is like dark matter in cosmology — no one knows its exact scale, nor where exactly the money is going." However, he estimated that about $250 billion to $500 billion in funds were invested overseas in this way.

Experts explain that if Japan's interest rates continue to rise and the yen appreciates accordingly, this model of "borrowing yen and investing abroad" will become unbalanced: some large investors might suddenly sell Western assets and convert them back to yen to repay loans.

At the same time, Japanese domestic investors will also find that the interest rate differential between the U.S., Europe, and Japan is narrowing, leading them to partially withdraw funds invested overseas (they hold about $4 trillion in foreign bonds and stocks) and re-deploy them in the domestic market.

Theoretically, these two trends could reduce demand from Japan for Western assets and lead to declines in stock and government bond prices in the U.S. and Europe. However, most experts reassure that the process will be slow and predictable, and will not trigger an imminent crisis. (Translated by Pan Geping)

Original: toutiao.com/article/7586658737177100852/

Statement: This article represents the views of the author himself.