Japan’s audacious five-year experiment of force-feeding cash into an ailing economy began to wind down Thursday, chased into history by central bankers convinced that Japanese industry and consumers have risen from their sickbed and no longer need easy credit.
Japan’s central bank governors emerged from a two-day meeting to declare that the era of “quantitative easing” -- jargon for regularly flooding Japan’s banks with trillions of yen -- is over. It does not mark the end of interest-free money in Japan. But most observers see it as the beginning of the end.
The move was not unexpected, though it came a bit earlier than some economists anticipated and much earlier than nervous Japanese politicians wanted.
But the bank’s governors made clear that while they believed that the days of deflation -- falling prices for goods and services -- were over, they would continue to hold short-term interest rates near zero, at least for the next several months.
There had been fears that a sudden boost in the central bank’s key rate, from the current 0.001%, would choke off what by most measures appears to be an expanding Japanese economy.
That prospect revived bad memories of the Bank of Japan’s infamous misstep in 2000, when it greeted signals of modest growth with a rate hike that plunged the world’s second-largest economy back into recession.
Some economists also worry that higher rates could have global repercussions by encouraging Japanese investors to repatriate some of their vast U.S. investment holdings. That could force the Federal Reserve to push up rates more steeply than they are already climbing, leading to higher U.S. mortgage costs and depressed housing prices.
But analysts in Tokyo said Thursday that the Bank of Japan’s first step toward returning to an orthodox monetary policy should have little effect on U.S. rates, at least in the short term.
“This is a fairly benign event globally,” said Paul Sheard, chief economist in Asia for brokerage Lehman Bros.
Reaction may be muted in part because anticipation of Japan’s shift has already helped to push up global bond yields in recent weeks. The yield on Japan’s 10-year government bond, 1.61% on Thursday, has jumped from 1.44% in mid-January.
The Nikkei 225 stock index rose 2.6% to 16,036.91 on Thursday, but is off 0.5% year to date.
The Bank of Japan’s move came after several months of public argument between politicians and the central bank about whether Japan’s economic recovery was robust enough to withstand scrapping the ultra-loose monetary policy. Over the last few weeks, economic data had been tracked, analyzed and publicly debated with the intensity of health officials studying the migration of bird flu.
Central bankers pointed to the nation’s consumer price index, which has risen for the last three months. Also, bank loans are up, and the Bank of Japan statement released Thursday noted that “exports and industrial production have continued to increase, business fixed investment has continued to increase against the background of high corporate profits, and private consumption has become solid.”
But not everyone shares the bank’s belief that deflation is licked. Prime Minister Junichiro Koizumi told a parliamentary committee Monday that he remained “wary whether deflation had been beaten,” though he did offer qualified support Thursday for the bank’s move.
“I believe the Bank of Japan made the decision as it sees the economy is firmly on a recovery track and that there are signs of the economy emerging from deflation,” Koizumi said.
Many economists share Koizumi’s view that while deflation may be on its way out, the days of falling prices are not fully over. They warn, for example, that the cheap production costs of the booming Chinese and Indian manufacturing sectors act as a stubborn cap on price increases.
“It is too early to cancel the [easy-money] policy,” said Asahi Noguchi, an economics professor at Senshu University. “I don’t think Japan is out of deflation. The level of unemployment is still high and it will take more time to see a real recovery.
“But the change was regarded only as a matter of time and the markets had already taken it into consideration.”
Still, it is clearly a risky move for a central bank with a record of spectacular miscalculation. In the late 1980s, the bank kept the money spigots open as Japan’s bubble economy and stock market headed toward crashes from which they have yet to fully recover. And it has been heavily criticized for its sluggish response to stimulating demand in the 1990s, as Japan’s economy settled into a chronic malaise.
It was politicians who imposed the radical measure of zero-interest rates and, when that was not enough to get consumers shopping again, forced the measure of pumping liquidity directly into the banks.
The central bank chafed under the policy and, with signs of an economic recovery stacking up, its traditional fear of inflation pushed it to act this week.
Even so, in a concession to the politicians, the bank said it would replace quantitative easing with a policy by which credit would be loosened or tightened based on inflation. The bank set a target of keeping inflation in an annual range of 0% to 2%.
Over the last few weeks, Bank of Japan officials met privately with commercial banks, signaling the intention to start tightening credit. The aim, they told the banks, was to start slowly raising short-term interest rates as early as August, though most analysts don’t expect policymakers to take that even riskier step until there is more proof the economic recovery is for real.
“Raising rates will happen at the end of the year at the earliest,” said Noguchi, echoing a widely held view. “And I think it will be next year.”
Naoko Nishiwaki of The Times’ Tokyo Bureau contributed to this report.
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The Bank of Japan’s benchmark interest rate is in effect zero. How it compares with rates of other major central banks:
Source: Bloomberg News