Quo Vadis, Central Banks?
Monetary Policyin the COVID-19 Crisis and Beyond
Kiyohiko G. Nishimura
2020-11-09
National Graduate Institute for Policy Studies (GRIPS)
Former Deputy Governor, Bank of Japan
Advisor, Ministry of Internal Affairs and Communication

A (Former) Bank of Japan Policy Maker’s Viewpoint(1) de facto “Weak” Dual Mandate• Bank of Japan Act: Article 2 Currency and monetary control
by the Bank of Japan shall be aimed at• achieving price stability,• thereby contributing to the sound development of thenational economy.
• kind of a “weak” dual mandate: price stability as prerequisiteof the sound development of national economy (implicitemphasis on the latter)2A (Former) Bank of Japan Policy Maker’s Viewpoint(2) 2% Target as a Long-Run Goal or “Equilibrium”• 2013 Jan 22. The “Price Stability Target” under the Framework for the Conduct ofMonetary Policy.

• The "price stability target" at 2 percent in terms of theyear-on-year rate of change in the consumer price index(CPI)• (is) the inflation rate consistent with price stability on asustainable basis• as efforts by a wide range of entities (especially theGovernment) toward strengthening competitiveness andgrowth potential (and sustainable fiscal structure ) ofJapan's economy make progress.
3Policy Issues:
Covid-19 Crisis and Thereafter• Are there a sufficient number of measures?
• Are they immediately effective (especially with respect tofinancial stability)?
• Are they sustainable after the Covid Crisis ends or fades?
• Are there long-run problems that the Bank of Japan faces
after Covid 19 Crisis?
4Remarkably Large Number of Instruments• Twenty-One even before Covid-19 crisis. ** Heckel and Nishimura, “Unconventional Monetary Policy through Open Market Operations:
A Principal Component Analysis” mimeo., September 2020

• New Covid 19 instruments are mostly to expand existing facilities… (though massively)• Asset Purchase Programs – Increasingly Direct Interventions inResource Allocation (ETF, J-REIT)• Ample Liquidity Provision Beyond the Border (dollar swaps)• Lending Support Facilities• Those (except for some lending support facilities for Covid 19) aremostly for large corporations and banks, whose effects aretrickled down to small enterprises and non-wealthy households
5An Example: Rescuing US Bond Markets
FRB Currency Swap
Bank of Japan Dollar-Supply Operation
BoJ

3 month
1 weekTOTAL

6Where are we now?: Success, so far, with respect
to “sound development of the national economy”.
• Sharp Dip from Declining Growth Trend before Covid-19 but
Surprisingly Quick Recovery Except for Services• However, the issue of “Declining Growth Trend before Covid19” is not solved and may even be worsened with the effect ofCovid-19 crisis.

7

Sharp Decline andA Surprisingly Quick Recovery (Except Services)
GDP,Consumption,
Public8Investment

Economy Watcher Survey

real GDP Growth: Percent Change Private Non-Resi.
Investment

from Quarter One Year Ago

3075

Growth Trending
Lower

2075

Growth Trending
Lower

310

Quick
Recovery
as of
September-2

2005/ 1- 3.
7- 9.
2006/ 1- 3.
7- 9.
2007/ 1- 3.
7- 9.
2008/ 1- 3.
7- 9.
2009/ 1- 3.
7- 9.
2010/ 1- 3.
7- 9.
2011/ 1- 3.
7- 9.
2012/ 1- 3.
7- 9.
2013/ 1- 3.
7- 9.
2014/ 1- 3.
7- 9.
2015/ 1- 3.
7- 9.
2016/ 1- 3.
7- 9.
2017/ 1- 3.
7- 9.
2018/ 1- 3.
7- 9.
2019/ 1- 3.
7- 9.
2020/ 1- 3.

50

0-10
-7-12

GDP(Expenditure Approach)Consumption ofHouseholds
Private Non-Resi.Investment
PublicInvestment-20

thick line: total, thin line: employment,
dotted line: consumer, broken line: business
-30

8 0

Where are we now? Challenging, so far, torestore "price stability“ in the short run.
• First, Initially Deflation Dominates.
Secondly, conflicting forces about price stability• For face-to-face, services sectors (employing poor to lowermiddle-class people), employment is lost, wages and theirpermanent income are down, and thus deflationary.
• In manufacturing, ITC, and digital sectors (employing uppermiddle-class and owned by wealthy people), there are huge
forced savings which is strongly inflationary when dissaving
starts.
9Commodity Less Food and Energy: A Sharp Increase
Services less Imputed Rent: A Sharp Decline
commodity

3.0

Face-to-face services

2.0

1.0

0.0
202003
201908
201901
201806201711
201704
201609201602
201507
201412
201405201310201303
201208201201
201106201011
201004
200909200902
200807
200712
200705200610200603
200508200501-1.0-2.0

services
Headline

-3.0

-4.0

Core (US-style) 68.3%
Commodity less food and energy 18.8%
Services, less imputed rent (OER) 35.1%-5.0

Imputed rent (OER) 15.6%

10

Prolonged Slow Services Growth ↓UnemploymentRate↑Wages (Permanent Income)↓ Deflation↓
Wage Phillips Curve“Long-lagged” Okun’s Law
versus Unemployment Change(2007.03〜)02008.02-2020.01
8.0

MA of Real GDP Growth6.0

y = -2.7184x + 0.2365
4.0

R² = 0.4679

2.0

Unemployment Change0.0-1.5-1.0-0.50.0
-2.0
-4.0
-6.0
-8.0
-10.0

0.5

1.0

1.5

2.0

2.5

(%)
5.5
5 1991M2
4.54
3.5
32.5
21.51
1997M50.50-0.5-1-1.5
Downward-2
-2.5
-3
2.0
2.5
3.0
3.5
4.0

Wage Inflation

Real GDP Growth (past 1yr Moving Average)

1991M2-1997M5
1997M5-2000M11
2000M11-2008M2
2008M2-2012M3
2012M3-2018M10
2018M10-

2008M2
2000M11
2012M44.5

5.0

Unemployment Rate

5.5

6.0
(%)116.5

Forced-Saving, Pent-up Demand  Inflation
Generous Income Transfer:
Huge “Forced” Household Savings

When and How Are They Turned toDemand, and Become Inflationary?
• If behavioral restraints are temporary, theninflation comes back soon.
• Generous consumption stimulus such
as Go-to-travel, Go-to-eat, etc.
• If precautionary saving rates are up
because of future health cost increases
even for upper-middle to wealthy people, it
ends up with not-so-strong demand.

• If the former dominates, asubstantial inflationary pressure.
If the latter does, inflationary pressure issubdued.

12

Tag of War:• For “price stability” in the medium run• the deflationary face-to-face service
sector effects should be minimized, while• the inflationary dissaving effects should bemaximized.
13

To Achieve “Price Stability”• Coordination / mutual commitment
between Fiscal and Monetary Authorities
Are Desirable• Fiscal-side commitment• The commitment or agreement is desirable with the fiscal
authorities about how long and in what conditions thestimulus continues. This is especially important to minimize
deflationary effects on face-to-face service sector effects,
including medical and nursing care sectors.
14

Government’s Policies Determine Inflation
Lessons from the Failure in Japan in the1990s: Deflationary
Pressure Overlooked• Not only monetary policy easing was behind the curve,• But also fiscal policies were consistently tight to ensure there should be no
more property bubble (e.g. land value taxes, and strong opposition to capital
injection to troubled financial institutions.)• The Ministry of Construction refused the assessment that land prices were undervaluedof the regulatory reform committee even in the late 1990s.

• Stagnation of the 1990s caused “price destruction” (disinflation-deflation).
However, the government did not consider it problematic since it wasregarded as correction of “higher domestic-foreign price differentials” (i.e.,domestic prices were considerably higher than foreign ones) and thus evenwelcomed.
15

CPI Inflation: Four Indexes – 1990.01-1995.12
54Headline
Core (JP-style) ex fresh food 96%
Core (new JP-style) ex f.f. & energy 88%
Core (US-style) ex food & energy 67%

3210
199001199004199007199010199101199104199107199110199201199204199207199210199301199304199307199310199401199404199407199410199501199504199507199510-1

16

To Achieve “Price Stability”• Coordination / mutual commitment between Fiscal andMonetary Authorities Are Desirable• Monetary-side commitment• If necessary, additional asset purchases in targeted sectors
are appropriate to supplement and/or kick-start particularsectors, although this means a direct intervention in resource
allocation.
• example: TFP-enhancing sectors, climate-change sectors, etc.

17

Relevancy of Recent Debates about “2%Flexible Average Inflation Target”• In principle, in the long run, central banks’ inflation targetingshould be aligned properly.
• If otherwise, expectations about exchange rates (and thus
exchange rates themselves) differ substantially from eachother. This is disruptive, although such changes are hard topredict.
• This is the essential purpose of setting “2% target” in thelong run of the Bank of Japan announced on Jan 22, 2013,
though not directly stated.
• Thus, we do not have to change 2% at all at this juncture.

18

Problems about “2%” in the medium run
Inflation Expectations are stable around 1% and well below 2%• The Phillips Curve is describing relationship between inflation (CPI inflation) and Output Gap (“slack” in theeconomy) . Zero slack (no output gap) inflation is the sustainable (long-run) inflation expectations.

• Fact 1. Long-run inflation expectations (implied by the Phillipscurve) was already substantially below the 2% target between 19831995.
• Fact 2. From 2005, surveys of long-run inflation expectations havebeen stubbornly stable around 1%, and far below 2% target.
•• Fact 3. From 2019, surveys of long-run inflation expectations movedownward.

• This unique feature prevents “2% target” from being
fulfilled in almost 30 years.
19

Inflation Expectations as Anchor in the “GAP”
Price Phillips Curve (CPI Inflation vs. Output Gap)
Price Phillips Curve 1983 – 2020
Inflation at zero gap = (sustainable) long-run
inflation expectations

Surveys of long-run inflation expectations
2005-2020

20

Can the Covid-19 Inflationary Stimulus Effects
Change “1% Stability of Inflation Expectations”?
• Covid-19 fiscal stimulus effects with huge forced savings
may be strongly inflationary after Covid 19 crisis is over.
• They may change inflationary expectations.
• Changes in inflationary expectations (and thus actualinflations) are sometimes drastic and happen in a shortperiod time of only three years. (for example: 5%23%8%
during 1973-1975)• So be prepared in case.
• However, most observers think they do change “1% stabilityof inflation expectations.”• If this is the case, we then stick to already-explained
Coordination with Fiscal Authorities for “Price Stability”
as guidance to follow.
21