MNI POLICY: BOJ Vigilant As Banks Up Liquidity Demand

Commercial banks are moving faster than expected to secure liquidity as interest rates rise, heightening the Bank of Japan’s vigilance over stronger demand for funds and its impact on money-market rates and current account balances, MNI understands.

BOJ officials are paying close attention to how rate hikes have affected banks’ demand for liquidity as they assess the boundary between abundant- and scarce-reserves systems and how far the BOJ can reduce current account balances from JPY424 trillion as of Aug. 20 before money-market rates begin to rise more sharply. (See MNI BOJ WATCH: Uchida Flags More Hikes; No Timing Hint)

Officials judge that current account balances remain well above the level at which reserves become scarce and that it will take considerable time for the BOJ to approach that threshold. With private-sector demand for funds increasing, commercial banks, particularly regional banks, are facing greater competition for deposits as retail investors shift funds into securities, mainly government bonds.

The banks are responding by offering higher deposit rates, while some are also issuing commercial paper and straight bonds to raise funds.

Regional banks had relied heavily on the BOJ’s Fund-Provisioning Measure to Stimulate Bank Lending, part of its Loan Support Program, to obtain liquidity and support lending, leaving them with large amounts of funds held as reserves at the central bank. However, the BOJ stopped the operation in June 2025, which made those banks more reliant on deposits and market-based funding, increasing the importance of how quickly their liquidity needs respond to higher interest rates.

The loan-to-deposit ratio at Japan's megabanks is around 55%, compared with about 75% at regional banks.

FUNDING FOCUS

Some banks have sought funding in the interbank money market to establish credit lines as a precaution, after trading in the market declined during the prolonged period of unconventional monetary easing.

Administrative requirements and surges in daily settlement volumes are also pressuring commercial banks to maintain ample liquidity.

BOJ officials are also monitoring the impact of rate hikes on real-estate companies and smaller firms that rely on bank loans, as higher borrowing costs increase their financial burden.

MNI: Growing Panda Market Still Faces Liquidity Hurdle

Low interest rates and streamlined cross-border fund regulations are driving strong panda bond issuance in 2026, with deal flow already surpassing levels seen over the past two years, although market participants told MNI that secondary-market liquidity and rating standards must improve for the market to expand further and support yuan internationalisation.

Charles Yang, CEO at China Chengxin Green Finance International, said purely offshore borrowers accounted for more than half of total deals this year for the first time, with issuance reaching CNY200 billion by mid-August. Yang expects panda bonds to exceed CNY300 billion this year, a record high and well above 2025’s CNY183.6 billion and 2024’s CNY194.8 billion.

Non-financial corporates have accounted for about 54% of issuance this year, while financial institutions, including Deutsche Bank and Crédit Agricole, made up 30%.

Multilateral development institutions and sovereign issuers – which are expanding their presence across Central and Eastern Europe, Central Asia, South Asia and Southeast Asia – have also tapped the market, Yang said, pointing to the Brazilian Ministry of Finance’s recent approval to issue a CNY5 billion sovereign panda bond, the first from Latin America.

A panda bond issuer in Hong Kong noted a stronger yuan not only lowers debt-servicing costs but also makes the yuan-denominated bonds a more attractive investment vehicle, adding he is using the proceeds to repay higher-cost dollar debt. (See MNI INTERVIEW: Yuan In Steady Upward Trend - Sheng Songcheng)

The average coupon on panda bonds issued in H1 was 1.83%, compared with the 5-5.5% cost of dollar-denominated corporate debt. Yang added low yuan funding costs, new measures to open the market and rising cross-border yuan demand have all contributed to the rapid expansion. Falling onshore bond yields and a scarcity of high-quality assets have also prompted institutional investors, including Chinese joint-stock banks, securities firms and funds, to add the bonds to their portfolios, with deposit-taking financial institutions showing notably increased participation, he noted.

While the sector is growing rapidly, offshore yuan dim sum bonds remain much larger, with annual issuance of about CNH1 trillion and CNH1.6 trillion outstanding.

INTERNATIONALISATION OPPORTUNITY

Zhang Ming, deputy director of the Institute of World Economics and Politics at the Chinese Academy of Social Sciences, said in recent articles that Beijing could use the market to transform the yuan from a trade settlement medium into an investment and financing currency, urging authorities to capitalise on its lower funding costs relative to other major currencies.

The ongoing simplification of registration for offshore panda bond issuers, along with greater flexibility in deploying proceeds – either moving funds offshore according to funding needs or using them for domestic projects – has significantly enhanced the market’s appeal, Zhang said. Panda bonds will continue to expand rapidly should the interest-rate differential between the U.S. dollar and yuan widens, he predicted. (See MNI INTERVIEW: Oil Shock To Squeeze Dollar Liquidity In Asia)

Allen Ding, chief economist at China CITIC Bank International, told MNI the expansion of yuan usage in trade, investment and financing will support continued growth in panda bond issuance over the medium to long term, but authorities needed to expand the yuan’s usage scenarios to advance its international standing.

CHALLENGES

Wind data show that the market's monthly secondary turnover is 7-14%, below levels seen in broader interbank corporate bonds, while maturities remain skewed toward the short end, with 74% of issuance from January to July carrying tenors of three years or less. Bonds with maturities of seven years or longer accounted for less than 1%.

Zhang said relative bond indices and market-making mechanisms are needed to allow foreign investors to hold the bonds for yield while retaining the ability to liquidate when needed. Only then can the yuan transition from a cheap funding currency to a safe-haven asset, he said.

Yang added some domestic institutions lack sufficient research capabilities to assess offshore issuers and country-specific risks, leading to cautious investment appetite. Although panda bond ratings are concentrated in the AAA category, the growing diversity of issuer nationalities and institutional types has raised the bar for risk identification. The market cannot rely solely on cost advantages to drive further growth, Yang argued, calling for greater rating differentiation, improved disclosure quality and closer monitoring of country-specific risks and issuer solvency.

MNI INTERVIEW: Buybacks Likely To Lower Yields A Few BP-Gagnon

U.S. Treasury Secretary Scott Bessent could spend up to USD100 billion in bond repurchases to rein in yields by only a few basis points over the coming months, former senior Fed economist and senior fellow at the Peterson Institute for International Economics Joseph Gagnon told MNI. 

"It is not yet clear, but it looks like Treasury may end up buying up to USD100 billion of long-term bonds over the next two to three quarters. Statistical studies suggest that might lower long-term yields a few basis points," Gagnon said in an email.  

"It would last as long as Treasury’s maturity mix remains different from what it was otherwise expected to be. It’s hard to believe a few basis points would be seen as 'satisfactory' or even seen at all." 

Bessent emphasized Treasury's willingness to increase the size of bond buybacks Thursday, saying worries over the USD40 trillion U.S. federal debt pile are overblown. Treasury's surprise announcement Wednesday to increase buybacks to USD4 billion per operation temporarily held back yields, but most of that decline reversed Thursday. (See MNI INTERVIEW: Ex-CBO Chief Says Yields Will Likely Rise More)

Bessent's "Treasury twist" mimics the core mechanics of the Fed's Operation Twist by selling short-term debt to buy back long-term debt, but the market impacts are markedly different.  

"Altering the mix of bond maturities to reduce bond yields has been seen as a key Fed tool to ease monetary policy when short rates hit zero. And the Fed has done much larger purchases in the past," Gagnon said. Bessent could also do more if he wants.   

Gagnon doesn't see any lasting damage to the Treasury market's' safe haven status from this operation, but "there may be a loss of market credibility to the extent that Bessent is viewed as expecting a larger effect on yields than he gets," he said. 

The initial impact took markets by surprise and thus will be larger than any long run impact.

While the increase in yields seems mainly driven by rising federal debt, concerns about Fed anti-inflationary credibility "may also be contributing," Gagnon said.

MNI INTERVIEW: Ex-CBO Chief Says Yields Will Likely Rise More

Longer-term U.S. Treasury yields will likely continue to rise further over time as the base of demand shifts to more price-sensitive buyers, issuance continues unabated, and Fed communications add to volatility, the former director of the non-partisan Congressional Budget Office Douglas Holtz-Eakin told MNI.

Furthermore, recent Treasury Department interventions in markets are a "terrible idea," Holtz-Eakin said in an interview. "They generate their own sort of uncertainty. Will the Treasury be changing things, trying to change things? How big will it be?"

"They're pointless and costly. I thought the yen thing was just a huge misstep," he added. "You have to deal with the fundamentals, and in the U.S. those fundamentals are: what are you going to do about the fiscal situation? And so far, the answer is nothing." 

COSTLY

Bond yields climbed Thursday, erasing most of the pullback they saw the previous day after the Treasury Department announced an intervention aimed at easing pressure on longer-dated government debt.

Holtz-Eakin said the Fed's previous continued messaging that its next most likely move was down and not up kept long yields down a little. But the lack of clarity on the Federal Reserve’s reaction function in Chairman Kevin Warsh's recent communications and his preference for a smaller Fed balance sheet are directionally pushing rates up. (See: MNI INTERVIEW: Warsh Needs To Explain Fed's Reaction Function) 

"Then there also structural things in the market" that have changed over the years, he said. "The traditional buyers of government bonds weren't very price sensitive. Primary dealers aren't price sensitive. Hedge funds are price sensitive, so we're seeing more pricing of things."

In addition, the Treasury Department recent interventions are "not costless by any means," said Holtz-Eakin, president of the American Action Forum.

"The responses, these attempts to engineer the yen, have failed. Not surprising to me. We already have bond yields back roughly where they were before Treasury Secretary Bessent made his announcement. That's also going to be transitory at best, and not really do anything.” 

Holtz-Eakin pointed to the Treasury Secretary's past as a currency trader.

"It's the currency trader mentality. If you're a currency trader, you can get in, make a clever move, get out and make some money. That's what the Treasury did. They temporarily depress the yields down and now they're back up. The trouble is if you're Secretary of the Treasury you never get out. You own the whole market now forever. So you've got the wrong mentality for that job."

The Trump administration is acting to keep costs down ahead of the November elections, he said. "In the end, you have to view everything that the administration and Congress do with an eye on the political calendar.”

NORMALIZATION

Holtz-Eakin, who served as chief economist of the Council of Economic Advisers from 2001 to 2002 during the George W. Bush administration, said current real rates are not very high by historic standards. 

"You could easily imagine pulling up another point. I don't see any reason to take that off the table," he said. "This is more yields normalizing than anything else. The abnormal period remains the period after the financial crisis and into the pandemic, where we had really low interest rates for whatever reason."

The U.S. gross national debt officially surpassed USD40 trillion for the first time in history this week. (See: MNI INTERVIEW: US Budget Deficit Unsustainable - Ex-CBO Chief) 

"Right now, business as usual is for the federal government to spend USD7 trillion a year, raise USD5 trillion in taxes, and borrow two. Of that two, 1 trillion is interest on previous borrowing. That tells you the problem," the former CBO chief said. "The dominant fact is that Social Security and Medicare will be more than half of all non-interest spending over the next 10 years." 

Holtz-Eakin, the 6th CBO director from 2003-2005, said Capitol Hill legislators and policymakers have not addressed the fiscal problems in any meaningful way. 

"Social Security is going to grow to about 5.5% a year. Medicare is going to grow to 7%-7.5%. That's faster than any revenue source is going to grow. Revenue is going to grow at roughly the pace of the nominal economy" around 4%-4.5%, he said.

"You can't permanently fix the problem unless you deal with the growth rate of Social Security and Medicare," Holtz-Eakin said. "That's it, and we have been unwilling to face that."

MNI INTERVIEW: Canada Investment Gloom To Outlast Trade Peace

Canada's investment chill will continue long after any resolution to the U.S. trade war according to a professor whose findings were echoed by Donald Trump and Mark Carney to justify reshaping economic relationships.

“Anyone in Canada whose business model had consisted of selling stuff to the U.S. is now going to be scared,” said Pau Pujolas, an economics professor at McMaster University in Hamilton, Ontario. “This goes well beyond the signing of the trade deal that they are going to sign now.”

"The U.S. decided to elect Trump twice, and Trump had said in no uncertain terms he was going to be a pro-tariff, anti-trade type of guy,” he said. “Americans may choose another person that is pro-tariff and anti-trade.” 

TOTAL FACTOR PRODUCTIVITY

Canada's challenge as a smaller economy that's relied on the U.S. for decades is getting over complacency that bred trade barriers between provinces, according to Pujolas. Carney has made some progress but the best defense against U.S. trade aggression is a much stronger domestic economy, he said. 

“Bigger infrastructure, bigger ports, better ports, that's necessary if you don't want to be bullied the way Trump has been doing,” he said. 

Another myth Canada needs to look at is the idea that its oilsands are key to prosperity while manufacturing industries have lost competitiveness, he said. Output per worker in the oilsands is high because very few handle capital-intensive refining but his research showed that collapses when productivity is measured including capital.

"Total factor productivity" has kept pace with the U.S. in recent decades when oilsands are excluded, defying a common belief Canada's growth has lagged behind, he said. “Let's calm down. Let's look at the numbers a little bit better, and let's not let's not freak out. Canada is fine.”

TARIFF DAMAGE

Trump and Carney erred with tariffs that made things more expensive for households according to Pujolas. The U.S. administration's idea that trade deficits are a negative is wrong for that same reason he said, arguing the deficit reflects American consumers who are able to buy more for less as global investors buy American dollars.

“A trade war is bad. It's making goods more expensive just for the sake of being produced elsewhere,” Pujolas said. “You want your citizens to be able to afford as many goods as possible for cheap, that's what a good politician should be striving to do.”

Trump's office cited one of the professor's papers to justify tariffs but officials missed the bigger point, Pujolas said. There can be gains from the world's largest economy seeking concessions, but overall losses to consumers are often bigger, he said, pointing to what he called a botched power play against China.

“Tariffing people, other countries, because you kind of have this bravado and you're kind of a hegemon that can go and start punishing everyone else, it's not great, and doing it incorrectly, you are also punishing your own citizens.”

The trade war has also shown that some Canadian leaders like Premier Doug Ford of Ontario, the country's manufacturing hub, are also willing to turn protectionist, he said. “Doug Ford is not different. Doug Ford, the way he thinks about trade is he needs to put an embargo on liquor from the U.S.”

Trump's modification of the North American trade pact to include annual reviews further weakens Canadian investment confidence, Pujolas said. 

“These trade deals have these expiry dates embedding in them, there is always the risk that they are going to expire,” he said. “So we'll always be in this world of how much do we really believe in this thing called free trade on both sides?”

MNI RIKSBANK WATCH: Holds, Leaves Hike Later In 2026 On Table

Sweden’s Riksbank left its key policy rate on hold at 1.75% in a unanimous decision at its August meeting and pointed in the direction of a hike later in the year while noting that the picture painted by economic data was "not clear-cut".

August’s meeting was an interim one with no new forecast round and the unchanged policy decision was widely expected, with September’s forecast round now centre stage.

The Executive Board tweaked its guidance, stating that "the probability of an interest rate increase later this year remains," having said in June that the probability of a 2026 hike "has increased."

Governor Erik Thedeen told the press conference that the central bank would tighten if unexpectedly high inflation seen in the summer turned out to be the start of a more enduring upturn. In June, he had said the chances of a hike were about 50/50. (See MNI INTERVIEW: 50/50 Hike Chances Due To Iran Doubts-Thedeen)

The board noted that since its June forecasts both growth and inflation have been higher than expected and, with the Iran conflict unresolved, "the risk that underlying inflation will be too high in the wake of supply disruptions remains."

MIXED DATA

But some of the data tilt against the perception that inflation pressure is mounting. The board noted that unemployment is relatively high, with the labour market somewhat weaker than expected in June, while supply chain pressures have eased and surveys show that Swedish companies have moderated pricing plans.

Still, the commentary suggested that the Riksbank could raise its growth and near-term inflation projections in the September quarterly forecast round. 

Thedeen said officials were relatively confident activity was stronger than they expected in June and that growth momentum was good. Back then it forecast 2.2% GDP growth in 2026  and 2.3% in 2027, with inflation on the targeted CPIF fixed-interest rate measure rising from 1.1% this year to 1.7% next, still below the 2.0% target.

Asked if he was more worried about inflation now than in June, Thedeen was noncommittal, saying that at the margins officials were slightly more worried but that it could yet turn out that recent inflation prints were a product of volatility.

MNI: RBA Hike Risk Remains For 2026 - Ex Economists

Risks persist that the Reserve Bank of Australia will hike its 4.35% cash rate again before the end of the year and are slightly higher than the 50% chance priced by markets, though the Board’s next move will depend on Q3 inflation and expectations, former RBA staff told MNI, adding that the Bank will not tolerate further delays in bringing inflation back to target.

“The RBA forecasts in the Statement on Monetary Policy [SMP] have underlying inflation only reaching the middle of the target late in 2027, with an assumed cash rate profile reaching 4.5% in mid-2027,” noted Tim Robinson, an ex-RBA economist and now senior research fellow at the Melbourne Institute. “That's quite a long time. If we get an underlying inflation outcome in the September quarter even only slightly higher than in the June quarter – 0.9% [m/m] – then a hike is a real possibility.”

While markets have priced about a 50-50 chance of a hike by year-end, Robinson said the risks were slightly higher. 

John Hawkins, a professor at the University of Canberra and former RBA economist, agreed the Board would not tolerate a slower return than forecast. "I’d probably wait until I have the September quarter inflation, which means November might be the next really live meeting," Hawkins said, noting the Bank remains on the limit of what it regards as reasonable. 

"And if its [November] forecasts show inflation taking any longer to return to target, that would be a reason to increase rates further," he said, pointing to its most recent outlook that has inflation falling from 3.9% in June to 3.6% in December. "They are probably looking for somewhere around 3.7% or 3.8% [y/y] for the September quarter. If it is significantly worse than that, then I think they will move again."

Labour market pressures in construction related to the large number of new data centres being built could also become an inflation risk if they spread more broadly, he added.

Governor Michele Bullock said last week, following the Board’s decision to hold the cash rate at 4.35%, that its timeline for inflation to return to the midpoint of the target range by late 2027 was reasonable and consistent with its mandate. (See MNI RBA WATCH: Board Ready To Hike Further - Bullock)

PAUSE ARGUMENTS

However, Robinson noted that July inflation expectations had eased, while Q2 private wage data had also loosened. 

While the Wage Price Index is not straightforward to interpret because it covers a bundle of jobs, a year-ended rate of 3.2% is a bit strong, given Australia’s poor productivity performance, he said, referring to Wednesday’s Q2 WPI result. But he added that private-sector wages rising by only 0.7% in Q2 and 3.1% y/y, down from 3.4% in December, was encouraging and suggests capacity constraints represent less of an issue.

"So overall supports the RBA keeping rates unchanged, but greater restraint in public sector wages growth would be helpful," he added. “Hopefully this continues, and we see other measures also moderate. But in the current environment, for example with elevated petrol prices and the removal of the rebate, there are upside risks.”

The Board will also weigh developments in other parts of the economy, including the housing market, Robinson said, noting risks identified in the SMP included the possibility that the housing slowdown could be greater than expected or have larger effects on the real economy. "A further hike would obviously weigh on the housing market. The RBA would be carefully thinking through the consequences for the real economy of this."