"The Tokyo Rules" Show Power Again: Bank of Japan Raises Interest Rates, Global Markets in Trouble

According to the Wisdom Financial APP, the Taylor Rule may be a good indicator of predicting economic recession. However, the timing of the Bank of Japan's interest rate hike may be a better indicator, as historically, after the Bank of Japan raises interest rates, global markets are soon to "go downhill".

Bloomberg columnist Gearoid Reidy published an article stating that before the recent stock market turmoil, Bank of Japan Governor Haruhiko Kuroda won praise for exiting massive stimulus policies without disturbing the market. Now, it seems that this praise came too early. In March this year, the Nikkei 225 index hit a historical high as Kuroda ended the negative interest rate policy. In stark contrast, after the Bank of Japan's second rate hike on July 31, the market almost faced unprecedented chaos.

The impact of this stock market plunge extends far beyond Tokyo, as Bloomberg analyst John Authers believes that the stock market plunge is more related to Wall Street trends and expectations for the U.S. economy rather than Japan-specific factors. By Monday night, Asian stock markets also experienced similar declines, and the Nasdaq index is expected to follow suit.

Japan is the only country that has just raised interest rates, a historic decision that had already sparked controversy before the stock market plunge. On Monday, both the TOPIX index and the Nikkei 225 index closed with declines of over 12%, the largest drop since Black Monday in 1987. The TOPIX index saw a three-day drop to a historic high. A banking index experienced its largest single-day drop in history. The 10-year Japanese government bond yield saw the largest drop in 20 years, while the yen rose to its highest level since the beginning of the year.

Reidy mentioned that Japanese authorities could hardly have foreseen this situation. Unfortunately, the Bank of Japan took this action at a time of market anxiety due to the Federal Reserve's delay in rate cuts and panic over poor employment data. However, this does not mean that the Bank of Japan is incompetent, especially when senior political figures are pressuring the central bank to raise rates.

Nevertheless, if market expectations of a U.S. economic recession materialize, the Bank of Japan's actions will once again be proven to be extremely ill-timed. The Taylor Rule uses the unemployment rate to predict economic recession. Reidy quipped that investors should consider the so-called Tokyo Rule: interest rate hikes lead to market plunges. Historically, the Bank of Japan has consistently raised rates around the time of global economic downturns, taking the wrong actions at the wrong times.

Historical records show that shortly after the Bank of Japan raises rates, market turmoil often ensues. In August 2000, the Bank of Japan raised rates to 0.25%, and just two weeks later, the dot-com bubble burst, leading to over two years of decline in the Nasdaq index. A few years later, the Bank of Japan raised rates in July 2006 and February 2007, and a few months later, the U.S. subprime mortgage crisis erupted, triggering the global financial crisis.

In either case, the Bank of Japan should not be held responsible for everything that happens. But even at the time, many criticized that these measures were premature and unnecessary for an economy that needed the most accommodative policies While it is premature to assume that the recent stock market turmoil will prompt Ueda to abandon plans for further interest rate hikes, it will certainly give him pause and make politicians feel uneasy. With the upcoming leadership election in Japan's ruling party, many politicians will change their hawkish stance.

This has also raised questions: why does Ueda feel the need to take action now, given his slow and methodical approach in his first year in office? People can't help but wonder if there is already political pressure to take measures to address the continued depreciation of the yen; otherwise, such actions seem illogical.

Japan needs to carefully manage consumer and business sentiment, as the Japanese people are not accustomed to these situations. The "virtuous cycle" of rising wages and prices, even if it exists, is fragile. This year, the Japanese government has been aggressively promoting investment in expanded tax-free accounts, and headlines about stock market crashes could weaken consumer risk appetite. However, on Monday, Japanese authorities essentially stood by and watched the market turmoil.

Reidy concluded that this Black Monday feels more like pure panic than a rational response, but the market is often irrational. Ueda will need to be rational when considering the next steps