The Bank of Japan begins to face its failures

by Shaun Richards

The last couple of weeks have seen two of the world’s main central banks strongly hint that the path for interest-rates is now lower, or perhaps I should say even lower. So as we open this week my thoughts turn eastwards to what the Shangri-Las would call the leader of the pack in this respect, Nihon or Japan. If we look at the Nikkei newspaper we see that Governor Kuroda of the Bank of Japan has also been conducting some open mouth operations.

TOKYO — Bank of Japan Governor Haruko Kuroda said extra stimulus would be an option if prices refuse to keep rising toward the central bank’s 2% inflation target.

The BOJ “will consider extra easing measures without hesitation” if the economy runs into a situation where momentum toward reaching stable inflation is lost, Kuroda said at a news conference on Thursday in Tokyo after keeping monetary policy unchanged.

There are various problems with this which start with the issue of inflation which has simply not responded to all the stimulus that the Bank of Japan has provided.

  The consumer price index for Japan in May 2019 was 101.8 (2015=100), up 0.7% over the year before seasonal adjustment,   and the same level as the previous month on a seasonally adjusted basis. ( Statistics Bureau).

This has been pretty much a constant in his term ( the only real change was caused by the rise in the Consumption Tax rate in 2014) and as I have pointed out many times over the years challenges Abenomics at its most basic point. If we stick to the monthly report above the situation is even worse than the overall number implies. This is because utility bills are rising at an annual rate of 3.2% but this is offset by other lower influences such as housing where the annual rate of (rental) inflation is a mere 0.1%. Also the services sector basically has virtually no inflation as the annual rate of change is 0.3%. Even the Bank of Japan does not think there is much going on here.

On the price front, the year-on-year rate of change in the
consumer price index (CPI, all items less fresh food) is in the range of 0.5-1.0 percent. Inflation expectations have been more or less unchanged.


On Friday we got the latest wages data which showed that real wages fell at an annual rate of 1.4% in April, This meant that so far every month in Japan has seen real wages lower than the year before. If we look back we see that an index set at 100 in 2015 was at 100.8 in 2018 so now may well be back where it started.

This matters because this was the index that Abenomics was aimed at. Back in 2012/13 it was assumed by its advocates that pushing inflation higher would push wages even faster. Whereas that relationship was struggling before the credit crunch and it made it worse. Indeed so strong was the assumed relationship here that much of financial media has regularly reported this it has been happening in a version of fake news for economics. The truth is that there has been an occassional rally such as last summer’s bonus payments but no clear upwards trend and the numbers have trod water especially after Japan’s statisticians discovered mistakes in their calculations.

Problems for economics

Back when QE style policies began there was an assumption that they would automatically lead to inflation whereas the situation has turned out to be much more nuanced. As well as an interest-rate of -0.1% the Bank of Japan is doing this.

With regard to the amount of JGBs to be purchased, the Bank will conduct purchases in a flexible manner so that their amount outstanding will increase at an annual
pace of about 80 trillion yen……….The Bank will purchase exchange-traded funds (ETFs) and Japan real estate
investment trusts (J-REITs) so that their amounts outstanding will increase at annual
paces of about 6 trillion yen and about 90 billion yen, respectively…….As for CP and corporate bonds, the Bank will maintain their amounts outstanding at
about 2.2 trillion yen and about 3.2 trillion yen, respectively.

Yet we have neither price nor wage inflation. If we look for a sign of inflation then it comes from the equity market where the Nikkei 225 equity index was around 8000 when Abenomics was proposed as opposed to the 21,286 of this morning. Maybe it is also true of Japanese Government Bonds but you see selling those has been something of a financial widow maker since around 1990.

Misfire on bond yields

2019 has seen yet another phase of the bond bull market which if we look back has been in play since before the turn of the century. But Japan has not participated as much as you might think due to something of a central planning failure.

The Bank will purchase Japanese government bonds (JGBs) so that 10-year JGB yields will remain at around zero percent. While doing so, the yields may move upward
and downward to some extent mainly depending on developments in economic activity and prices.

That was designed to keep JGB yields down but is currently keeping them up. Ooops! We see that bond yields in Germany and Switzerland have gone deeper into negative territory than in Japan. If we compared benchmark yields they go -0.31% and -0.51% respectively whereas in Japan the ten-year yield is -0.15%.

Economic Growth

On the face of it the first quarter of this year showed an improvement as it raised the annual rate of economic or GDP growth to 0.9%. That in itself showed an ongoing problem if 0.9% is better and that is before we get to the fact that the main feature was ominous. You see the quarterly growth rate of 0.6% was mostly ( two-thirds) driven by imports falling faster then exports, which is rather unauspicious for a trading nation.

If we look ahead Friday’s manufacturing PMI report from Markit posted a warning.

June survey data reveals a further loss of momentum
across the manufacturing sector, as signalled by the
headline PMI dropping to a three-month low. Softer
demand in both domestic and international markets
contributed to the sharpest fall in total new orders for
three years. A soft patch for automotive demand…..

The last few words are of course no great surprise but the main point here is the weaker order book. So Japan will be relying on its services sector for any growth. Also there is the issue of the proposed October Consumption Tax hike from 8% to 10% which would weaken the economy further. So we have to suspect it will be delayed yet again.


To my mind the Abenomics experiment never really addressed the main issue for Japan which is one of demographics. The population is both ageing and shrinking as this from the Yomiuri Shimbun earlier this month highlights.

The government on Friday released a rough calculation of vital statistics for 2018, revealing that the number of deaths minus births totaled 444,085, exceeding 400,000 for the first time.

The latest numbers on Thursday showed yet another fall in children (0-15) to 12.1% of the population and yet another rise in those over 85 to 4.7%. In many ways the latter is a good thing which is why economics gets called the dismal science. The demographics are weakening as Japan continues to borrow more with a national debt of 238% of GDP.

The size of the national debt is affordable at the moment for two reasons. The first is the low and at times negative level of bond yields. Next Japan has a large amount of private savings to offset the debt. The rub is that those savings are a buffer against the demographic issue and there is another problem with Abenomics which I have feared all along. Let me hand you over to a new research paper from the Bank of Japan.

The reversal interest rate is the rate at which accommodative monetary policy
reverses and becomes contractionary for lending. Its determinants are 1) banks’
fixed-income holdings, 2) the strictness of capital constraints, 3) the degree of passthrough to deposit rates, and 4) the initial capitalization of banks.

So it looks like they are beginning to agree with me that so-called stimulus can turn out to be contractionary and there is more.

The reversal interest rate creeps up over time, making steep but short rate cuts preferable to “low for long” interest rate environments.

Exactly the reverse of what Japan has employed and we seem set to copy.