A sustained wave of monetary tightening could expose unexpected vulnerabilities in the global financial system, writes Kenneth Rogoff.
The fact that the world did not experience a systemic financial crisis in 2022 is a minor miracle, given the surge in inflation and interest rates, not to mention a massive increase in geopolitical risk.
The UK’s recent financial misfortunes demonstrate the kind of unknowns that could pop up as global interest rates increase. Although Higher interest rates would immediately put pressure on the Japanese government, as the country’s debt amounts to 260 percent of GDP. If one were to integrate the BoJ’s balance sheet, roughly half the government debt bought by the private sector is effectively in short-maturity bonds.
The real question is whether there are hidden vulnerabilities in the financial sector that could be unearthed if inflation continues creeping up and Japan’s real interest rates increase to US levels. That has been the norm through most of the past three decades, even though Japan’s inflation expectations are currently much lower than in the US.
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