BOJ far from realising exit strategy for monetary easing

Washington

The decision of the Bank of Japan on Friday to leave its large-scale monetary easing policy unchanged brought to the fore the fact that the central bank is still far from realising its 2 per cent inflation target as an exit strategy for its quantitative monetary relaxation measures.

Amid the US Federal Reserve Board and the European Central Bank heading towards the normalisation of monetary policies, it has become clear that BOJ is being left behind them in coping with monetary easing.

In providing a reason for the slowing of inflation, BOJ governor Haruhiko Kuroda said: "Medium- and long-term inflation expectations aren't rising much. A sort of deflationary mindset has persisted, which can be said to be a factor that does not exist in the US and Europe."

His reasoning is based on his analysis that the mindset in which prices will not rise is deeply ingrained into companies and consumers after they experienced low economic growth and deflation from 1998 to 2013. The core consumer price index, excluding volatile fresh food prices, rose 0.7 per cent in April from a year earlier.

The central bank plans to examine reasons for sluggish inflation at the next Monetary Policy Meeting in end-July. The Fed has spearheaded the exit strategy to normalising large-scale monetary easing measures. In response to the robust economic recovery in the US, achieving its 2 per cent inflation target, the Fed raised its key interest rate to a range of 1.75-2 per cent on Wednesday.

On Thursday, the ECB decided to end its quantitative easing programme by the end of this year as it has become more confident of achieving a desirable price level, largely changing its direction towards financial normalisation. In contrast, the BOJ did not move to modify its monetary easing measures.

On Friday, the central bank decided to continue guiding 10-year Japanese government bond yields to around zero and maintaining the quantitative easing measure for purchasing JGBs at "an annual pace of increase in the amount outstanding of its JGB holdings of about 80 trillion yen (S$977 billion)."

Asked about the exit strategy, Mr Kuroda said: "It's too early to talk about a specific method or process of normalisation and exit strategy at the moment."

With BOJ being left behind in crafting an exit strategy, there will likely be some future risks. If the country's economy enters recession, the BOJ will not be able to prevent the economic contraction from worsening because monetary easing measures it can take to stimulate the economy are limited. There is also concern that BOJ's inability over an exit strategy may cause a sharp rise in the value of the yen.

Observers view that the US may enter recession as early as 2019, which may slow down the global economy. If that is the case, it is widely seen that central banks in the US and Europe will return to a policy of strengthening monetary easing measures. Because pursuing monetary easing measures is a factor that triggers a sell-off of a country's currency, Japan, which does not have much room for implementing monetary easing measures, will likely face strong upside pressure on the yen.

The Japanese economy is steady, with corporate earnings having reached a record-high level and the unemployment rate having fallen to a 2 per cent level. But prices are not rising, which is a tough problem.

Hideo Hayakawa, a senior executive fellow at Fujitsu Research Institute and a former executive director of BOJ, stressed that BOJ needs to move towards a revision of policies.

"It takes time to achieve the inflation target," he said. "BOJ should discuss to revise its monetary policies to prepare for a possible next shock (such as a financial crisis) by taking into account side effects (of its current policies) and other factors." WP