Bank of Japan Resists Cutting Rates

November 21, 2008

As expected, the Bank of Japan did not reduce its 0.3% rate target for overnight money, but a released statement painted a bleak picture with recession persisting for some time. Officials moreover identified downside price and growth risks associated with the pessimistic baseline forecast. The assessment of exports was downgraded, for instance, to “decreasing” from “peaking out.” In contrast to multi-hundred basis point cuts by other central banks, the Bank of Japan has eased by a total of 20 basis points since the global financial crisis began. The rate of loosening in monetary policy is just as important as the level of interest rates. No central bank should understand that concept better than the Bank of Japan, which administered quantitative monetary stimulus with zero interest rates from March 2001 until the spring of 2006. That experience promoted faster economic growth and alleviated deflation, underscoring that the zero line in interest rates is not the end of the monetary policy spectrum. The Bank of Japan resisted the idea of quantitative easing for years before agreeing to that approach.

Once again, officials are raising objections to such a radical measure and only saying that they will think about it. In the meantime, the BOJ Policy Board promised to study and undertake steps to pump liquidity into their financial market, such as broadening what commercial paper they are willing to buy. This distinction between overall monetary policy and selected actions to combat market illiquidity is where many central banks like the ECB were at until this past summer. Now that a global recession has spread to most advanced and many developing economies and as price pressures recede rapidly, the Bank of Japan has become quite isolated in adhering to an old logic. The Policy Board was unanimous in its opinion. Nobody argued for more drastic action.



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