Commentary: Why The Daiwa Scandal Is Just A Blip

The headlines scream about U.S. help for Japan's ailing banks while congressional leaders summon witnesses on the Japanese coverup of a Daiwa Bank Ltd. bond-trading scandal in New York.

A Japanese meltdown? Major strains between the two governments? Hardly. What's really emerging is mounting evidence of a much deeper two-way flow of financial benefits that's tying Washington and Tokyo together as never before.

This financial compact began taking shape this summer. After blithely watching the dollar sink to extract trade concessions from Tokyo, Washington changed course as the Federal Reserve and Bank of Japan reined in a super yen that had threatened to push Japan into recession. The yen snapped out of trading in the 80 range and has achieved a remarkably stable value of about 100 to the dollar.

PRIORITIES. Washington's swerve from confrontation to conciliation stemmed partly from genuine worries about Japan's banking system. The banks are, after all, grappling with an estimated $800 billion in problem loans. But the new tone also owes much to the shifting priorities of Clinton Administration strategists facing an election in 1996 and the still considerable clout of Japanese investors, who collectively hold roughly $220 billion in Treasury bonds. During 1994, Japanese investors snapped up $43.2 billion worth of U.S. notes and bonds.

These are ties that bind. Having lived beyond its means for years, the U.S. relies on Japan to recycle surplus yen into Treasuries to cover budget shortfalls and trade deficits. Should Japan pull out, U.S. interest rates would soar. "We don't want to see that--nor does Washington," says a source in the international finance bureau of Japan's Ministry of Finance.

One reason it isn't likely to happen is a little noticed but important step MOF took in August. The ministry gave Japanese life insurers more freedom to recycle $1.8 trillion in assets into foreign-denominated bonds. The results were mutually beneficial. Japanese investors won access to U.S. yields, which are higher than interest rates offered at home; Americans in turn are enjoying a sharp capital influx. The proof: U.S. interest rates have plunged to their lowest level since early 1994.

Meanwhile, the yen's new value should help improve earnings, as reflected in the 24% advance in the Nikkei 225 from this year's low. A $140 billion economic-stimulus plan could help lift the economy out of its four-year stagnation. That might give MOF enough leeway to take a broom to Japan's banking system.

All of which explains why Washington is helping itself as much as it's helping Japan. And why the Daiwa incident is just a blip. Tokyo and Washington are engaged in mutual back-scratching on a massive scale. It's not clear whether the two quietly negotiated the arrangement or whether it happened because both sides needed something from the other. However it occurred, the deeper financial relationship will prove more enduring than today's headlines.

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