Words of wisdom from Bank of Japan

There are some excellent speeches from BoJ Governor Masaki Shirakawa recently.

  1. “Uniqueness or Similarity? — Japan’s Post-Bubble Experience in Monetary Policy Studies –”
    Keynote Address at Second IJCB Fall Conference hosted by the Institute for Monetary and Economic Studies
  2. “Roles for a Central Bank — Based on Japan’s Experience of the Bubble, the Financial Crisis, and Deflation –”
    Speech at the 2010 Fall Meeting of the Japan Society of Monetary Economics

 In both he compares the current crisis with Japanese crisis in 1990s. And both are slightly different.

In the first one he compares the economies and policies in general. The theme is how the bubble formed and what was done to address once the bubble burst.

Though some know this there were some interesting similarities between Japan then  and US now. In Japan the crisis started around 1989 but worsened in 1997. In 1997, Sanyo securities defaulted in money-markets and failed. This led to adverse movements in money markets and a larger player Yamaichi securities was under stress. BoJ intervened and provided support to Yamaichi ordering its orderly resolution. The liabilities of Yamaichi moved to BoJ:

Due to such policy actions, the liabilities owned by Yamaichi Securities were replaced by those  or the BOJ. Of course, an international spillover of the shock could have occurred, if complex securitization schemes had been extensively used at that time.

Yamaichi Securities played an important role as one of the four big securities companies in Japan and actively conducted overseas businesses. Due to massive off-the-book liabilities, so-called stock shuffle (loss compensation), Yamaichi’s funding became increasingly tight both at home and abroad. Yamaichi finally decided to go into the voluntary closure of its securities business in November 1997. When Yamaichi failed, the BOJ extended uncollateralized lending in order to support the orderly wind-down of its transactions, some of which turned out to be irrecoverable at the conclusion of Yamaichi’s bankruptcy procedures in January 2005.

This averted what could have been a global crisis starting in Japan.

Just replace Sanyo with Lehman and Yamaichi with AIG and you get a similar story. Though there was a global crisis but if AIG had failed as well, it would have been far far worse. In case of Japan as exposure to Japan was not as much and global linkages were not as strong as in the case of US, a global crisis was averted.

He points to four differences in Japan with other countries which need to be studied further. He says so far the studies have focused on demand side issues with Japan. Supply side issues were as important:

  • Differences in the phase of adopting unconventional measures
  • The effects of demographic changes and productivity declines
  • Differences in labor practice
  • Developments in external demand

In the end he points to research agenda for future which will help understand the two crisis better.

In the second speech, there is a focus on central banking policies.

We experienced many economic and financial events after the implementation of the new BOJ Act, and the most striking event seems to be the emergence of the global credit bubble in the 2000s and the economic and financial crisis in the aftermath of its burst. At the moment, advanced economies have emerged from the sharp economic contraction after the failure of Lehman Brothers, and are taking a mild recovery path. Nevertheless, since the magnitude of the global credit bubble was so large, we have realized that it will take some time before advanced economies restore the full-fledged recovery path. In the meantime, on the macroeconomic policy front, policy interest rates in major advanced countries have come down to virtually zero, and, at the same, fiscal balances have worsened significantly. Such developments have diminished room for taking further policy measures. Under such very difficult circumstances, what is at issue globally is what roles a central bank can and should play. I will talk about my recent thoughts on the roles of a central bank in the light of our experience of the bubble, the financial crisis, and deflation.

He talks about how there was a movement towards inflation targeting (he calls it purification of central banks 🙂 ). And the focus is now on including other  objectives as well. Some central bankers have preferred to call this approach flexible inflation targeting. BoJ already worked on its act in late 1990s and looked at these issues. It has several objectives along with price stability.

The first element of the foresight stays in the fact that monetary policy objectives are stipulated with assuming the emergence of a bubble and a financial crisis. In Japan, fairly wide-ranging objectives have been pointed out from time to time, and from person to person, as the rationale behind monetary easing, such as an economic recovery, conquest for deflation, the stability of long-term interest rates, restraints of the yen’s appreciation, boost-up of stock prices, and job security. 

Nevertheless, it goes without saying that a single policy measure of monetary policy is unable to achieve all of those objectives simultaneously. Article Two in the BOJ Act stipulates the objective of  monetary policy as “the Bank of Japan shall be aimed at achieving price stability, thereby contributing to the sound development of the national economy.” In the meantime, in the cases of the ECB and the BOE, the monetary policy objective is stipulated solely as price stability, without economic activity mentioned at all, at least from a legal standpoint. 

In the light of recent experiences at home and abroad, I believe that legal treatments in the BOJ Act have advantages. Once the emergence of a bubble is left unchecked, while prices remain stable, subsequent economic contraction is likely to be extremely severe, thus finally undermining price stability itself. The BOJ Act enables us to pursue sustainable price stability in the medium- to long-term with consideration for various possibilities, including a bubble.

Read the whole thing for more details.


2 Responses to “Words of wisdom from Bank of Japan”

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