Bank of Japan Changes Policy Framework

September 21, 2016

The BOJ Board released several documents in conjunction with the unveiling of a new policy orientation that is packaged to appear like a more substantive change than it really is. The released papers include

  • A summary of decisions made, listing of dissenting votes, and two attachments. The first of these presents the BOJ staff’s “comprehensive assessment” of quantitative and qualitative monetary easing (QQE) and recommended new changes in policy direction. The second attachment presents the Board’s latest review of current economic conditions and future outlook, which is essentially unchanged from the prior one.
  • The full staff comprehensive assessment.
  • Four other technical descriptions involving modifications in central bank operational procedures.

The old QQE policy with a negative interest rate had been launched in April 2013 and first modified in October 2014. The mainstay of that policy was a target for growth in the monetary base and an open-ended commitment not to quit quantitative stimulus until the mission of restoring sustained 2% core inflation is completed successfully. Projected times when that should occur had been missed. In January of this year, a tiered interest rate structure including a negative 0.1% policy rate on part of the balances banks hold with the BOJ was introduced. Most but not all of the assets to be bought under QQE were JGBs. ETF buying was increased significantly this past July.

The new framework drops some features of the old policy like the 80 trillion per year target on monetary base growth and a targeted maturity range of 7-12 years on the central bank’s portfolio of JGBs. Other features were left unchanged. The targeted annual amount of JGBs to be bought is still Y 80 trillion, and the interest rate structure including a negative 0.1% deposit rate wasn’t modified either. Finally, officials commit to continuing QQE with yield curve control for as long as it takes to maintain the 2% target in a stable manner.

The new framework was relabeled “QQE with Yield Curve Control” from “QQE with a Negative Interest Rate.” That change in nomenclature reveals one of the two major changes, namely a new quest to impact the yield curve’s level and slope. With a target on the 10-year yield of zero, more or less, the intent is to secure a positively sloped yield curve and to “enable the BOJ to make more flexible adjustments according to developments in economic activity and prices as well as financial conditions and that enhances the sustainability of monetary easing.”

While key parameters like the short term interest rate and amount of asset buying were not changed, a section of the document enumerates possible options for additional easing. The main message of Governor Kuroda’s press conference is that all legal and safe actions within the policy framework will be considered as needed to complete the BOJ’s task.

The other brave new direction of the changed policy framework is a deepening emphasis on raising expected inflation. While expectations of inflation in the long run have risen since 2013, officials now recognize that short term price expectations are backward-looking in that people extrapolate recent momentum. The drop in inflation due to lower oil prices, a stronger yen, and weak export market demand, however beyond BOJ control or responsibility, has influenced short-term inflation expectations adversely. So now, officials have made a new commitment to permit and indeed promote inflation above the 2.0% target for a while in order to offset periods of time when it will have been below.  By doing this, inflation for lengthy periods of time, such as a year, will average to be about 2.0%.

This modification of policy is reminiscent of the 1990s when government officials habitually characterized economic conditions in a better light than the true reality. The idea was that people will spend more if you feed them encouraging news, even if untrue. It didn’t work then probably won’t succeed now with this variation on a theme. FDR’s only-thing-you-have-to-fear remark in March 1933 worked because it was followed up by a shotgun approach of real policy changes until some things managed to yield positive results. Japan since 1991 has tried massive doses of fiscal and monetary stimulus, but a key needed element of the remedy, an overhaul of regulations that gum up opportunities for growth in domestic demand, has not happened.

Copyright 2016, Larry Greenberg. All rights reserved. No secondary distribution without express permission.



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