If Japan, home to the world’s largest public debt, wanted to save a bundle, it would close the Bank of Japan. Auctioning off its giant neo-baroque headquarter buildings around the nation and pink-slipping roughly 4,900 full-time employees would cheer Moody’s and Standard & Poor’s and plug holes in the national balance sheet.
That’s not going to happen, of course. But imagine if the BOJ had closed shop 17 years ago, right after it first cut interest rates to zero, and turned its function over to a computer program. Would the artificial-intelligence version of the BOJ be any closer to 2 percent inflation than the well-compensated humans occupying its buildings? Probably not, seeing as how the BOJ remains on monetary autopilot programmed to up the stimulus at steady intervals.
There’s a cost to staying on automatic indefinitely, and one the BOJ’s peers in Washington should be weighing carefully. Diminished credibility is one such cost. So is deadening the animal spirits and creative destruction that generate steady, healthy growth. But another is worth considering as both the BOJ and Federal Reserve approach pivotal rate decisions: confidence, and how policy generates it.
There’s a very good chance the robotic BOJ will program in a bit more stimulus on Sept. 21. Deflation remains no less ingrained today than it was when Gov.Haruhiko Kuroda took over in March 2013, while the yen’s rise is slamming exporters and households and companies are scaling back. Before you know it, in 2019, Japan will be commemorating a dubious anniversary: 20 years since quantitative easing began. On that same day Tokyo digs deeper, Janet Yellen has an ideal opportunity to engineer a different fate in the United States. The Fed, in other words, would be crazy not to raise rates.
The justification is there. Even though traders read the 151,000 gain in August non-farm payrolls as a downer, America’s employment machine is churning in ways of which other Group of Seven members can only dream. Nor does the Fed want to be hiking rates on Nov. 2, six days before a hotly-contested presidential election. But the real reason to go is to flip a switch in the minds of investors, businesspeople, households and politicians that the trauma of 2008 is history.
Since 2013, Kuroda has added ever more credit, purchased ever more debt and cornered ever more asset markets to break the “deflationary mindset.” It seems clear, though, that his actions have only deepened it. What CEO would borrow today when they know it will be cheaper two years from now? What perspective homebuyer would bid on a property that’ll draw even smaller ones in a year? Why would a foreign company buy a Japanese one with the economy on life support indefinitely?
When Japan grows 2 percent, remember, it’s not really generating that much output so much as borrowing it. That growth is a product of massive government, central bank and exchange-rate stimulants that the business community assumes is semi-permanent — not organic activity. In 2006, the BOJ tried its hand at normalizing rates to normalize the collective psyches of investors, businesses and households. It abandoned the effort amid a powerful public outcry and a few disappointing data series (like Friday’s U.S. jobs report).
This gambit began in March 2006, when the BOJ suspended quantitative easing. Three months later, it moved the benchmark rate from zero to 0.25 percent and then to 0.5 percent in February 2007. The rationale was less to contain any overheating in demand, consumer prices or asset markets than to communicate that Japan Inc. was on the mend — so healthy that powerful monetary medicine was no longer needed. Yet the BOJ quickly lost its nerve, and by 2008 zero rates and QE were back in place.
The BOJ’s mistake, aside from timidity, was not ensuring the government would fill the void. If only Japanese leaders at the time implemented supply-side reforms and made more productive use of fiscal stimulus (Shinzo Abe was one of them, from 2006 to 2007), the BOJ could’ve continued normalizing rates slowly, but steadily, and Japan might be less sedated than it is during Abe’s second turn as prime minister. If only the BOJ hadn’t taken the onus off politicians to reform a rigid and aging economy. If only it acted proactively, leading expectations rather than reacting to them, the third-biggest economy might be a very different machine today.
The lesson from Tokyo is that keeping rates at zero for too long may do more to deaden confidence than instill it. That’s why the Fed should be pull off every rate hike it can get away with, no matter how tiny. The longer it stays on automatic, the longer markets tend to assume the worst.
Based in Tokyo, William Pesek is executive editor of Barron’s Asia and writes on Asian economics, markets and politics. www.barronsasia.com
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