The ECB in the Bank of Japan trap

The Bank of Japan is forced to keep long-term interest rates at zero because of the size of the public debt and the bonds held by banks and institutional investors in Japan. A rise in long-term interest rates would have catastrophic effects on the solvency of the government and financial intermediaries in Japan. But the same trap is closing in around the ECB: after many years of very low interest rates, a rise in long-term interest rates would give rise to a fiscal solvency crisis in several countries (France, Italy, Spain, Finland, Belgium) as well as substantial losses on banks’ and investors’ bond portfolios. As in Japan, the fact that interest rates have been kept very low for a long period of time in the euro zone makes it impossible to raise interest rates, especially as the euro zone’s cyclical situation is deteriorating, which has two effects: it make s it more difficult in the short term to hike interest rates; it extends the period of very low interest rates further , and therefore makes this situation of very low interest rates even more irreversible .