BoJ Warned of Demerits of Easy Policy

Years of heavy money printing by the Bank of Japan has made the bond market dysfunctional and fiscal policy heavily dependent on cheap money offered by the bank, a former BoJ deputy governor said, warning against expanding monetary stimulus further.

Toshiro Muto, who retains strong influence among policymakers, also said it would be hard for Japan to intervene in the currency market to stem yen gains unless the currency strengthens well below 100 to the dollar.

The yen stood around 104 to the dollar on Wednesday.

“It’s possible if the yen spikes beyond 100 to the dollar and heads toward 90 abruptly,” Muto told Reuters, when asked about the chance of yen-selling intervention by Japan.

“But Japan would need to explain its intentions thoroughly and gain the understanding of the US and European financial authorities. Otherwise, it will be hard to intervene,” said Muto, who also served as Japan’s top finance bureaucrat.

Governments of the world’s leading economies have an agreement to abstain from currency market intervention to manipulate foreign exchange rates.

Arresting unwelcome yen gains that hurt an export-reliant economy have been among the top priorities of policymakers, who have frequently offered verbal threats to speculators against pushing up the yen too much.

But analysts say Japan won’t be able to intervene given strong warnings by the United States to abide by a G20 agreement urging members to avoid competitive currency devaluations.

Having gobbled up a third of the Japanese government bond market, the BoJ is also nearing the limit of its massive asset-buying program. Consequently it revamped its policy last month to target interest rates, in a shift of strategy from one that had rested on the pace of money printing.

Muto said the BoJ’s shift to a new framework was a welcome move that makes its policy more sustainable. But he warned against expanding monetary stimulus further and called on the BoJ to focus on the demerits of its ultra-easy policy.

“Japan’s bond market has essentially stopped functioning” under the BoJ’s new target of keeping 10-year JGB yields around 0%, said Muto, now chairman of private think tank Daiwa Institute of Research.

Years of heavy money printing has also led to a growing sense among politicians that there was nothing wrong with boosting fiscal spending with cheaply-funded debt, Muto said.

“The boundary between fiscal and monetary policies has blurred. Fiscal and monetary policies are heavily reliant on each other. That’s among the harmful effects of the ultra-easy policy,” he said.

Under its new policy framework adopted last month, the BoJ now sets a minus 0.1% short-term rate target and a 0% target for 10-year JGB yields. Its main means for easing would be to cut these interest rates.

Japan postponed a sales tax hike and plans a big stimulus package despite being saddled with a public debt twice the size of its economy and the worst among major advanced economies.

  More Fiscal Stimulus

Japan should consider more government spending to maximize the impact of monetary policy, an adviser to Prime Minister Shinzo Abe said on Wednesday, indicating a shift in emphasis to fiscal from monetary policy.

Koichi Hamada, long known as a “reflationist” keen to have the Bank of Japan flood the economy with cash to kindle price rises, singled out the role of fiscal stimulus after a recent policy shift by the central bank was taken to mean the BoJ is in no hurry to boost its massive easing.

“Under the current monetary policy of keeping long-term interest rates around 0%, if interest rates should rise due to more fiscal spending, monetary policy can rein such moves, and crowding out of private investment won’t happen,” Hamada, an emeritus professor of economics at Yale University and adviser to the Cabinet, told Reuters in an interview.

“This means monetary policy will work even better.”