The Bank of Japan is set to boost funding support for companies, but it will avoid cutting interest rates, as it could encourage people to step out of their homes to splurge and undermine government efforts to curb the coronavirus outbreak. The dilemma for the BOJ underlines the difficulties of managing Japan's approach to controlling the spread of the virus, which lacks punitive measures applied in lockdowns of many Western countries.
More radical monetary easing steps to spur demand - such as interest rate cuts - are off the table as they could hamper government efforts to keep households home and businesses shut. There's no doubt the economy is in a pretty bad shape. But taking steps to boost demand now would stimulate consumption and risk spreading the virus
The BOJ may need to take bolder easing steps to prevent bankruptcies and job losses from triggering a banking crisis, but such discussions will likely have to wait until the latter half of this year. The BOJ eased policy last month by pledging to increase buying of risky assets and create a new loan program to assist funding of small firms hit by the health crisis.
Among the measures taken in March included a pledge for the BOJ to spend up to 2 trillion yen ($18.56 billion) by September to increase its holdings of corporate bonds and CP. The BOJ may double or triple the amount of such assets it pledges to buy. Companies big enough to issue corporate bonds and CP probably have other means to procure funds, so it will be more a symbolic gesture to ease corporate jitters. At the two-day rate review ending on Tuesday, the BOJ is set to maintain its short-term interest rate target at -0.1% and a pledge to guide 10-year government bond yields around 0%.
Major central banks have responded to the pandemic with aggressive monetary measures to cushion the broad hit to their economies. Many of the steps have been largely focused on calming market nerves and pumping ample liquidity into the financial system - rather than giving a direct boost to growth.
Japan's government last week expanded a state of emergency to include all of the nation. But it has struggled to contain the pandemic, as a lack of enforcement measures still keep many businesses open and trains running with commuters. The number of infections reached 12, 863 as of Saturday with 345 deaths, according to public broadcaster NHK.
Japan's struggle to contain the pandemic is distracting the BOJ from its efforts to achieve its 2% inflation target. Up till now, the central bank has said it was ready to act if the economy loses momentum to achieve the elusive price goal. That pledge is now out the window as the pandemic forces the BOJ to focus on immediate damage control, rather than achieving what has already become an obsolete target.
As the health crisis pushes the economy closer to recession, the BOJ is likely to sharply cut its growth and price projections in a quarterly review of its forecasts to be issued at next week's policy meeting. The new projections will show inflation will remain distant from the BOJ's 2% target for the remaining three years of Governor Haruhiko Kuroda's tenure - marking the final nail in the coffin for his radical monetary experiment to pull Japan sustainably out of economic stagnation. Given the hit from the pandemic, the economy no longer has the momentum to achieve the BOJ's price target.
Unprecedented situations require unprecedented actions. That’s why the U.S. Federal Reserve should fight a rapidly deepening recession by taking interest rates below zero for the first time ever. When FED officials hold their regular policy-making meeting next week, all the lights on their dashboard will be flashing red. The unemployment rate is expected to reach double digits by June.
With global demand cratering, the FED’s preferred measure of inflation will likely fall to 1% or even lower by the end of the year — well below its target of 2%. And in the absence of a Covid-19 vaccine, the malaise will likely persist well into 2021.
Any intellectual knows that in such a dire situation, the central bank should cut interest rates to stimulate growth and job creation. But as Chair Jerome Powell reiterated last month, the FED doesn’t plan to do so in the foreseeable future, because a further quarter-percentage-point cut would drive the interest rate it pays on banks’ reserve deposits into negative territory.
A decade ago, the answer would have been that it was impossible to go below zero: Banks would simply avoid the charges by withdrawing their reserve deposits and holding the funds in paper currency, which pays zero interest. But economists now recognize that doesn’t happen, because it’s costly to store billions (or trillions) of dollars of paper currency safely. Several European central banks, as well as the BOJ, have successfully taken interest rates below zero.
This stimulates consumer demand in the usual ways: by incentivizing banks to make loans at lower interest rates, to bid up the prices of financial assets, and to charge higher fees for deposits. Another of the FED’s concerns about negative rates has to do with financial stability — a relatively new (and completely made up) responsibility of central banks. Sure, negative interest rates would help lower the unemployment rate from what is likely to be its highest level since World War II.
But officials worry that they will also weigh on banks’ profitability, pushing down share prices and making the financial system more vulnerable to distress. Put crudely, the FED is giving up on unemployment reductions to help keep banks and their shareholders safer. The FED is inventing a trade-off where none exists. If the central bank really cares about financial stability, it has many tools to ensure it. Right now, for example, it could block large banks from paying dividends, a practice that erodes the capital they need to absorb losses. None of this precludes a monetary policy focused on the FED’s congressional mandate of maximizing employment and keeping inflation near target.
So, the FED is left no good argument against going negative. Terrifyingly high unemployment and potentially rapid disinflation are powerful arguments in favor. Next week, the FED should take interest rates at least a quarter percentage point below zero.
