Japan Shouldn't Destabilize U.S. Treasurys

MARCH 15, 2011   THE WALL STREET JOURNAL

By DAVID REILLY

All three of the biggest holders of Treasury debt face issues that could curb their enthusiasm for Uncle Sam's paper.　

The Federal Reserve is scheduled at midyear to wind down its latest program to buy $600 billion in U.S. debt. China is trying to cool its economy, and tame inflation, which could lead to lower exports and reduced appetite for Treasurys. Japan, meanwhile, must rebuild after the earthquake, possibly leading to sales of dollar assets, especially as insurers look to meet possibly $30 billion in claims.

When it comes to Japan at least, the risk it poses to Treasurys shouldn't be overstated. For starters, the Bank of Japan won't want even further yen strength, which has resulted from initial moves to repatriate funds. Japan's exporters, facing dislocation from the earthquake, are already struggling with the yen near all-time highs against the dollar, even as the economy looks set to slide back into recession.

By announcing plans to double the size of its asset-purchase program to 10 trillion yen ($122 billion), Japan's central bank has also ensured that companies will "have a variety of outlets for raising cash in Japan besides selling Treasurys," notes Ward McCarthy, chief financial economist at Jefferies & Co.

And if history is a guide, the Great Hanshin earthquake that hit Kobe, Japan, in January 1995 provides reassurance, says Richard Gilhooly, U.S. director of interest-rate strategy at TD Securities. U.S. Treasury Department data show Japanese investors continued to buy more U.S. debt than they sold in the months after that catastrophe and didn't become net sellers until September and October of that year.

With America's own huge deficits, potential inflation and an end to Fed bond buying to worry about, any confirmation that Japan Inc. isn't a forced seller will be a relief to remaining Treasury bulls.

Write to David Reilly at david.reilly@wsj.com