Time to Get Japan Out of Its 'Straitjacket'

(Bloomberg Opinion) -- The world’s one-time economic rebel now looks staid. Japan was the first mover in some of the most radical steps in monetary policy, so it’s troubling that officials have done far less than their peers since the pandemic tore through global growth. Time for Bank of Japan officials to forge the Next Big Thing.The third-largest economy on the planet is gradually recovering from its deepest contraction since the 1950s, but the rebound could use a boost. Tokyo’s consumer prices fell for the second consecutive month, according to figures this week, even though Japan has emerged from the throes of lockdown. While industrial production and business confidence edged higher, economists are warning activity may soon plateau. The BOJ’s quarterly Tankan survey showed that even if gloom is starting to dissipate, executives are a long way from optimistic. Doubts seem to be permeating the corridors of the BOJ, too. Some policy makers wondered whether a new approach to setting interest rates is required during the pandemic era, according to the summary of opinions from the central bank’s mid-September meeting that was released Tuesday. Such introspection doesn’t come a moment too soon, given the bank's inflation target of 2% keeps slipping further away. A poorly timed consumption tax increase and a collapse in demand during the pandemic make it appear out of reach, possibly for years.

Japan isn’t the only central bank struggling to meet its inflation goals. Still, there’s a tone of passivity creeping into BOJ communication. Public comments from top brass are peppered with the need to support the government's fiscal efforts while offering little new themselves. This should be an uncomfortable position for Governor Haruhiko Kuroda. The BOJ was the first central bank of any consequence to cut interest rates to zero and undertake quantitative easing, dramatic steps two decades ago that have since gone mainstream. That process was turbocharged when Kuroda was appointed in 2013, and began a massive expansion of the BOJ's balance sheet. The benchmark rate was later nudged into negative territory.

Despite the frequent characterization that QE was a flop in Japan, inflation was on its way to 2% before being undone by a tax hike and a jump in energy costs. In fact, Kuroda’s easing was so aggressive that many worried the BOJ would run out of bonds to buy. As a result, in 2016 the bank introduced yield-curve control, which would shift the thrust of policy from the amount of bond purchases to buying just enough to keep yields at rock-bottom levels. It solved questions about sustainability, but ushered in another problem.

The BOJ now looks very conservative. Next to the Federal Reserve and, to an extent, the European Central Bank, Kuroda hasn’t shifted policy much since the onset of the coronavirus. There hasn't been the dramatic tumble to zero or negative rates — Japan was already there — nor the resumption of QE undertaken by the Fed and the ECB. Momentum counts for a lot. The BOJ has none.

Once seen as a masterstroke, yield-curve control is now a “straitjacket,” say Robin Brooks and Jonathan Fortun, economists at the Institute of International Finance. The sooner the BOJ faces up to this the better. The bank should consider reverting to its previous program centered on QE, Brooks and Fortun wrote in a recent report. Given the amount of fiscal stimulus pledged, there is no shortage of bonds looming anytime soon. Shinzo Abe, who stepped down as prime minister last month, had pledged largesse amounting to about 40% of gross domestic product. Yoshihide Suga, who succeeded Abe, is contemplating new spending, according to Nikkei.

Yield-curve control made sense at the time and has become remarkably uncontentious for most of its four-year life. QE practically became automated: If bonds are rallying, the BOJ needs to buy less of them to keep the rate at zero; if bonds are weakening, the bank buys more.

This approach was born of a strategy review, not unlike the soul-searching by the Fed, which resulted in a much more relaxed stance toward inflation. The BOJ could do worse than seek another moment for reflection. Such conclaves have typically been steered by Masayoshi Amamiya, a veteran official with Cardinal Richelieu-like qualities. Promoted to deputy governor in 2018 after four decades at the bank, he knows where the bodies are buried. Investors no longer approach BOJ meetings with the same sense of excitement and trepidation that Jerome Powell or Christine Lagarde can summon. The times demand something more than autopilot in Tokyo.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Daniel Moss is a Bloomberg Opinion columnist covering Asian economies. Previously he was executive editor of Bloomberg News for global economics, and has led teams in Asia, Europe and North America.

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