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    Rates Fall Below Zero In Japan

    By Paul Blustein
    Washington Post Staff Writer
    Saturday, November 7 1998; Page H01

    In the wackiest manifestation to date of Japan's economic woes, the country's super-low interest rates have fallen below zero on certain types of borrowing.

    The yield on some six-month Japanese government treasury bills fell for a while Thursday to minus 0.005 percent, according to bond traders and news reports from Tokyo.

    In effect, that means people buying those bills were willing to pay the Japanese government a small fee to hold their money -- because they didn't want to take the risk of depositing it in one of Japan's troubled banks, even though the bank would have paid them a small amount of interest.

    To make matters even crazier, some of those investors apparently were willing to accept negative yields, because Japanese banks were lending them yen at even lower negative interest rates.

    It all adds up to a new low for a once-mighty economy that has fallen into a historic slump since its inflated property and stock market "bubble" burst in the early 1990s, leaving Japanese banks saddled with hundreds of billions of dollars in loans that couldn't be repaid.

    Japan's interest rates were already at rock bottom. To revive economic growth the Bank of Japan, the nation's central bank, had lowered the benchmark interest rate to 0.5 percent and the overnight lending rate that banks charge each other to about 0.25 percent.

    But the economy has failed to respond, in part because banks are so loaded with bad loans that they are reluctant to extend new credit at any rate.

    What is happening now is a phenomenon rarely seen in credit markets: Below-zero returns are materializing as investors and lenders scramble to find safe places to park their money.

    Although slightly negative rates do not necessarily mean the economy will worsen dramatically, they stem from fears that it might.

    "It reflects the problems in the Japanese banking system," said Jeff Bahrenburg, a global strategist at Merrill Lynch & Co. in New York. "The government has put forward a plan for rehabilitating the banks, but there are a lot of questions about how well it will be implemented, and it falls short of calling for full disclosure" of problem loans.

    "So there's a confidence factor that's lacking," Bahrenburg said. "What this says is, the markets are skeptical about the plan."

    To understand why some interest rates have gone negative in Japan, it is best to start with the fear in the markets that a major Japanese bank -- or perhaps a number of them -- might collapse under the weight of bad loans, leaving depositors unable to recover much of their principal.

    Even though the chances of such a catastrophe may be small, the markets believe the risk is high enough that many Japanese banks have been forced to pay extra interest, called the "Japan premium," to induce foreign banks to lend them the dollars they need to fund their international operations.

    In recent weeks the Japan premium has risen sharply, to an average of about 0.75 points above what other major international banks have to pay to borrow money for three months. In midsummer the premium was about 0.4 percent.

    According to Bahrenburg and other analysts, the Japan premium is costing Japanese banks so much that in some cases they are obtaining dollars from Western banks through a different route, whereby the Japanese banks leave yen on deposit with Western banks at negative rates of interest.

    Negative rates mean depositors would be able to withdraw slightly less than they put in.

    One implication of what is happening is that people depositing yen with Western banks are worried enough about the creditworthiness of Japanese banks that they are willing to accept below-zero returns so that they can be sure of getting most of their principal back.

    Late yesterday, some of the problem of negative interest rates appeared to be dissipating, as yields rose back into positive territory on Japanese government bills. Dealers cited unconfirmed reports that the Bank of Japan had started lending large amounts of dollars to Japanese banks, easing the pressures on them at least temporarily.

    © Copyright 1998 The Washington Post Company

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