why bush must bow to japan's desire for dollars

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    Why Bush must bow to Japan's desire for dollars

    Financial Times; Mar 04, 2004

    Zembei Mizoguchi, who is sitting in Tokyo, will do more to decide who wins the US presidential election than almost anyone else on the planet.

    Mr Mizoguchi is not a campaign strategist, US Federal Reserve chairman or even an online pundit. He is vice-minister in Japan's Ministry of Finance - a very powerful position, but not one that usually gives its holder much influence over the US presidential race.

    But this year is different. Mr Mizoguchi decides how many American dollars Japan will buy each week. Every dollar he buys has a direct impact on long-term interest rates in the US. And long-term rates this year will go a long way towards deciding who walks into the Oval Office next January.

    If you think this is an exaggeration, consider that, in January alone, Mr Mizoguchi bought a record $70bn and poured nearly all of it into the US bond market. He has the authority to buy $100bn more this year and a bill moving through Japan's parliament would double that figure - more than enough to cover even the wildest estimates of next year's US budget deficit. And that is exactly what is happening. Without Mr Mizoguchi, US rates would have to rise sharply in search of other buyers.

    Of course, Mr Mizoguchi is not working directly for the Bush campaign. His goal is to keep the yen at levels that help Japanese exporters sell more products to the US and to Europe. Precisely because of that, you might expect election-sensitive Bush administration officials to protest about intervention on such a grand scale.

    US manufacturers are screaming loudly already and job losses in America's industrial heartland appear to be threatening President George W. Bush's re-election prospects. Just last month, Toyota overtook Ford as the world's number two car company.

    European leaders have definitely noticed Japan's growing hold. During the recent gathering of industrial lead ers in Florida, several prominent Europeans had to be all but tranquillised whenever the subject of Japan's dollar-buying campaign came up. But there was nary a word of protest from US leaders.

    To be fair, Bush officials are more sympathetic to Japan's recovery struggles than their European counterparts and Japan has allowed the yen to strengthen quite a bit since being initially savaged by John Snow, Treasury secretary, in Dubai last autumn.

    But they also know that, when Japan buys dollars to keep the yen cheaper, most of that money goes into US government bonds and that, in turn, has kept long-term interest rates extraordinarily low in spite of exploding US budget deficits and strong economic growth.

    Fed chairman Alan Greenspan's comment this week that Japan's currency interventions may be close to ending was merely a warning to Tokyo not to push things too far. Nevertheless, Bush officials remain well aware that low US interest rates keep the housing market booming, consumers spending and the economy much stronger. All of that has helped offset weak employment numbers that would otherwise doom Mr Bush's re-election bid.

    Higher long-term rates would hit homeowners twice over. First, their houses would be worth less and be harder to sell, thus cutting into their sense of security and liquidity. Second, as most new mortgages have adjustable interest rates, homeowners would be paying more each month, leaving them with less cash to spend.

    If homeowners felt less confident about their main store of wealth and had less spending money, they would reduce spending in shops. Any serious slowdown in consumption and you can kiss this economy goodbye.

    All of this brings us back to Mr Mizoguchi in Tokyo. Without Japan's truly unprecedented buying of US bonds, interest rates would shoot up and the US housing market would crack. This is particularly true as other big Asian buyers of dollars have shied away from the US market in recent months. If Japan steps away from defending the yen and thus from buying American bonds, the full weight of the current budget deficits will be felt in US markets for the first time.

    So, for now, Karl Rove, Bush campaign strategist, should keep two important points in mind if and when he begins thinking about international monetary policy.

    First, keep that steady downward pressure on the dollar in place, at least until later this year. Second, if you run into Mr Mizoguchi in the US Treasury headquarters in Washington, stop for a moment and thank him. But just remember, you should bow imperceptibly lower than he does.

    The writer is chairman of Medley Global Advisors in New York

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