Home Central Banks How Sustainable Is Japan’s Prolonged Monetary-Easing Policy?

How Sustainable Is Japan’s Prolonged Monetary-Easing Policy?

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Written By: Adrian Moore – Forex Focus

Japan has traditionally had an affinity towards an eased monetary policy. The Bank of Japan (BoJ) has over the last decade or so stuck to lower interest rates and on-and-off bond-buying, even while fighting to push the inflation level to 2 percent. This is not the case with the other major economic powerhouses such as the United States, China and the eurozone, which are always willing to shift between stimulus and easing as soon as the economic conditions justify it. However, how effective is Japan’s loose monetary policy so far? How much further can the BoJ deepen the negative interest rate in light of a shifting global economic outlook?      

As from the second half of 2017, economic experts have raised the alarm over escalating tensions on the Korean Peninsula and stated that economic giants in the area are likely to be affected. Many argue that clinging to otherwise rigid policies may have negative impacts on the Japanese economy.

Japan applies a combination of negative interest rates and widespread bond-buying.             

The Bank of Japan currently has its interest rate set at negative 0.1 percent. That rate targets a small percentage of the local commercial banks’ excess reserves. This is also combined with a massive campaign to buy government debt, with the bond yields at near zero-level interest rates. BoJ engages in buying exchange-traded funds to keep the risk premiums low as a result. That in place, Japan still struggles to meet its inflation target of 2 percent. This highlights one of the problems Japan has had to face because of its rigid easing policy: having to deal with start-stop deflation. Slowly, the economists in Japan are growing skeptical towards the country’s ability to maintain the current monetary policy without further interfering with liquidity levels, minimum wage rates and market stability. It is becoming apparent that the only thing keeping Japan tied down to the easing policy is the possible blast of extra liquidity if it exits the easing stance.  The Bank of Japan already bought back around 40 percent of all the available government debt instruments.   

On the other hand, Japan has enjoyed a 1.4-percent average economic-growth rate between 1981 and 2017. The annualized rate showed a growth of 2.5 percent between April and June 2017, giving it prime status as one of the few economies that have had expansion streaks stretching over 10 years. Strong exports and a steady increase in consumption are some of the strongpoints of Japan’s economy. The low inflation can be “excused”, as some of the major contributors to Japan’s GDP (gross domestic product) prefer to keep their prices low to lock in cost-sensitive spenders and maintain their company reward traditions. Inflation has gravitated around the 0.5 percent level for a prolonged spell, disregarding the 2-percent target.   

How long can Japan continue buying bonds?

As the Japanese policymakers run out of bonds available for purchase, the easing program will literally run out of fuel. There have already been red flags from 2015 with regards to low availability of bonds. The Bank of Japan failed to meet its bond-buying targets in mid-2013 and in October 2014. Each time a government overexerts itself into a certain market, it negatively impacts its shape. In the case of Japan, the proposals to buy more corporate bonds, ETFs (exchange-traded funds) and real estate if government bonds ran out were met by stiff political opposition. The public feared adverse changes in rent, stock values and possibly capital-allocation criteria amongst the private companies if they had unfair government backing.

The general monetary policy across Europe is much different from Japan’s. Even when the ECB (European Central Bank) experimented with quantitative easing, there was already a flood of bond investments, which meant that interest rates were already low. However, the ECB ensured that it purchased only bonds that carried interest rates equal to its own base rate (negative 0.2) or higher. In the case of Japan, the BoJ had in February 2017 stated that it remained open to purchasing an “unlimited” quantity of Japanese government and corporate bonds as long as their maturities were between 5 and 10 years.

Japan’s demographic challenges make it difficult to suspend economic stimulus.

Japan has unique demographic challenges that affect its inflation and economic growth more than other countries that are carrying out easing. Japan is still in the middle of a shift from the lifetime employment model of the previous decades to one in which people switch professions more often. The previous labor trends served the country well during the economic boom. Fast forward to 2017, a mostly aging workforce means different consumer-spending trends, and that has been a great reason why the government finds it harder to control inflation levels compared to how the eurozone countries and the United States can. Even the government’s campaigns to convince companies to give employees higher wages has not been well-received, as companies still cling to traditional reward structures handed down to them by company founders.

Japan, therefore, remains at a peculiar position at which it is better to leave the situations as it is, without further easing.


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