The Bank of Japan continues to push the boundaries of monetary policy.
It surprised markets on Friday by joining the less-than-zero club of economies that have embraced a policy of negative interest rates, requiring financial institutions to pay the central bank to park some of their cash beyond required reserve levels.
Once considered unthinkable among central bankers, the pay-to-save strategy has now been adopted in Sweden, Denmark, Switzerland, and by the European Central Bank, in a bid to get banks lending and companies spending.
In the case of Japan, the bold move by BOJ Gov. Haruhiko Kuroda shows the lengths to which the bank is willing to go to end a decades-long economic malaise. Since taking over in 2013, Kuroda has already pushed monetary policy to the limits with an aggressive quantitative easing program of bond and other asset purchases that has blown out the central bank’s balance sheet to about three-quarters the size of the economy. Along the way, the yen has tumbled more than 20 percent versus the dollar.
Kuroda’s adventures in extreme central banking were designed to lift Japan out of the deflationary mire and generate an inflation rate of 2 percent.
Under Japanese Prime Minister Shinzo Abe’s three-pronged Abenomics economic policy, the BOJ’s policies were, in concert with an aggressive fiscal expansion and tough-minded restructuring reforms, to get the $4.6 trillion economy back on track.
The BOJ has done its part, but Abe’s ruling Liberal Democratic Party hasn’t kept up. An ill-timed tax hike in 2014 pushed Japan into recession. Inflation remains tepid — in fact, deflation remains a risk — exports are disappointing, consumer spending is weak and businesses aren’t investing enough. The world’s third-biggest economy grew at an annualized rate of 1 percent in the third quarter.
“Nothing is on track in Japan and that’s why the pressure was rising on the Bank of Japan,” said Klaus Baader, chief Asia-Pacific economist at Societe Generale SA in Hong Kong.
The measure is officially called “Quantitative and Qualitative Monetary Easing (QQE) with a Negative Interest Rate,” and the BOJ board agreed Friday by a tight 5-4 vote to implement a rate of minus 0.1 percent on certain excess holdings of cash.
The announcement came just hours after government reports showed the economy was unexpectedly weak in December, with bigger than anticipated declines in industrial production and household spending. The Topix index was whipsawed after the BOJ decision with shares initially soaring 3.1 percent, before losing those gains, only to rally again to close 2.9 percent higher.
Analysts are mixed on how effective this latest maneuver will be, given that it’s a potential negative for the nation’s banks.
“It’s unclear how much positive impact there’ll be on the actual economy, and the impact it’ll have on corporations and shares,” said Norihiro Fujito, general manager of Mitsubishi UFJ Morgan Stanley Securities Co. in Tokyo. “The interest from current accounts held at the Bank of Japan was a source of income for financial institutions, but now they can’t bank on that.”
Subdued credit demand shows the scale of the task ahead. A gauge of demand for home loans fell to minus 4 in January. While a measure of demand for corporate loans advanced to a two-year high, the level remains below those reached during Japan’s pre-global crisis expansion in 2006 to 2007.
For an economy that’s been stagnant for two decades, what’s needed are deep, painful structural reforms led by the government, according to David Carbon, chief economist at DBS Bank Ltd. in Singapore. “Monetary policy can’t shoulder the whole burden,” he said. “Negative rates to the tune of 10 basis points isn’t going to do much of anything.”
That throws down the challenge to Abe, who has advocated for reflationary policies that weakened the yen and boosted corporate profits. His goal is to expand Japan’s nominal GDP by 20 percent to ¥600 trillion over five years as part of a “three-arrow” strategy, an image borrowed from a Japanese folk tale meaning that three together are harder to break than one.
The next phase of Abenomics is meant to tackle the nation’s demographic woes as the population of 127 million is simultaneously aging and shrinking. Abe’s plans suffered a setback when economy minister Akira Amari — a key engineer of Abenomics — resigned over a graft scandal last week.
With little more than a year until a planned sales tax increase, a debate is deepening in Tokyo’s corridors of power over whether the economy can withstand the blow. The government also needs to consolidate support for the Trans Pacific Partnership trade agreement that will bring greater access to foreign goods and services.
Since returning to office in December 2012, after his stint as prime minister in 2006 to 2007, he has held the position longer than any of the past five leaders. Voter support remains relatively high, according to three polls conducted over the weekend, keeping Abe on course to consolidate power in an Upper House election set for July.
Still, economists remain unconvinced that the fiscal authority will drive through its promised agenda, keeping pressure on Kuroda, said Marcel Thieliant, a Singapore-based economist for Capital Economics. “The Bank of Japan has to do the heavy lifting.”
Kuroda, 71, has the job of convincing the markets he can succeed. The economic slowdown in China, Japan’s biggest trading partner, is a drag on growth. In a briefing Friday, Kuroda may need to deliver on his promise that he won’t hesitate to add to monetary stimulus if needed.
The negative rate policy takes effect Feb. 16 and will operate as a three-tier system on financial institutions’ current accounts.
“Will it make a huge difference? I have my doubts, but it shows that the BOJ isn’t just sitting back,” said Societe Generale’s Baader. “Symbolically, I think it is a much greater step than it is effectively.”
An opinion poll published by the Yomiuri Shimbun Monday showed just 24 percent of respondents thought the BOJ’s move would help the economy, while 47 percent said it would not. Twenty-eight percent gave no answer.
The central bank Friday also announced that it is delaying the timing of reaching the 2 percent price target to around the six-month period starting in April 2017, the third postponement in less than a year. The bank now sees inflation rising 0.8 percent in the 12 months starting this April, down from a previous forecast of 1.4 percent.
At a conference hosted by the BOJ last year, Kuroda cited Peter Pan for inspiration.
“I trust that many of you are familiar with the story of Peter Pan, in which it says, ‘the moment you doubt whether you can fly, you cease forever to be able to do it,’ ” he said at the time.
For Kuroda, with subdued wage growth and falling oil prices, reaching his key inflation goal looks as far away as ever.