Tokyo, March 15 (Bloomberg) -- Bank of Japan Governor Masaru Hayamihinted the central bank might cut interest rates to almost zero whenpolicymakers meet on Monday, saying existing levels of funds at bankshave failed to stimulate the economy. ``The situation seems that it's not leading to boost economic activity,''Hayami told a parliamentary committee. His comments may only reinforce analysts' expectations for a cut in theovernight lending rate, which was lowered 10 basis points to 0.15 percenttwo weeks ago. Fifteen of 16 economists, investors and traders surveyedby Bloomberg expect a reduction. Policymakers are trying to ward off a recession and reverse a slide instocks that sent the main Nikkei 225 index to a 16-year low today. Bankstocks slumped on concern the tumbling value of their stock holdings andrising bad loans may prompt them to seek government aid just two yearsafter a $65 billion bailout. There's ``no merit in delaying a rate cut,'' said Takehiro Sato, aneconomist at Morgan Stanley Dean Witter Japan. ``By waiting, the BOJwould only increase the risks to the economy.'' A return to the zero-rate policy, first introduced in March 1999, wouldcome just seven months after rates were raised for the first time in 10years. The sudden turnaround in policy highlights the fragility of Japan'seconomy when growth in its major trading partners, led by the U.S.,slows.
Investors are betting rates will be cut.
The yield on three-month euroyen futures contracts maturing in June,which shows where investors expect interest rates will be then, recentlytraded at 0.120 percent, compared to 0.25 percent on three-month euroyen deposits. Ten-year bond yields fell 1 basis point to 1.135 percent.
Deflation Resurfaces
When Hayami raised rates in August, he said the economy wasrecovering and the threat of deflation had passed. Those concerns have now resurfaced. Hayami today said there ``aresigns weak demand is also being reflected in falling prices'' and thedecline in stocks reflects the poor economic outlook. Finance Minister Kiichi Miyazawa earlier this week said the economy isbeing gripped by deflation -- where falling prices cut company profits,wages fall and spending slows further. Consumer prices in Tokyo fell arecord 1.1 percent last month from a year earlier. Meantime, reports have showed industrial production had its biggestdecline in more than five years in January and exports to Japan's threemajor markets -- Asia, the U.S. and Europe -- fell, handing the country itsfirst trade deficit in four years. On top of that, the benchmark Nikkei stock index has dropped 25 percentsince interest rates were raised Aug. 11, taking its loss this fiscal year to42 percent. The index fell 409 points to a 16-year low 11,433.88 today,before rallying to close at 12,152.83, a gain of 2.6 percent.
Bank Losses
That's fueled concern some banks will report losses, because from April1, they have to value stocks they hold at market price for the first time. For years, banks have booked gains as stock values rose. Those gainswere then used to offset bad loans. Bad loans at 136 banks totaled atleast 33 trillion yen ($284 billion) at Sept. 30, up 5.1 percent from a yearearlier, according to government figures. The central bank will set policy, taking into account ``the effects of bad-loan write-offs on the economy,'' Hayami said. Just reducing borrowing costs won't solve Japan's problems, analystssaid. ``The difference between rates at 0.15 percent and zero isnegligible,'' unless it's part of a package of government reform, said JamesMalcolm, an economist at J.P. Morgan Securities Asia Ltd. He doesn'texpect the bank to lower rates on Monday.
Inflation Target
A return to the zero-rate policy may be accompanied by more radicalsteps, such as setting an inflation target to indicate how long rates will bekept at zero, some analysts said. ``Cutting rates to near zero will be the minimum, and the bank may gobeyond that and say it's ready to implement more drastic steps,'' saidYukari Sato, senior economist at Nikko Salomon Smith Barney Ltd. Hayami has hinted he has eased his opposition to adopting an inflationtarget or increasing the amount of government bonds the bank buys eachmonth. Taking such steps ``hinges crucially on the'' economy's health, hesaid in a speech last week. ``Just announcing the revival of zero rates won't make much sense,'' saidHiromichi Shirakawa, chief economist at UBS Warburg LLC. ``Investorsare waiting to see how long the BOJ plans to keep rates near zero thistime, and what kind of targets it will use to signal policy.'' When the BOJ first cut rates to zero, Hayami said the policy wouldremain until the bank could see the threat of deflation had passed.Politicians and economists criticized the definition, saying it was toovague.