Tuesday, November 08, 2005


BOJ Walks Deflation Tightrope

The Japan Times has this editorial on interest rates. "In March 2001, the Bank of Japan set short-term interest rates at near zero, declaring that the nation's economy had entered a period of deflation. That extra-loose monetary policy, which is said to have had few parallels in the world, is likely to change next spring, because an upturn in consumer prices, an essential condition for lifting the 'zero-interest-rate' policy, is considered almost certain."

"The 'quantitative monetary easing' now in place can be described as an 'abnormal policy designed to deal with an abnormal situation,' namely, deflation. The test for the central bank is to get the economy out of this anomaly without disruptions. The present policy was introduced as an 'emergency measure' to save troubled financial institutions even if individual deposit-interest rates were sacrificed."

"Another lesson is that the BOJ could miss the opportunity to raise interest rates if it pays too much attention to consumer-price trends and overlooks vital signs in other key areas. That's what happened on the eve of the bubble. The bank failed to grasp the gravity of the situation: Inflation in asset prices was creeping up amid soaring prices for real estate, stocks, paintings and so on."

"Now there is talk of a 'minibubble' as surplus money flows again into stock markets and urban real estate. Although a full-blown bubble is unlikely, the central bank needs to stay on guard. Making a policy change at the right time is always a big challenge for the central bank. Making it too soon, or too late, could make things worse."

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