On The BoJ's Latest Move: Nothing To See Here Folks, Move Right Along

by: Scott Sumner

While many of our famous macroeconomists, pundits and bloggers insist we need fiscal stimulus because the Fed and BoE and ECB are out of ammunition, Japan continues to prove them wrong:

Kuroda’s first policy meeting since taking office on March 20 was seen as a big test of his ability to steer the BOJ towards unorthodox measures to meet the inflation target it adopted in January, and markets liked what they saw.

Government bond futures soared and the benchmark 10-year bond yield hit 0.425 percent, its lowest ever. The yen, which had been creeping up in the run-up to the meeting, plunged, driving the dollar up by more than 2 percent to around 95.25 yen from around 92.90 before the decision.

The Nikkei stock index unwound losses of more than 2 percent to end up 2.2 percent, just shy of a 4-1/2 year closing high hit last month.

The BOJ will buy 7.5 trillion yen of long-term government bonds per month, roughly 70 percent of bonds sold in markets. It combined two bond-buying schemes, its asset-buying and lending program and the “rinban” market operation, to buy longer-dated government bonds, including those with duration of 40 years.

The stock market actually rose over 4% on the news, as it was down sharply right before the announcement. And of course the decision was widely expected, so the market response merely reflects the extent to which the bond purchase was larger than expected. It makes more sense to look at the stock market reaction since Abe first stunned the markets with a 2% inflation target proposal, while running for office in mid-November 2012. The Japanese stock market is up 45% since that announcement. The yen is down roughly 20%.

Some people will discuss whether the policy will “work.” It’s already worked. The yen plunged on the news. That’s not supposed to happen when you are stuck in a liquidity trap. More proof that fiat money central banks are never “trapped” by anything other than their timidity. If the actual inflation rate doesn’t rise to 2%, then do it again, and again, and again, and again. Suppose the yen went to 200, would there be no inflation? How about 400?

Off topic, there is some evidence that sequestration is hitting the labor market. New unemployment claims are rising. Is that inconsistent with “monetary offset?” Of course not. Monetary offset can’t perform miracles. If the Fed did enough stimulus late last year to offset expected fiscal austerity in 2013, the high frequency data would still show variation from month to month, depending on exactly when the Federal layoffs actually occurred. Thus if the Fed was determined to keep RGDP rising at 2% despite austerity, you might see 3% RGDP growth in a quarter with no federal layoffs, and 1% RGDP growth in a quarter with layoffs. The Fed’s policy changes tend to occur about once per year, and hence cannot offset month-by-month real GDP growth rates. Monetary offset by the Fed will have failed (which is certainly possible) if RGDP growth for all of 2013 comes in under the 2% seen in recent years.

HT: Cameron, Steve.