In what can only be described as a ‘shock and awe’ campaign, last week Haruhiko Kuroda, the governor of the Bank of Japan (BOJ) unleashed a new monetary salvo in the on-going currency wars. While most economists and market watchers can agree that his actions are unprecedented, the fallout of this new policy is anything but certain.
Governor Kuroda officially announced that the BOJ is pulling out all the stops in an effort to stimulate the world’s third-largest economy following two decades of stagnation. Despite the prime minister and the governor of the central bank using phrases like “unlimited yen printing” and “I'll do whatever it takes to end deflation”, the BOJ managed to surprise global markets on Thursday, April 4th, with the magnitude of its announcement. For some reason, most market participants had expected that the BOJ would disappoint when it held its first meeting under its new leadership. The BOJ did not disappoint, however, and the Japanese yen plunged almost 6% against the US dollar in the days that followed its stimulus announcement.
Foremost among its policy moves, the BOJ intends to double the size of Japan’s monetary base from ¥135 trillion to ¥270 trillion by March 2015. The pace of this quantitative easing is stunning, as the balance sheet of the BOJ will expand by 1% of the nation’s gross domestic product (GDP) each month in 2013 and 1.1% in 2014. This is almost twice the current pace of 0.54% of GDP engaged in by the US Federal Reserve. The BOJ will accomplish this by doubling its purchases of government bonds. The BOJ will also make more purchases of risk assets, including ¥1 trillion yen worth of ETFs and ¥30 billion of REITs, which will positively affect their respective Japanese markets. And with the objective of achieving a 2% inflation target, the pace of expansion in the balance sheet will increase this year to ¥5.2 trillion per month from the previous ¥3.6 trillion rate. For 2014, the balance sheet is projected to expand by ¥5.8 trillion per month versus a previously planned rate of ¥1 trillion per month. In layman terms, this is throwing everything AND the kitchen sink at Japan’s deflation problems.
The reaction from the rest of the world has been a mixture of support, anger and disbelief. Christine Lagarde, the managing director of the International Monetary Fund (IMF), told an audience in China that, “Monetary policies – including unconventional measures – have helped prop up the advanced economies, and in turn, global growth,” adding, “The reforms just announced by the Bank of Japan are another welcome step in this direction.”1
The Chinese, in turn, have been vitriolic in their criticism of Japan’s new policy direction: “The massive monetary stimulus by the Japanese central bank could spell doom for other nations in the region,” said Li Daokui, a former adviser to the People’s Bank of China.2 Furthering that sentiment, ANZ Bank’s Liu Ligang called the new policy monetary “blackmail”, adding that Japan’s unprecedented easing program targets other export-driven Asian countries such as China. He called on Chinese authorities to guard against a fresh wave of hot money into China’s fragile financial markets, warning that Japan’s move would reignite the so-called carry trade, under which investors borrow in low-interest yen and invest in higher-interest markets. A lower yen will also make it more difficult for China to expand its export business.3 The G20 was widely expected to warn countries against this approach to growth at its last meeting, but clearly failed to dissuade Japan.
In a broad statement about central bank easing, Danish central bank Governor Lars Rohde commented, “The risk is we stay in this climate too long and that the carpet bombing of liquidity spurs inflation.” While acknowledging there are no current signs of consumer price inflation, he stated, that “there is inflation, perhaps a bubble, in some asset classes.” He points out that there are property markets, such as London, that are displaying symptoms of asset inflation.4
No one can say for certain what the outcome of this grand experiment in economics will be. It is a major break with past policy, which was the whole point: to shock and awe the Japanese market out of its deflationary trap. As the BOJ saturates its economy with liquidity, they are hoping that this aggressive monetary policy will create real demand. The question is, will this end in tears? Investors have shown little interest in pondering the long-term ramifications when there’s money to be made today. Since Prime Minister Abe won the national election on December 16, 2012, the Japanese stock market has appreciated by 36% (in YEN terms), which is a stunning rise and an early vote of approval from the market for Mr. Abe. However, we are reminded of Marc Faber’s thoughts about monetary policy on a grand scale, “If debt and money printing equaled prosperity then Zimbabwe would be the richest country in the world.”5 We hope Japan does not suffer the same fate.
1 “Christine Lagarde: BoJ was right to launch monetary blitz” The Telegraph. Retrieved on April 9, 2013 from: http://www.telegraph.co.uk/finance/financialcrisis/9977358/Christine-Lagarde-BoJ-was-right-to-launch-monetary-blitz.html
2 “Japan stimulus will start currency war, say Chinese economists” South China Morning Post. Retrieved on April 9, 2013 from: http://www.scmp.com/news/article/1208127/japan-stimulus-plan-will-start-currency-war-say-china-economists
4 “Liquidity Carpet Bombs Fueling Asset Bubbles, Rohde Says”. Bloomberg. Retrieved on April 9, 2013 from: http://www.bloomberg.com/news/2013-04-07/liquidity-carpet-bombs-fueling-asset-bubbles-rohde-says.html
5 “Marc Faber: Nations Will Print Money, Go Bust, Go To War …. We Are Doomed !”. Socio-Economics History Blog. Retrieved on April 9, 2013 from: http://socioecohistory.wordpress.com/2010/05/28/marc-faber-nations-will-print-money-go-bust-go-to-war-we-are-doomed/