 apan's
latest policy talk — there have been open discussions of ways
to stop the country's deflation — and the Bush administration's
new economic advice to Japan are not enough to help Japan stop its
deflation or start growing.
Of course,
Japan could stop its deflation almost overnight by adopting a price-rule
monetary policy. But the Bank of Japan is standing in the way of
any such reform.
In recent days,
several important officials have commented on Japan's monetary policy:
A week ago, Finance Minister Masajuro Shiokawa said the central
bank should increase its monthly purchases of bonds (a way to inject
yen liquidity). A day later, the Bank of Japan decided not to make
any changes.
On February
12, Glenn Hubbard, the head of the Bush administration's Council
of Economic Advisors, said "there's no way Japan can export
itself out of its problems without fixing non-performing assets
and changing monetary policy." Yet after a February
13 meeting of Japanese economic officials, Bank of Japan Governor
Masaru Hayami said that some had urged the central bank to inject
more liquidity, but "I told them we're doing the most we can
do at this point."
It's clear
that structural issues, non-performing bank loans, weak leadership,
the fiscal deficit, and the size of Japan's national debt are not
to blamed for the country's ongoing economic crisis. That blame
can rest squarely on the shoulders of the central bank and its deflationary
bias.
And that's
a shame. Remember, Japan's economy — despite its recent shrinkage
— is still the world's second biggest, with a substantial size
advantage over Germany. And the prospect of a growing Japanese economy
would buoy equity markets elsewhere.
The near-term
market issue is whether Japan will actually move to a new monetary
policy. But Japan has a clear history of false starts regarding
improvements in this area. Like clockwork, Japan will give the impression
of constructive monetary policy changes, and then promptly reinstall
a deflationary policy. For example:
In March
1999, the Bank of Japan injected overnight liquidity, cut the
interest rate fractionally, and allowed a public discussion of
a shift from interest-rate targeting to quantitative targeting.
Then it reversed the impact.
In March
2001, the BOJ finally shifted to a quantitative target, but set
a deflationary level of liquidity injections and left it unchanged
for five months.
In September
2001, Japan injected liquidity through the end of the month, then
promptly removed it in October.
To grow, Japan
has to break deflation expectations without raising inflation fears.
This is not as hard as it sounds. Economic history is full of examples
of smooth, pro-growth transitions from price-level instability to
price-level stability.
The key steps
are for the central bank to: 1) admit to a deflation problem; 2)
take primary responsibility for it; and 3) commit to preventing
future deflation and inflation by adjusting liquidity to provide
yen stability.
The BOJ's Hayami
does get it right when he points out that Japan is already awash
in liquidity. But this liquidity would allow the country's economy
to grow fast if the central bank committed to a new course and broke
the deflation expectations.
But the pattern
says the Bank of Japan won't embrace any real change for the better.
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