By Leika Kihara
MATSUE, Japan (Reuters) - Global stocks could plunge and long-term interest rates rise, dealing a severe blow to the global economy, if U.S. politicians do not reach a deal to raise their debt ceiling by mid-month, Bank of Japan Deputy Governor Hiroshi Nakaso said on Wednesday.
The warning followed similar comments by the finance minister on Tuesday, signalling Tokyo's worries about the impact on its holdings of more than $1 trillion of U.S. Treasury bonds if the political deadlock is not resolved soon.
Nakaso said the standoff was the biggest uncertainty for the U.S. economy, which is otherwise enjoying solid growth driven by robust private demand, and a risk to the global economy.
"A prompt resolution of the fiscal consultation issue is critical for the global economy, including Japan," he said in a speech to business leaders in Matsue, western Japan.
Redemption and interest payments of U.S. government debt will stop if the debt ceiling was not increased by October 17, which could lead to a U.S. credit rating downgrade, he said.
"If that happens, it would have a significant adverse effect on the global economy" by triggering a spike in long-term interest rates, a plunge in stock prices and fluctuations in currency rates, said Nakaso, a career central banker who became one of the BOJ's two deputy governors in March.
Outside the U.S. risks, Nakaso was upbeat on Japan's economic outlook, saying the positive momentum seen in wages and household income will continue to support personal spending.
Exports were expected to gain strength as overseas economies picked up, which would help sustain Japan's recovery, although he cautioned emerging economies would remain pressured by capital outflows due to investor expectations the U.S. Federal Reserve could soon taper its massive asset-buying stimulus.
"Global economic uncertainty remains high so we would like to continue monitoring developments closely," he told a news conference after his speech.
On Tuesday, the International Monetary Fund cut its world growth forecasts for the sixth straight time in less than two years, saying a stronger performance in most advanced economies would fail to make up for a more sluggish expansion in the developing world.
The BOJ launched its own intense burst of monetary stimulus in April, pledging to double the base money via aggressive asset purchases to achieve its 2 percent inflation target in roughly two years.
Nakaso described the policy as an "extremely ambitious approach in uncharted waters" since it attempted to intentionally lift inflation expectations in a country mired in deflation for decades.
Nakaso, who has voted with the majority of the board on policy since assuming his post, was confident it would succeed, saying he expected consumer inflation to reach 2 percent during the latter half of fiscal 2014 through fiscal 2015.
The BOJ raised its assessment of the world's third-largest economy last month to say it was "recovering moderately," reflecting strong growth in the second quarter and improvements in business sentiment.
Minutes of the BOJ's policy meeting in September showed board members agreed a virtuous cycle spanning from production to income and spending was functioning well.
Policymakers hope overseas growth will pick up in time to make up for an expected downturn in personal consumption after Japan raises its sales tax rate in April next year.
Nakaso saw no immediate need to loosen monetary policy further, reiterating the central bank's view the economy can absorb the tax hike without additional monetary stimulus.
"We'll of course make necessary policy adjustments to achieve our price target if external or domestic risks force us to alter our economic and price projections," he said.
(Additional reporting by Stanley White; Editing by John Mair)
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