Commentary / Japan

The BOJ is too focused on 2% inflation target

by Daniel Moss

Bloomberg

Judging from the latest economic forecasts, Japan’s central bank is falling even farther behind on meeting its 2 percent inflation target. Meanwhile, its efforts to keep interest rates down are bringing the bond market to the verge of a coma. So great is the Bank of Japan’s buying to support its quantitative easing, traders may just stop showing up to work.

How to get out of this impasse? Officials must be more creative. One suggestion: Stop trying so hard to hit the inflation target.

As long as the 2 percent goal drives policy, the BOJ must keep muddling through until it’s within reach. But the number is elusive: The bank now thinks it won’t happen until 2021. This commits it to years of further stimulus, leaving it with scarce resources to combat any new slowdown — related, say, to the worsening U.S.-China trade spat. There’s also mounting concern about the financial strains that years of negative interest rates are placing on regional banks. For a guy who likes to frame things in terms of sustainability, BOJ Gov. Haruhiko Kuroda looks to be on an unsustainable course.

But what if he introduced some formal flexibility around the inflation target — perhaps a band of plus or minus 0.5 percentage points around the vaunted 2 percent? Or at least announced that the policy can be adapted when milestones on the way to 2 percent are in sight? Numerical sacraments are becoming passe, so it wouldn’t be too terribly radical. Granted, it’s tough to change targets if you keep missing them. It can look like failure. But Kuroda is agile and well-equipped to manage the trick, especially given that he just started a new five-year term.

The relaxed target would give the BOJ leeway to adjust policy and conserve resources, which will be needed if the economy slows. The ultra-easing wouldn’t have to be abandoned per se, but parts of it modified. For example, the yield on the 10-year Japanese government bond could be allowed to move within a wider range than the current 0.2 percentage points from zero. Also, the ¥80 trillion of bond purchases pledged each year could be officially cut or abandoned entirely (as a practical reality, the BOJ isn’t buying close to ¥80 trillion now, and clinging to fiction doesn’t look serious). Beyond that, the interest rate of minus 0.1 percent on reserves held at the BOJ could be normalized.

I am a fan of Kuroda. Under his watch, and that of Prime Minister Shinzo Abe, Japan has made real progress. The policy box they are in constrains how forthrightly they can discuss it. For all the concern about too-low inflation, at least there’s no longer deflation. Japan is also on the cusp of a technology boom driven by population decline, 2.3 percent unemployment, swelling capital spending and a general embrace of robotics.

There’s a neat vehicle for Kuroda to modify his approach. At least every couple of years, the BOJ likes to take time out to review where things stand. These periods of reflection have typically been steered by Masayoshi Amamiya, a veteran official with Cardinal Richelieu-like qualities. He got a big promotion this year to deputy governor. He can work a pivot, or even just a few tweaks, for Kuroda again. Perhaps normalizing policy in some respects can create room to ease in others, given softening global growth.

Japan doesn’t have to be stuck indefinitely. Kuroda is too wily for that.

Daniel Moss writes and edits articles on economics for Bloomberg Opinion.