In a surprise move last Friday, Japan made two huge announcements. First, the Bank of Japan (BOJ) said it will boost its monetary easing, increasing the amount of its annual asset purchase to 80 trillion yen. BOJ’s balance sheet will expand to over 70% of Japan’s gross domestic product (GDP) – almost three times what the Fed’s balance sheet makes up of U.S. GDP. Second, Japan’s Government Pension Investment Fund (GPIF) – the largest pension fund in the world with $1.1 trillion under management – will be able to increase its allocation to buy more foreign securities.
The yen immediately weakened by 5% and the Nikkei surged by 7%. While the financial market received these announcements positively, there has been concern in academia about the magnitude of this monetary infusion and a feeling that the central bank is ‘out of control.’ However, the BOJ has a very clear objective – to achieve a 2% inflation target as soon as it can.
When a country is chronically sick, even with interest rates at 0%, people hang onto their savings and do not spend money, let alone invest. They think prices will continue to dip lower. This is when the government has to provide a nudge to stimulate some economic action. This nudge comes in a combination of short-term, immediate help through monetary easing and longer-term structural changes through fiscal easing. But the two have to work hand-in-hand. The recent sales tax hike in Japan (a form of fiscal tightening) resulted in signs of disinflationary pressures starting to mount. That’s why BOJ needed to act now through monetary easing to turn around the business sentiment.
But the focus is not in the amount of quantitative easing, but the true long-term solution through fiscal policy, such as changing the corporate structure, incentives, tax rates, labor forces etc. and that takes time. One thing to note though is that Japan now runs a trade deficit – a feat once considered impossible – so they are trying to consume more.
My view: Japan has traditionally been known for being slow to respond, but BOJ’s decision is bolder than other central banks. I believe the yen will remain weak because of BOJ’s and the government’s consistent policy.
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