Raphael Stevens

The bank of japan (boj) failed to deliver a Halloween thriller. Even as central banks elsewhere have raised interest rates in recent years, the boj has stuck with its ultra-loose policy, designed to stimulate growth. Japan’s benchmark interest rate sits at -0.1%, where it has been for seven years. And on October 31st, despite building pressure, the bank decided merely to tweak its cap on ten-year government-bond yields. The 1% ceiling on yields, which the bank makes enormous bond purchases in order to defend, is now a reference rather than a rule. Indeed, yields on the benchmark bond are at 0.95%, their highest for over a decade (see chart).image: The EconomistAfter the boj’s announcement, the yen fell to ¥151 to the dollar, its lowest in decades. Inflation, long quiescent, is no longer so low—the boj raised its forecasts for underlying “core” inflation over the next three years. Many analysts expect the central bank to end its yield-curve-control policy once and for all early next year, and to have raised interest rates by April. But even when the boj does finally raise interest rates, it is likely to be by just a fraction of a percentage point, meaning the gulf between Japanese bond yields and those in the rest of the world will remain large, with major consequences for global financial markets. A fright is still in the offing.To understand why, consider the impact Japan’s rock-bottom interest rates and continued intervention to suppress bond yields have had. Low rates at home have generated demand for foreign assets, as investors seek better returns. Last year the income from Japan’s overseas investments ran to $269bn more than was made by overseas investors in Japan, the world’s largest surplus, equivalent to 6% of Japanese gdp. The huge gap between bond yields in Japan and those in the rest of the world now presents dangers to both the Japanese investors that have bought foreign bonds and the global issuers that have benefited from Japanese custom.Jeopardy is particularly apparent at Japan’s largest financial firms, which make big investments abroad. The cost of hedging overseas investments depends on the difference between the short-term interest rates of the two currencies at play. America’s short-term interest rates are more than five percentage points above Japan’s equivalent, and the gap exceeds the 4.8% yield on ten-year American government bonds. This means Japanese buyers now make a guaranteed loss when buying long-term bonds in dollars and hedging their exposure. Hence why the country’s life insurers, which are among the institutions keenest to hedge their currency risk, dumped ¥11.4trn ($87bn) in foreign bonds last year.The huge gap between short-term interest rates means that Japanese investors now have more limited options. One is to continue buying overseas, but at greater risk. Meiji Yasuda Life Insurance and Sumitomo Life, each of which held more than ¥40trn in assets last year, say they will increase their overseas bond purchases without hedging against sudden currency shifts, in effect betting against a sudden rise in the yen. Life-insurance firms are usually conservative, but the longer the enormous gap in interest rates persists, the more they will be encouraged to take risks.Meanwhile, rising yields on long-term Japanese bonds, which will surely rise further still if the boj does abandon yield-curve control, may tempt local investors to bring home their money. Japan’s 40-year bonds offer yields of 2.1%—enough to preserve the capital of investors even if the boj hits its target of 2% inflation. Martin Whetton of Westpac, a bank, says that this prospect ought to worry firms and governments in America and Europe used to a voracious Japanese appetite for their bonds.In such a scenario, a source of demand would turn into a source of pressure on the funding of Western firms and governments. The yen might then surge, as Japanese investors sell foreign-currency debt and make new investments at home. Bob Michele of JPMorgan Asset Management warns of a decade of capital repatriation.The flow of Japanese capital to the rest of the world, which emerged during a decade of easy monetary policy around the world, looks likely to be diminished. Whether the resulting pain will be felt by local financial institutions, or foreign bond issuers, or both, will become clearer over the months to come. What is already clear is that it will be felt by someone. ■For more expert analysis of the biggest stories in economics, finance and markets, sign up to Money Talks, our weekly subscriber-only newsletter. More

Revolut said that it had appointed Francesca Carlesi, a former executive at Deutsche Bank and Barclays with 15 years of experience in financial services, as its new U.K. chief executive.
Carlesi would be in charge of the company’s U.K. operation — which, once it receives a banking license in Britain, would manage the company’s banking division.
Revolut has been struggling to get a banking license in the U.K., after first applying for one in 2021.

Nikolay Storonsky, founder and CEO of Revolut.
Harry Murphy | Sportsfile for Web Summit via Getty Images

European fintech firm Revolut on Thursday said it appointed former Barclays executive Francesca Carlesi as its new U.K. CEO.
Carlesi, who also worked at Deutsche Bank and has 15 years of experience in financial services, was most recently CEO of digital mortgage lender Molo Finance.

A spokesperson for Revolut told CNBC that the move was not linked to its application for a banking license.
Carlesi would be in charge of the company’s U.K. operation — which, once it receives a banking license, would manage the Revolut banking division.
The appointment comes at a time when Revolut is beefing up its local operation amid a long wait to obtain a coveted British banking license. A company spokesperson declined to comment on the status of the company’s application.
A banking license would allow Revolut, which is one of one of the companies featured in CNBC and Statista’s list of the top 200 global fintech firms, to offer lending products, including mortgages, personal loans and credit cards. It would also enable Revolut to get a stickier userbase, which would benefit from insurance on deposits of up to £85,000.
This could become a potentially lucrative line of business for the firm, letting it earn interest income — at a time when interest rates are at multi-year highs.

Since applying in 2021, Revolut has been in negotiations with the Bank of England and the Financial Conduct Authority about getting licensed in the U.K. It has so far faced pushback amid issues surrounding internal working culture, accounting issues, and complex share structures.
Revolut was late to file its accounts earlier this year, which exposed the company to criticisms over whether it is ready to become a fully licensed bank. For its part, Revolut says it has been working to improve its internal controls. More

The U.K. government said Wednesday that it will invest £225 million, or $273 million, into an AI supercomputer, highlighting the country’s ambition to lead in the technology as it races to catch up to the U.S. and China.
The government said Isambard-AI will be the most advanced computer in Britain and once complete, it will be “10 times faster than the U.K.’s current quickest machine.”
The investment comes as the U.K. hosts its landmark AI safety summit in Bletchley Park, the home of the World War II codebreakers.

Bletchley Park was a codebreaking facility during World War II.

The U.K. government said Wednesday that it will invest £225 million, or $273 million, into an artificial intelligence supercomputer, highlighting the country’s ambition to lead in the technology as it races to catch up to the U.S. and China.
The University of Bristol will build the supercomputer, called Isambard-AI after the 19th century British engineer Isambard Brunel. The announcement coincided with the first day of the U.K.’s AI safety summit, which is being held in Bletchley Park.

The U.K. government said Isambard-AI will be the most advanced computer in Britain and once complete, it will be “10 times faster than the U.K.’s current quickest machine.” The computer will pack 5,448 GH200 Grace Hopper Superchips, powerful AI chips made by U.S. semiconductor giant Nvidia, which specializes in high-performance computing applications.
Hewlett Packard Enterprise, the American IT giant, will help build the computer, with aims to eventually connect it to a newly announced Cambridge supercomputer called Dawn. That computer, built by Dell and U.K. firm StackPC, will be powered by more than 1,000 Intel chips that use water-cooling to reduce power consumption. It is expected to start running in the next two months.
The U.K. government hopes the two combined supercomputers will achieve breakthroughs in fusion energy, health care and climate modeling.
The machines will be up and running starting in summer 2024, the government said, and will help researchers analyze advanced AI models to test safety features and drive breakthroughs in drug discovery and clean energy.
The government previously earmarked £1 billion to invest in the semiconductor industry in an attempt to secure the country’s chip supplies and reduce its dependence on East Asia for the most commercially important microchips. More

The Federal Reserve’s rating-setting group on Wednesday unanimously agreed to hold the key federal funds rate in a target range between 5.25%-5.5%, where it has been since July.
This was the second consecutive meeting that the Federal Open Market Committee chose to hold, following a string of 11 rate hikes, including four in 2023.
The decision included an upgrade to the committee’s general assessment of the economy.

The Federal Reserve on Wednesday again held benchmark interest rates steady amid a backdrop of a growing economy and labor market and inflation that is still well above the central bank’s target.
In a widely expected move, the Fed’s rate-setting group unanimously agreed to hold the key federal funds rate in a target range between 5.25%-5.5%, where it has been since July. This was the second consecutive meeting that the Federal Open Market Committee chose to hold, following a string of 11 rate hikes, including four in 2023.

The decision included an upgrade to the committee’s general assessment of the economy. Stocks rallied on the news, with the Dow Jones Industrial Average gaining 212 points on the session.
“The process of getting inflation sustainably down to 2% has a long way to go,” Fed Chair Jerome Powell said in remarks at a news conference. He stressed that the central bank hasn’t made any decisions yet for its December meeting, saying that “The committee will always do what it thinks is appropriate at the time.”
Powell added that the FOMC is not considering or even discussing rate reductions at this time.
He also said the risks around the Fed doing too much or too little to fight inflation have become more balanced.
“This signals that while there is a potential risk for the Fed to do more, the bar has become higher for rate hikes, and we are clearly seeing this play out with two consecutive meetings of no policy action from the Fed,” said Charlie Ripley, senior investment strategist at Allianz Investment Management.

Economy has ‘moderated’

The post-meeting statement had indicated that “economic activity expanded at a strong pace in the third quarter,” compared with the September statement that said the economy had expanded at a “solid pace.” The statement also noted that employment gains “have moderated since earlier in the year but remain strong.”
Gross domestic product expanded at a 4.9% annualized rate in the third quarter, stronger than even elevated expectations. Nonfarm payrolls growth totaled 336,000 in September, well ahead of the Wall Street outlook.
There were few other changes to the statement, other than a notation that both financial and credit conditions had tightened. The addition of “financial” to the phrase followed a surge in Treasury yields that has caused concern on Wall Street. The statement continued to note that the committee is still “determining the extent of additional policy firming” that it may need to achieve its goals. “The Committee will continue to assess additional information and its implications for monetary policy,” the statement said.

Wednesday’s decision to stay put comes with inflation slowing from its rapid pace of 2022 and a labor market that has been surprisingly resilient despite all the interest rate hikes. The increases have been targeted at easing economic growth and bringing a supply and demand mismatch in the labor market back into balance. There were 1.5 available jobs for every available worker in September, according to Labor Department data released earlier Wednesday.
Core inflation is currently running at 3.7% on an annual basis, according to the latest personal consumption expenditures price index reading, which the Fed favors as an indicator for prices.
While that has decreased steadily this year, it is well above the Fed’s 2% annual target.
The post-meeting statement indicated that the Fed sees the economy holding strong despite the rate hikes, a position in itself that could prompt policymakers into a prolonged tightening stance.

In recent days, the “higher-for-longer” mantra has become a central theme for where the Fed is headed. While multiple officials have said they think rates can stay where they are as the Fed assesses the impact of the previous increases, virtually none have said they are considering cuts anytime soon. Market pricing indicates the first cut could come around June 2024, according to CME Group data.

Surging bond yields

The restrictive stance has been a factor in the surging bond yields. Treasury yields have risen to levels not seen since 2007, the earliest days of the financial crisis, as markets parse out what is ahead. Yields and prices move in opposite direction, so a rise in the former reflects waning investor appetite for Treasurys, generally considered the largest and most liquid market in the world.
The surge in yields is seen as a byproduct of multiple factors, including stronger-than-expected economic growth, stubbornly high inflation, a hawkish Fed and an elevated “term premium” for bond investors demanding higher yields in return for the risk of holding longer-duration fixed income.
There also are worries over Treasury issuance as the government looks to finance its massive debt load. The department this week said it will be auctioning off $776 billion of debt in the fourth quarter, starting with $112 billion across three auctions next week.
During a recent appearance in New York, Powell said he thinks the economy may have to slow further to bring down inflation. Most forecasters expect economic growth to tail off ahead.
A Treasury Department forecast released earlier this week indicated that the pace of growth likely will tumble to 0.7% in the fourth quarter and just 1% for the full year in 2024. Projections the Fed released in September put expected GDP growth at 1.5% in 2024.
In the wake of the Fed’s comments, the Atlanta Fed’s GDPNow growth tracker slashed expectations for fourth-quarter GDP almost in half to 1.2% from 2.3%. The gauge takes in data on a real-time basis and adjusts its estimates with the latest information.
Whitney Watson, co-CIO of fixed income and liquidity solutions at Goldman Sachs Asset Management, said it’s likely the Fed will keep its policy unchanged into next year.
“There are risks in both directions,” Watson said. “The rise in inflation expectations, owing to higher gas prices, combined with strong economic activity, preserves the prospect of another rate hike. Conversely, a more pronounced economic slowdown caused by the growing impact of higher interest rates might accelerate the timeline for transitioning to rate cuts.” More