TOKYO – Japan is making a sweeping shift in its monetary policy, aiming to spur inflation and get the world’s third-largest economy out of a long, debilitating slump.
Bowing to demands from Prime Minister Shinzo Abe for more aggressive monetary easing, the Bank of Japan announced Thursday a policy overhaul intended to double the money supply and achieve a 2 per cent inflation target at the “earliest possible time, with a time horizon of about two years.”
In doing so it is joining the U.S. Federal Reserve and other major central banks in soaking the economy in money in hopes of getting corporations and consumers to begin spending more in a virtuous cycle that would put growth back on track after two decades of malaise.
The central bank said it was launching “a new phase of monetary easing both in terms of quantity and quality” to “drastically change the expectations of markets and economic entities.”
Financial markets, which had feared new BOJ Gov. Haruhiko Kuroda might not live up to expectation for bold steps, reacted with relief. The Japanese yen, which was trading at about 92.8 yen per U.S. dollar, dropped to about 94.95 yen per dollar by mid-afternoon Thursday after the announcement. The benchmark Nikkei 225 stock index rebounded from negative territory to close 2.2 per cent higher.
Kuroda has pledged to do what he must to meet the inflation target within two years. Thursday’s decision after a two-day policy meeting makes that central bank policy. Signaling a consensus behind Kuroda, most items agreed upon received unanimous support from the nine-member board.
The policy shift is a coup for Abe, whose Liberal Democratic Party needs to make headway in reviving the economy before an upper house parliamentary election in July. The LDP is hoping for a strong enough mandate to push ahead with other items on their wish list, such as politically difficult economic and educational reforms and changes to the constitution to give Japan’s military a higher profile.
More aggressive monetary easing is a top priority, along with increased public spending to help perk up demand and reforms to make the economy more competitive in the long-run.
Abe had accused Kuroda’s predecessor Masaaki Shirakawa, who stepped down on March 19, of balking at undertaking bold enough monetary easing to get the economy back on track. The steps announced Thursday under the first policy meeting chaired by Kuroda exceeded expectations in that regard.
“The first step is to get out of deflation and get a much higher nominal growth rate,” Kozo Yamamoto, a senior lawmaker in Abe’s Liberal Democratic Party, said Wednesday. A doubling of the money supply was needed to achieve that aim, he said.
The BOJ’s policy reforms appear to be a major concession to government demands, despite the bank’s ostensible autonomy.
The bank kept the benchmark rate at 0.1 per cent. But instead of carrying out money market operations to meet interest rate targets that have long remained near zero, the central bank will focus on the monetary base, or total amount of cash in circulation and bank reserves, raising it by 60 trillion yen to 70 trillion yen ($637 billion to $744 billion) a year. The monetary base stood at 138 trillion yen ($1.45 trillion) by the end of 2012.
The idea is that increasing the amount of cash in circulation will inflate prices, including for assets, encouraging more spending by those who own shares and property.
“If prices don’t go up, wages don’t go up. If people believe prices will be higher six months from now, then they will believe it’s best to buy now rather than later,” Abe said in a parliamentary debate Tuesday.
Critics of so-called “Abenomics” say that without wage increases to match the price hikes, many consumers may be even less willing to spend.
Answering concerns that the stimulus program would add to Japan’s massive public debt, the statement said the government bond purchases would be “executed for the purpose of conducting monetary policy and not for the purpose of financing fiscal deficits.”
The BOJ will increase purchases of Japanese government bonds, up to 50 trillion yen ($531 billion) a year, to help bring interest rates lower and facilitate more borrowing, such as housing loans. It will continue to buy commercial paper and corporate bonds up to levels of 2.2 trillion yen ($23 billion) and 3.2 trillion yen ($34 billion), respectively, and maintain that level.
The central bank is also extending the average remaining maturity of the bonds it purchases from slightly less than three years to an average of seven years by making bonds with all maturities, up to 40 years, eligible for purchase.
As expected, the bank also extended the range of assets it can purchase, to include more risky real estate investment trusts and exchange-traded funds. Meanwhile it will end its current asset-purchasing program, absorbing it into the future purchases of bonds, it said.
The BOJ will “examine both upside and downside risks to economic activity and prices and make adjustments as appropriate,” it said.
The “reflation” strategy will only work if expectations of future inflation prompt consumers and companies to begin spending more money sooner to avoid rising prices. The past 15 years of deflationary stagnation, they say, is largely due to the tendency of consumers to hold back, waiting for prices to fall further.
But various other factors, including China’s roll in reducing manufacturing costs and expectations of weak demand due to Japan’s shrinking and aging population, also discouraged corporate hiring and investment, pulling prices lower.
The BOJ acknowledged that the consumer price index recently had been “slightly negative,” though the yen’s weakening against the U.S. dollar and other major currencies has boosted prices for imported energy and food, raising daily living expenses for many Japanese.