Fu Peng's Commentary on the Disagreement Between Bessant and the Bank of Japan: The Cost of Lagging and the Solution to "Bear Flattening" [Fu Peng Says]

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Bessant's disagreement with the Bank of Japan: The cost of lag and the solution to "bear flattening"

Looking at the world from the trading desk, Fu Peng offers his commentary on finance. This video was recorded on September 3, 2026.

Today I'd like to continue discussing the relationship between U.S. Treasury Secretary Bessant and the current Bank of Japan. It's less a game of strategy and more a matter of differing judgments between the two.

Judging from the statements made at the G20 level, Bessant has made it very clear to Japan: you have actually won the battle against deflation. Thanks to Abenomics, coupled with a series of subsequent adjustments at the factor level, Japan has emerged from its "lost three decades."

From all perspectives, Japan has indeed emerged from this predicament. As I've mentioned many times before, Bessant has conducted in-depth research and surveys on the Japanese economy, and his understanding is quite profound. In 2012, he made a special trip to Japan to conduct research, at which time he was the chief investment officer of Soros Fund Management. Therefore, his current publicly expressed attitude is almost entirely consistent with my judgments that I have repeatedly stated before.

Now that Japan has emerged from deflation, the logical conclusion is that the Bank of Japan should quickly shift its mindset from deflationary thinking developed over the past thirty years to one of normalized inflation. Since inflation has become the norm, the framework of monetary policy must be adjusted accordingly.

The problem now lies precisely with the Bank of Japan.

The Bank of Japan's Lagging Performance: A " One-Time Bite " After Thirty Years of Deflation

I believe the Bank of Japan's biggest problem is essentially the trauma left by thirty years of deflation, which has made it suffer from the psychological fear that "raising interest rates too early might cause problems"—the historical shadow of " two recessions occurring immediately after raising interest rates " .

This concern is not unfounded. The Bank of Japan has learned two lessons from history: after lifting zero interest rates in August 2000, it quickly encountered the bursting of the IT bubble, forcing it to return to zero interest rates and launch quantitative easing in March 2001; after exiting quantitative easing in 2006 and subsequently raising the policy rate to 0.5%, it was caught in the 2008 global financial crisis, forcing it to cut rates again. The graph clearly shows these two paths: short-term interest rates had just risen when a recession hit, long-term interest rates quickly fell, and then short-term rates quickly contracted again.

Having experienced these two incidents, the Bank of Japan is bound to lag behind in raising interest rates. This lag is understandable, as historical trauma becomes ingrained in its decision-making mechanisms. Therefore, you'll observe that Bank of Japan officials consistently say the same thing: "Let's wait and see, let's wait and see, we must confirm that the economy has entered a truly virtuous cycle, and that inflation has become a genuine norm." This "once bitten, twice shy" mentality inevitably makes the Bank of Japan a step behind in the entire process.

From the perspective of conservatives within the Bank of Japan, their concern is whether Japan's current demand-driven growth can be sufficiently robust to support a return to normal interest rates, maintaining the inflation levels typical of a developed economy. They consistently focus on the negative aspects—aging population, low potential growth, and high government debt. These are often the fundamental reasons why many believe "Japan hasn't truly recovered and cannot raise interest rates."

However, it's important to understand one thing: the conservatives at the Bank of Japan aren't afraid of raising interest rates themselves; they're afraid of raising them incorrectly. The policy rate has already recovered from 0 to at least 1%, showing they aren't incapable of raising it. The problem is that they always lag behind, because they worry that if they raise the wrong rate and it happens to coincide with an external shock, domestic demand will collapse, and when things turn around, sticky deflationary expectations will re-emerge, which would be very troublesome.

The bond market has moved ahead of the central bank.

The direct consequence of this lag is a clear logical split between the short and long ends.

By examining the relationship between the yields of 10-year and 1-year Japanese government bonds and the Bank of Japan's benchmark interest rate, as well as the interest rate spreads among them, and then by looking at the changes in the shape of the Japanese government bond yield curve, it becomes clear that: five years ago, when the pandemic had just ended, the long-term yield curve was still in negative territory; it then gradually rose; and about three years ago, a significant acceleration began to appear, with the long-term yield, represented by the 10-year bond, rising significantly at an accelerated pace.

Bond yields typically react quite accurately, especially the term premium. In my opinion, the bond market has actually outpaced the Bank of Japan, which is clearly lagging behind. Currently, long-term inflation expectations in Japan, and the term premium they incorporate, are already very high.

Distribution is the core of the " lost thirty years "

To be fair, it's hard to say who is absolutely right and who is absolutely wrong between Bessent and the Bank of Japan. But for the past two years, I've been on Bessent's side.

The problems Bessant sees are: Japan's aging population problem has reached its end; in terms of wage growth, the wage increase in Haruto has been above 5% for three consecutive years (preliminary statistics for Haruto in 2026 are 5.26%), and the increase in some industries has even exceeded 10%; corporate pricing power is returning, and the output gap is closing; core inflation is no longer easily falling below 0.

The End of the Old Paradigm: Prices and Wages Are Essentially Distribution Issues

In the latter half of Abenomics, Japanese companies began to focus on distribution, which is what I referred to as corporate governance reform—the Corporate Governance Guidelines introduced in 2015 encouraged companies to prioritize shareholder returns while reducing government intervention.

In this context, how could prices and wages not form a cycle? It's essentially a distribution problem. I've repeatedly emphasized this when discussing Japan: a crucial aspect of Japan's "lost three decades" was actually a problem with distribution. Factors like aging certainly exist, but I want to be clear that they are not the core factor; the core factor is distribution.

Therefore, Bessant has consistently emphasized that Japan's prices and wages have broken free from the old paradigm. The old paradigm he refers to is the old distribution method. When the distribution method changes, inflation will return. Therefore, don't treat every small price fluctuation as a "boy who cried wolf," or alarm that deflation is coming with every fluctuation.

The Cost of Delay and Bessant's " Bear Flat " Solution

The more the central bank lags behind, the more out of control the long term becomes.

Conversely, Bessant emphasizes that the Bank of Japan's current lag will have significant negative effects. These negative effects include making the yield curve extremely steep, pushing term premiums very high, and even causing long-term bond yields to spiral further out of control. This curve structure is called a "bear steepening" in monetary economics.

The bond market is very intelligent. Once the market realizes that Bessant is right—that the allocation factors have changed and deflation won't easily return—it will vote with prices, no longer believing that long-term inflation can be firmly anchored within the old allocation framework, and instead believing that inflation is no longer temporary. At this point, if the central bank continues to stubbornly suppress short-term inflation and drag its feet, funds will realize that you won't raise interest rates so quickly to curb inflation, and long-term inflation may get out of control, naturally driving up the term premium significantly.

This is exactly the result we are seeing now: On September 1, 2026, the yield on 10-year Japanese government bonds will break through 3% for the first time in 30 years, and the yield on 30-year government bonds will approach 4.2%. To some extent, this is the consequence of the Bank of Japan's complete lag – the market has realized that the central bank will not curb long-term inflation in the short term, and the anchoring of long-term inflation has failed.

The uncontrolled spillover of long-term Japanese bonds: The real risk lies in US bonds.

Bessant represents the United States, and his primary concern lies here.

If Japanese long-term government bond yields rise disorderly and remain excessively high, and the market perceives the Bank of Japan as hesitant to act, then Japan's truly large-scale funds—such as life insurance companies and long-term pension funds—will accelerate their liquidation. This is because domestic yields denominated in yen are already high enough, and these funds will quickly leave US Treasuries and flow back to Japan. The rise in Japanese long-term government bond yields will drag down US long-term government bond yields as well; this is the risk transmission path that Bessant is truly worried about.

Therefore, we don't need to jump to conspiracy theories about Bessent's position right away. Japan and the United States are highly intertwined financially, and Japan's policies will inevitably have spillover effects and influence the US Treasury market, but the path of influence is this.

What was Bessant's approach?

First, based on his assessment that Japan's distribution problem has been resolved, his answer seems counterintuitive to many: raise interest rates, quickly normalize inflation, and promptly correct the Bank of Japan's lag. In short, it means raising interest rates rapidly.

Only a rapid and decisive interest rate hike can convince long-term investors that the central bank has returned to its goal of controlling inflation, and is doing so proactively, rather than letting inflation spiral out of control. This, in turn, will lead to a "bearish flattening" of the yield curve—the short end shifting upward, and the long end no longer spiraling out of control.

Recently, hawkish members within the Bank of Japan, such as Hajime Takada, have explicitly echoed Bessant's framework and ideas. He publicly stated that he does not rule out the possibility of significant and consecutive interest rate hikes. Following his statement, the market has clearly begun to realize that the power dynamic between conservatives and hawks within the Bank of Japan may be shifting, meaning that the Bank of Japan's tendency to lag behind in policy decisions is beginning to correct itself.

In my opinion, this is much better than simply intervening in the exchange rate around 160.

To truly understand the nature of exchange rate intervention, the fundamental issue lies not in the foreign exchange market, but in the difference between the facts observed by US Treasury Secretary Bessant and the Bank of Japan's "once bitten, twice shy" mentality. If the goal is to truly free the yen from the sensitive level of 160 without intervention , the only way is for the Bank of Japan to quickly correct its lagging behavior.

This was confirmed by the facts: after the Bank of Japan's statement, short-term yields rose significantly, with the 2-year yield increasing; while long-term yields of 10-year and 30-year yields stabilized, thus appropriately correcting the interest rate spread. This is precisely the counterintuitive "bear flattening" strategy I just mentioned.

Fifth, do not set the two ends in opposition.

Broadly speaking, I think Bessant's assessment is sound. Japan's deflationary mindset of the past thirty years should indeed end, a point I've emphasized for several years. If we extend the timeframe sufficiently, I've been discussing this observation since before Abenomics was introduced in 2012. Of course, these variables don't change rapidly, but since the pandemic, various pieces of evidence have begun to corroborate each other.

As for the conservatives at the Bank of Japan, it's not fair to say they're wrong; the rigid factors they described do indeed objectively exist. The Bank of Japan also cannot simply push its policy rate to the normal level of typical developed economies.

The real mistake is setting these two sides against each other. It is certainly wrong to completely assume that inflation does not exist and that deflation is still ongoing; it is equally wrong to completely ignore fiscal and demographic constraints.

I believe the market is actually right. Regarding long-term bonds, we shouldn't resort to conspiracy theories, claiming that rising long-term bond yields mean a debt crisis. Following this logic, does that mean all countries with high bond yields are in a fiscal debt crisis? Of course not.

The market has already chosen a side. The 10-year yield has broken through 3%, and the 30-year yield is approaching 4.2%. This is no longer pricing in "Japan is still in deflation," but a complete denial of the deflationary narrative. Following the structure described earlier, the more the central bank lags behind, the heavier the market's punishment for inflation: the more you suppress the short end, the more out of control the long end becomes. If the Bank of Japan continues to emphasize that it must wait until a virtuous cycle is confirmed before acting, the result will be a further steepening of the yield curve, with the long end continuing to rise and reach new highs.

Therefore, the pace of both sides is now crucial.

On the one hand, we must acknowledge that policy thinking should shift from "preventing deflation" to "managing the stickiness of 2% inflation," with short-term measures keeping pace and clear communication regarding assessments of inflation expectations. On the other hand, we must also recognize that current inflation still includes supply-side factors and the depreciation of the yen, thus allowing for a slower pace of interest rate hikes compared to other developed economies. However, we absolutely cannot assume that our framework remains stuck in the scenarios of 2013 and 2014. The key is to avoid going to extremes.

We've reconnected these logical threads by examining the yield curve, Bessant's arguments, Abenomics, and the Bank of Japan's lag and curve steepening. Many people find the relationship between the yen's volatility, the Bank of Japan, and the US Treasury confusing, but it's actually quite clear. This episode aims to help you connect these threads.

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