The economist Milton Friedman once famously proposed scattering money from a helicopter to get consumers to spend their way out of deflation — the debilitating decline in prices and wages that can act as a deadweight on economic activity.
“Copter cash” may not yet be among the tools considered by the Japanese central bank in its quest to lift the country out of its long deflationary slump, but pressure is mounting on the Bank of Japan for more drastic action — even if Japanese officials still show little willingness, or ability, to step in.
Last week, the deflation doldrums that have becalmed Japan’s economy for much of the past decade helped knock Japan from its long-held ranking as the world’s second-largest economy (China edged up to No. 2, behind the US, where some economists warn that deflation could also hobble the US economy).
Meanwhile, recent signs of a Japanese recovery now seem to be fading: The economy grew an anemic 0.1 percent from April to June and a strengthening yen, which hurts Japan by making its exports less competitive, has many people calling for the bank to further ease its monetary policy to shore up the economy — if not for outright government intervention in currency markets.
However, on Monday, hopes for decisive action were dashed when Japanese Prime Minister Naoto Kan and Bank of Japan (BOJ) Governor Masaaki Shirakawa opted not to hold a widely anticipated meeting, but instead engaged in a 15-minute phone call in which the two did little more than agree to “communicate closely with each other.”
“There was absolutely no talk” of currency intervention in their conversation, Yoshito Sengoku, the government’s top spokesman, told reporters.
The Nikkei stock index slipped 0.68 percent to 9,116.69 on Monday, its lowest close this year, following Sengoku’s comments. The yen continued to hover close to 15-year highs or around ¥85.35 to the US dollar.
“The government has again taken a wait-and-see attitude,” said Norio Miyagawa, senior economist at Mizuho Securities Research and Consulting. “The truth is, there are no quick fixes, but markets are disappointed that they got nothing at all.”
Indeed, while Japanese economic officials have long been criticized for moving too slowly and timidly, they now seem to have few good options, whatever their will for pursuing them.
In the US, there has been considerable debate about whether the US economy faces a similar deflationary risk, and whether the Federal Reserve should be doing more to guard against falling into a similar trap.
DEFLATIONARY RISK
Some of those fears may well be overblown, but a widely read paper by James Bullard, president of the Federal Reserve Bank of St Louis, has warned that the US economy risks becoming “enmeshed in a Japanese-style deflationary outcome in the next several years.”
Japan’s experience shows that deflation can creep up on an economy — and can be extremely difficult to shake.
In Japan, companies remain unsure of how much to invest, because deflation makes it unclear how much they can sell, and for how much.
In addition, households have little incentive to spend, knowing goods and services will get cheaper the longer they wait.
That lack of spending, in turn, is deepening Japan’s deflation, as companies are forced to lower prices in an effort to attract buyers.
An aging, dwindling population has further sapped demand. So have widely held fears over jobs, wages and pensions, which are prompting consumers to hunker down and save instead of spend.
Another deadweight is Japan’s so-called zombie companies, which are propped up by rigid regulations and comfy ties with banks, and often leave little space for newer players that may take more investment risks, offer more innovative products and stimulate more demand.
“Japan’s deflation is not caused by a lack of liquidity or high interest rates,” said Masaaki Kanno, chief economist at JPMorgan Securities Japan. “The problem is that people and firms do not want to spend money.”
Any opportunity for fresh stimulus spending is limited by a US$10 trillion public debt that is twice the size of Japan’s economy, as well as a political impasse in the Diet.
Kan last Friday appeared to back away from recent talk of more stimulus, instead indicating that he would lean on the central bank to do more to sustain Japan’s recovery.
“We need to think more about ways to boost the economy that don’t rely on pump-priming,” Kan said.
The central bank’s options are also limited. The main interest rate under its control — the so-called policy rate — is 0.1 percent, giving the bank little leeway to lower rates further. That limits the bank to measures like buying up long-term government bonds or pumping more short-term financing into banks, an approach it introduced in December.
However, consumer demand in Japan has become so weak — and deflationary expectations are now so much the norm — that the economy seems no longer to respond to such monetary tools.
After Japan’s economic run-up of the 1980s became a speculative bubble that burst in 1990, it took about four years for its economy to hit rock bottom. It then took another four years for deflation to take hold.
LASTING IMPACT
Not until 1999 did the BOJ respond by lowering its policy interest rate to zero. By that time, however, the economy was so depressed that even zero interest rates could not induce a recovery.
Only when the central bank in 2003 began sharply increasing its purchases of financial assets to flood the economy with more money was the stage set for a gradual recovery.
And yet, despite stable economic growth of about 2.5 percent from 2004 through 2007, the deflation glacier did not completely melt: The fall in the consumer price index, a measure of deflation that tracks average prices for a basket of goods, slowed but did not disappear.
Still, emboldened by a nascent recovery, the BOJ began raising its policy rate in July 2006, bringing it to 0.5 percent by the following March — a controversial step that some economists, as well as politicians, called premature.
Before that debate could fully play out, the global economic crisis ravaged Japan’s export markets, plunging the country into its worst recession since World War II. In 2008, the bank again slashed interest rates, to 0.1 percent.
Now, a swing upward in the value of its currency is adding to the country’s woes by threatening its export-led economy, making Japan’s goods more expensive overseas and eroding the value of Japanese corporate earnings.
The yen tends to strengthen against other currencies despite weaknesses in Japan’s economy, because the country continues to chalk up current-account and trade surpluses.
The yen has risen about 8 percent against the US dollar in the last three months, and recently hit a 15-year high of ¥84.73 before weakening slightly.
The BOJ could mitigate the yen’s rise by further easing monetary policy, as lower rates in Japan would provide more incentive for traders to sell the yen and invest in other currencies. However, in practice, as long as rates are nearly as low elsewhere — including the US and the eurozone — there is little motivation for currency traders to abandon the yen.
Japanese government ministers have in recent days openly called on the central bank to do more to ease the yen’s rise.
“The monetary authorities should send a strong message that the yen is too strong,” the influential minister of land, infrastructure and transport Seiji Maehara, said on Friday last week.
However, analysts doubt the central bank will be aggressive, given its widely known discomfort with a monetary policy that has stayed so easy for so long.
“We think that the market is pinning rather too many hopes on countermeasures” to deflation and the yen’s rise, Taisuke Tanaka, a strategist at Nomura Securities in Tokyo, wrote in a recent note to clients. “The market may soon realize just how few options Japanese authorities have left.”
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