Misconceptions Regarding Bank of Japan Policy

From Marketwatch.com

From Marketwatch.com

Bank of Japan Joins Fed, ECB in Record Stimulus – Bloomberg.

Bank of Japan follows the Fed, on steroids | Gavyn Davies.

A day after the BoJ dropped its QE bomb, a number of misconceptions about its plan are floating around the financial media.  Today, I’d like to do my part to dispel some of these, and then knock off early to enjoy Central Park.

I found many of these misconceptions in the FT article linked above, so you may wish to read it first.  Without further ado:

The package of quantitative easing announced today by the new regime at the Bank of Japan is one of the largest monetary injections ever announced by the central bank of a major developed economy. (My bold and italics— JMD) This statement is essentially correct except for one word.  Perhaps I am being a bit of a stickler, but I prefer direct language.  The BoJ is not “injecting money”  or “firing a big bazooka.” No matter the metaphor the financial press is using to describe this action, it is money printing.  Central banksters must cloak their action under the language of medicine or war, but it is unbecoming for a journalist to do so.  Inform the public not only by disseminating information but by doing so with clarity.

[The new policy] represents a deliberate change in philosophy, and a complete abandonment of everything that the Bank of Japan has said about monetary policy in the past two decades.  Even before the days of William Randolph Hearst, journalists have known that hype sells newspapers.  Calling this new policy a change or even new is at best hype and at worst disingenuous.  The BoJ has maintained a zero interest rate policy since the late 90’s and has been purchasing JGBs since the early aughts:

Japanese Benchmark Interest Rate

All that has changed here is the scale of the BoJ’s actions.  The philosophy has remained the same.  With a fervor usually reserved for religion, the BoJ and their fellow central banksters believe that they have the ability to create viable, self-sustaining economic growth via the printing press despite the fact that this has never been the result of these expansionary policies.

If you still believe that the BoJ is doing something new over those pesky facts above, then believe the author of the article:

The doubling in the Japanese monetary base over a period of 21 months is in itself remarkable. Taken together with the extension of the duration of bonds purchased from less than 3 years to an average of 7 years, the injection becomes of historic proportions.

It is the same policy, just implemented on a grander scale, and it is still not an injection but money printing.

Mr Kuroda is trying to pull off a difficult trick, which is “to drastically change the expectations of markets and economic entities”, and to do so in a very particular way.  Changing expectations means replacing a deflationary system with an inflationary one.  If this gambit is successful, the real trick will be simultaneously maintaining low interest rates in the face of the declining value of the yen.  An increase in yields for JGBs will bankrupt Japan overnight.  At 2%, all government tax revenue must be used to make interest payments on outstanding debt.  Every other line item must be financed via the debt markets.  I do not believe that the markets can absorb the drastic, resultant supply increase in JGBs.

This is not helicopter money, because the rise in JGB holdings (although large enough to finance more than the entire budget deficit in the next two years) is intended to be reversed in the long run.  While currency is not being dropped on Tokyo like propaganda pamphlets during WWII, there is painless no exit from money printing on such a large basis.  The Fed will allow its bond holdings to mature over the next thirty years or so, because it simply owns too many to safely sell back to the market.  The parenthetical reveals the true nature of this policy— debt monetization.  The only way to stop monetizing public debt is via default.  See Weimar Germany for the seminal example.

Although inherently risky, it has a reasonable chance of success, via its impact on financial markets, and on inflation expectations. Those are the places to look for early indicators of whether this unprecedented monetary “big bang” is succeeding, or going badly off course.  It was bad enough to bring the honorable professions of medicine and war into the financial realm, but now the author invokes the language of astrophysics.  This policy is not a big bang but money printing, and it has no chance of success.  It has been used unsuccessfully for almost 20 years.  With each new round of money printing more is done, and less is accomplished.  If this policy fails spectacularly precipitating the Japanese Debt Crisis, the first sign will be interest rates and the canary in the coal mine will be the swaps market.

An early indication to where we are heading is revealed in the chart inserted at the beginning of this post.  Note the ridiculous spike in yield for 10 year JGBs.  Was this a fat finger or the finger of the smart money leaving the market?

This is not helicopter money, because the rise in JGB holdings (although large enough to finance more than the entire budget deficit in the next two years) is intended to be reversed in the long run.



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