Ryuzo Miyao: Economic activity and prices in Japan and monetary policy
Summary of a speech by Mr Ryuzo Miyao, Member of the Policy Board of the Bank of Japan,
at a meeting with business leaders, Oita, 23 March 2011.
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Introduction
It is my honor today to talk to Mr. Kugimiya, Mayor of Oita City, and business leaders in Oita
Prefecture. And I express my gratitude for your understanding and cooperation in various
business operations of the Bank of Japan's Oita branch.
First, I extend my deepest condolences to the people hit by the Tohoku-Pacific Ocean
Earthquake, particularly those who have lost their loved ones. The earthquake was the
biggest on record, and the damage has been geographically widespread. The quake has
exerted various adverse effects on daily life and economic activity, as seen in the heightened
problem of power supply shortages associated with the damage. Although the situation may
be deemed a national crisis, it is important for us to have our determination to overcome the
difficulties and rise from the disaster.
In my remarks today, I will talk about the upheaval caused by the earthquake and the Bank's
responses, followed by an overview of Japan's economic and financial developments as well
as monetary policy. I will conclude by offering my impression of the regional economy of Oita
Prefecture.
I. Effects of the Tohoku-Pacific Ocean Earthquake and the Bank's responses
A. Settlement systems and financial markets
Looking first at the settlement systems following the quake, there were incidents - mainly in
the Pacific coastal areas in the Tohoku region - including the destruction of some branches
and disruption of automated teller machines at financial institutions. Moreover, on the day the
earthquake occurred, there were system troubles at some financial institutions. Financial
institutions have been making strenuous efforts to combat the situation by utilizing their
undamaged branches and/or making deposit withdrawals through operations on weekends
and holidays. Some clearing houses in the quake-stricken areas continue to suspend their
bill and check clearing (15 clearing houses as of March 18), but through the efforts I have
just mentioned, the settlement systems, including the Bank of Japan Financial Network
System (BOJ-NET), in other areas have been operating smoothly as a whole.
The Bank has also been striving to ensure its own business continuity through, for example,
setting up a disaster management team immediately after the quake occurred and making
sure that the BOJ-NET is running as normal. The Bank has provided, through its branches
and offices, cash to the quake-stricken areas on Saturdays and Sundays as well (the amount
of cash provided through branches and offices in the Tohoku region was 55 billion yen for
Saturday, March 12 and Sunday, March 13, and 256 billion yen during March 14-18). Also,
in response to the subsequent planned power outage on concerns over power supply
shortages, the Bank has been taking all possible measures to stem an interruption in the
settlement of funds, partly by continuing its business using in-house power generation at
some branches. The BOJ-NET has been provided with a stable power supply, as it is the
cornerstone of Japan's settlement system infrastructure. Since various financial needs are
expected to arise in the quake-stricken areas, such as demand for cash and exchange of
damaged banknotes and coins, the Bank will do its utmost to support these areas. Through
such aggressive responses, the Bank will continue to ensure smooth BOJ-NET operation
and cash supply and make every effort to ensure the stability of Japan's settlement system
as a whole.
In the money market, fund providers have increasingly held back their fund provisions since
the morning of Monday, March 14, and it has become difficult to make transactions in the call
market. In response, the Bank conducted same-day operations, the first since May of 2010,
and offered 82.4 trillion yen in one week (21.8 trillion yen on March 14, 20.0 trillion yen on
March 15, 13.8 trillion yen on March 16, 15.6 trillion yen on March 17, and 11.15 trillion yen
on March 18), of which 57.8 trillion yen was actually provided to the market. As a result, the
overnight call market has been relatively stable in recent days.
By contrast, in the CP and corporate bond markets, investors' risk aversion has been strong
and underwriting of CP and corporate bonds has declined, resulting in a significant rise in the
issuing rates. The issuing rates have recently been somewhat high, which seems to be
attributable in no small part to the protracted problem of the quake-stricken nuclear plant as
well as the effects of the earthquake. In addition, in stock and bond markets, stock prices and
long-term interest rates have fallen, reflecting investors' risk aversion due to heightened
uncertainty regarding the future. In particular, stock prices declined significantly, and on May
15, the Nikkei Stock Average plunged by 1,015 yen from the previous day. This rate of
decline was the third largest in history, following only the declines recorded on Black Monday
in 1987 and after the failure of Lehman Brothers in 2008. Moreover, in the foreign exchange
market, while the yen depreciated immediately after the earthquake occurred, it then
appreciated - reflecting the trend of risk aversion - and reached the range of 76.0-76.5 yen
against the U.S. dollar in the early morning of March 17. Subsequently, due mainly to the
concerted intervention by G-7 countries on Friday, March 18, the yen has been hovering
around 80-81 yen against the U.S. dollar and stock prices have also recovered somewhat.
B. Economic activity
As for the effects of the earthquake on economic activity, the damage has been
geographically widespread, with social infrastructure including ports and roads having been
heavily damaged in the Tohoku region, and some large-scale factories being damaged in the
Tokyo metropolitan areas. It is expected that a return to normal for the distribution system will
take some time and that concerns regarding stable power supply, including in the
metropolitan areas, will continue. In the meantime, restoration efforts have been made day
by day.
In this situation, the following could be pinpointed, albeit qualitatively, as three future effects.
First, for some time, the effects of the damage will be seen substantially on the supply side,
including production capacity, which will have an impact on economic activity, mainly in
production and distribution. Since there are many parts manufacturers for automobiles and
electronic devices in the quake-stricken areas, supply chains at home and abroad will be
forced to be cut off, albeit temporarily. Second, uncertainty over the future could put
downward pressure on economic activity through a deterioration in household and business
sentiment. And third, while various forms of demand associated with restoration should
emerge in the medium term, the timing and size of such demand is uncertain at present and
quite difficult to envisage.
While it is difficult to quantitatively gauge the effects of the earthquake at present, it is very
much a situation in which the restoration of lifelines, utilities, and distribution has been slow,
given that the earthquake was the biggest on record for Japan and accompanied by
enormous tsunami. With that in mind, at least the extent to which economic activity will be
pushed downward from the supply side could be larger and might be prolonged compared
with, for example, the Great Hanshin-Awaji Earthquake of 16 years ago, and this warrants
due attention.
C. Policy responses
With these things in mind, the Bank recognized that, in ensuring stability in public sentiment
and in financial markets, it will be critical to examine the effects of the earthquake on Japan's
economic and financial conditions in the immediate future as well as promptly announce its
guideline for money market operations. Therefore, the Bank shortened the duration of its
Monetary Policy Meeting to one day from an initially scheduled two days and, upon
examining the current situation, judged it necessary to further enhance monetary easing. In
particular, given that preventing any deterioration in business sentiment or any increase in
risk aversion in financial markets from adversely affecting economic activity was considered
to be the most appropriate policy response at present, the Bank decided to increase the
amount of the Asset Purchase Program, mainly of the purchases of risk assets, by about 5
trillion yen to about 40 trillion yen in total. Specifically, the 5 trillion yen increase in asset
purchases will be made mainly in risk assets - namely, CP, corporate bonds,
exchangetraded funds (ETFs), and Japan real estate investment trusts (J-REITs) - for about 3.5 trillion
yen and in government securities for about 1.5 trillion yen.
While there remains uncertainty over the future, the Bank will endeavor to gauge the effects
of the earthquake on financial institutions and the financial system, as well as take all
possible measures in order to secure stability in settlement systems and financial markets.
II. Developments in economic activity and prices and monetary policy in Japan
A. Overview
The Bank has judged that Japan's economy will get out of the soft patch and, from a
longerterm perspective, continue to recover moderately. At the same time, the impact of the
earthquake on Japan's economy is projected to be by no means small, at least in the short
run. It is necessary to examine with vigilance how the earthquake will affect the Bank's
previous outlook for economic activity and prices, together with the risk factors the Bank has
highlighted. Next, I will examine those issues - although most are judgments made prior to
the earthquake - starting with overseas economies.
B. Overseas economies
Let me first talk about the U.S. economy. The economy has continued to recover, coupled
with additional stimulus measures both from the financial and fiscal sides. Business
sentiment has improved among manufacturing and nonmanufacturing firms, and stock prices
have been improving as a trend supported also by the good performance of global
businesses. In this situation, business fixed investment has been on a recovery trend, albeit
a moderate one, and private consumption has been recovering, exceeding the level before
the Lehman crisis. On the other hand, balance sheet adjustments in the household sector
are likely to take more time and housing investment has been at a low level, especially in
terms of sales of newly constructed houses. The employment and income situation has
improved somewhat, but the pace of improvement has remained moderate.
In such circumstances, due attention should be paid to how the recent rise in commodity
prices will affect the U.S. economy. Inflation expectations perceived by the market have been
on an uptrend since the autumn of 2010. Household inflation expectations have risen since
the turn of the year and the recent indicators of consumer sentiment have turned toward a
decline.
The pace of the rise in commodity prices has accelerated, due partly to speculative capital
inflows and the unrest in the Middle East amid originally robust demand in emerging
economies. While commodity prices have recently been soft as risk aversion has heightened
globally, triggered by the earthquake in Japan, the trend of price rises and continuous high
prices is likely to remain to some extent if the basis of such a trend is the real demand on the
back of high growth in emerging economies. I will pay close attention to future developments
in commodities prices and their effects on inflation expectations around the world, including
the United States.
Next, looking at East Asian emerging economies, especially China, those economies have
exited the deceleration phase starting from the latter half of 2010 and have continued
growing at a rapid pace. The structure of growth indicates the ongoing virtuous circle in
which the continuing robust expansion of domestic demand in the Chinese economy is
increasing exports to China from some peripheral Asian countries, which in turn is spreading
to domestic demand in those countries.
In this situation, within Asian emerging economies, concern over inflation has started to
heighten partly because of the rise in commodity prices, as well as the robust domestic
demand. Moreover, in terms of maintaining the domestic demand expansion, wage increases
in tandem with price rises are inevitable. This might in turn increase upward pressure on
inflation. Therefore, Asian emerging economies have proceeded with the gradual rise in
policy rates to create an environment for sustaining high growth. If the previous
accommodative policy conduct - referred to as "behind the curve" - prolongs and high
inflation takes hold, this will have a negative impact on the economy. Thus, in order to
prevent such negative impact, it is important to act ahead of time. As Asian emerging
economies are the driving force behind global economic growth, attention is being paid to
their potential future actions.
Lastly, European economies are recovering moderately led by exports, driven in particular by
Germany and other major economies. The rising inflation trend has become more
pronounced and the European Central Bank has suggested a future policy rate rise. In some
peripheral European countries that suffered fiscal problems, long-term interest rates have
stayed high and uncertainty has remained elevated.
C. Japan's economy
In light of such recovery in the U.S. economy and high growth in Asian emerging economies,
the effects of inventory adjustments in IT-related goods have run their course around the
world. Private consumption in Japan is showing signs of picking up after suffering the reverse
following the sharp increase seen previously. Although this represents the judgment made
prior to the earthquake, Japan's economy is getting out of the soft patch, driven in particular
by the recovery in exports and production.
Looking at market developments prior to the earthquake, stock prices remained on an
uptrend while the yen was in the range of 80-85 yen against the U.S. dollar. This is attributed
to the fact that overseas stock prices, especially U.S. stock prices, rose in reflection of
monetary easing in the United States, and that corporate profits and their cash flows
improved substantially. On the other hand, the improvement seen in components related to
domestic demand, such as business fixed investment and private consumption, and in the
employment and income situation remained moderate. The pace of improvement in the
output gap and price developments was generally moderate. Just like in the United States,
the channel through which the favorable performance in the corporate sector fed into the
household sector seemed to be somewhat weak.
The likely underlying mechanism is as follows. Even if the economy were to achieve an
export-led recovery, a rise in import costs due to the increase in commodity prices would
cause the terms of trade to worsen and real income to be undermined. As a result, even if
the GDP figure increased, gross domestic income (GDI) would not increase that much. For
example, during the recovery phase in the 2000s - that is, during 2002-2007, before the
Lehman crisis - the real GDP growth rate was 1.8 percent on average but the real GDI,
excluding trading losses, remained 1.2 percent on average. During the same period, the
increase in real GDP brought by net export expansion, accumulated over the six-year period,
amounted to 23 trillion yen. The trading losses during the period amounted to 18.7 trillion
yen, meaning that the real GDI only grew by 4.3 trillion yen.
These figures suggest that some sectors in the economy have been burdened with these
losses. During the recovery phase in the 2000s, firms contained total labor costs by
constraining wages. The reduction in costs for wages represents firms' strenuous efforts to
achieve structural transformation and streamlining. The reduction in production costs plays a
role in stimulating the economy from the supply side, thereby constraining price rises. On the
other hand, the reduction in total labor costs and wages leads to a reduction in household
income, which in turn undermines a transmission mechanism working on domestic demand.
Thus, it can be said that the trading losses during the recovery phase in the 2000s burdened
the household sector through the streamlining in the corporate sector.
If such mechanism underlies the economic recovery led by exports and production, this trend
seems to have continued even in the recovery phase after the Lehman crisis. It appears that,
on the back of the global and increasingly competitive environment and the yen's
appreciation, firms have enhanced their efforts to proceed with structural transformation and
to increase growth potential by accelerating their shifting of production sites overseas. It also
seems that firms are maintaining their cautious stance in allocating corporate profits brought
by the efforts just mentioned to domestic business fixed investment, or to employment and
wages. There is a possibility that such mechanism has continued to operate while, until
recently, the uptrend in commodity prices has constrained domestic income.
I will closely examine whether such a trend will continue and how it would affect the outlook
for Japan's economic activity and prices. Let me repeat that the views I have presented so
far were in consideration before the earthquake struck. Therefore, I will examine with
vigilance the earthquake-triggered risk aversion around the world and its effects on the global
economy, as well as Japan's economy.
D. Monetary policy
In October of 2010, the Bank decided to implement comprehensive monetary easing to
further pursue powerful monetary easing. Comprehensive monetary easing can be briefly
summarized as follows. First, the Bank clarified its adoption of a virtually zero interest rate
policy. Second, the Bank confirmed that it would maintain the virtually zero interest rate
policy until it judged that price stability was in sight, and that the judgment would be based on
the "understanding of medium- to long-term price stability." Third, taking into account that
there was little room for a further decline in short-term interest rates, the Bank established
the Asset Purchase Program, which aimed at purchasing various financial assets - namely,
government securities, corporate bonds, CP, ETFs, and J-REITs - with a view to
encouraging a decline in longer-term market interest rates and various risk premiums.
This is a quite extraordinary and unconventional monetary policy package that includes the
Bank's commitment to the continuation of the virtually zero interest rate policy, balance-sheet
expansion, and purchases of risk assets. When the package was introduced, on the back of
the slowdown in overseas economies and the sharp appreciation of the yen, business and
household sentiment deteriorated and asset prices including stock prices were sluggish.
Correcting the sentiment and risk-taking appetite that have excessively deteriorated in the
markets is expected to produce sustained effects on lowering risk premiums. In fact, in the
period after the introduction of comprehensive monetary easing until the earthquake, risk
premiums generally declined, as seen in the rise in stock prices and REIT prices. It is also
expected that the Bank's bold measure to encourage risk taking will boost firms' "animal
spirits," thereby leading to an increase in Japan's growth potential and an improvement in
productivity.
Also, in the United States, in the period following the Lehman crisis until the introduction of a
large-scale asset purchase program - the so-called "quantitative easing II" - in November of
2010, unconventional monetary easing measures were implemented four times. In particular,
the decision to purchase 600 billion dollars of longer-term Treasury securities in November of
2010 has produced some effects through the decline in long-term interest rates and
borrowing costs. It also appears to have had the effect of boosting stock prices through
moderating overly pessimistic market views on the U.S. economy seen from the summer of
2010 and correcting the trend of excessive risk aversion, thereby continuing to affect risk
premiums requested by market participants.
As the dollar is the world's key currency, monetary easing in the United States may have
another global transmission channel. Specifically, as a result of the Federal Reserve's
commitment to the virtually zero interest rate policy as a policy action after the Lehman crisis,
economies that have a strong linkage with the dollar, such as emerging economies and
commodity-exporting economies, have ended up importing U.S. monetary easing, which in
turn brings about economic expansion in countries other than the United States. U.S. global
firms, both manufacturing and nonmanufacturing, are deeply involved in business operations
widely around the world. Thus, economic expansion in areas with a strong linkage with the
dollar would enhance the profits and growth expectations of U.S. businesses, which would in
turn entail a rise in U.S. stock prices and lead to a recovery in private consumption.
Therefore, it can be said that the powerful monetary easing policy that has continued for
more than two years in the United States has been entailing "international spill-over effects"
of stimulating its economy at home, due to the rise in U.S. stock prices through the
expansion of overseas economies.
It is important to note that the unconventional policy measures being implemented in Japan
and the United States are not undisciplined, unlimited monetary easing. In the case of
Japan's comprehensive monetary easing, and to clarify that it is after all a temporary and
extraordinary policy measure, the Asset Purchase Program has been established and
managed on the Bank's balance sheet. Similarly, in the case of the United States, Federal
Reserve Chairman Ben S. Bernanke emphasized that the large-scale asset purchase
program is a short-term policy measure and the Federal Reserve is committed to achieving
medium- to long-term price stability.
So far, I have examined monetary policy and its effects on Japan and the United States.
What has been highlighted as a common factor is that, when market sentiment and
confidence have swung excessively in the direction of pessimism, central banks' aggressive
actions and asset purchases were made to correct that situation and influence risk premiums
in a sustained manner.
As mentioned earlier, in response to the earthquake, at the Monetary Policy Meeting held at
the beginning of last week, the Bank decided to increase the amount of the Asset Purchase
Program, mainly of the purchases of risk assets, with a view to further enhancing monetary
easing. This measure is expected to have an effect similar to the one mentioned above, in
that, confronted with an unprecedented earthquake disaster, the measure aims at
counteracting any deterioration in business sentiment or an excessive increase in risk
aversion, thereby preventing economic activity from deteriorating. While uncertainty is likely
to remain high, the measure taken by the Bank will exert powerful effects as various efforts
toward normalization pay off.
Concluding remarks: the economy of Oita Prefecture
In conclusion, I will refer to the developments in this area.
Oita Prefecture was designated as a new industrial city during the high-growth period, and it
has been actively attracting growth-promising companies to the region, through cooperation
between the public and private sectors, for a little less than the 50 years that have passed
since the Oita coastal industrial zone was formed. Therefore, its industrial structure is quite
well balanced and solid, with not only materials industries such as steel and oil having
congregated in the area, but also processing industries such as precision machinery,
semiconductors, and automobiles. Looking at the ratio of manufacturing to the prefectural
gross product as of fiscal 2007, Oita posted a high 23.3 percent compared with the national
average of 21.2 percent and the Kyushu average of 17.1 percent. There are many factories
with extremely high production efficiency, as suggested by the value of manufactured goods
shipments per establishment and per worker both being number one in Kyushu and number
three in the nation. Since this region has a high share of manufacturers, it was significantly
affected by the decline in exports and production caused by the failure of Lehman Brothers.
Subsequently, in view of the many productive and efficient new factories, Oita's exports and
production have been recovering relatively steadily in tandem with the recovery in overseas
economies.
Moreover, I rediscovered that Oita is blessed with an abundance of resources with high
Seki Seki Shiroshita
brand recognition, ranging from fruits of the sea such as aji, saba, and
karei, as well as dried shiitake mushroom and kabosu, for which production is the largest in
Japan, to internationally popular hot springs resorts such as Yufuin and Beppu. Moreover,
Oita has a geographical advantage of being located near rapidly growing East Asian
economies, which gives the region a great advantage in terms of production and tourism. In
addition, the improvement in traffic infrastructure, including the full opening of the Kyushu
Shinkansen Line this month and ongoing extension work in the region for the Eastern
Kyushu Expressway, is expected to intensify the interaction within the Kyushu region and
with other areas including the Kansai region.
Looking toward the future for Oita's economy, I am paying close attention to the following two
issues that could lead to future growth in Oita Prefecture. First, wide-ranging cooperation in
the medical and welfare areas. Many medical equipment manufacturers have been
congregating in Oita Prefecture and the prefecture's total value of medical equipment
production ranks fourth in Japan. In October of last year, Oita Prefecture formulated an
"Initiative for Eastern Kyushu Local Medical Industrial Center (or Eastern Kyushu Medical
Valley Initiative)" in cooperation with its neighbor Miyazaki Prefecture. The medical and
welfare areas have been considered as growth areas in the nation's growth strategy, and,
given their characteristics of not being influenced substantially by a business cycle, are
expected to contribute to the regional economy. I believe that cooperation among the
government, industries, and the academia will be enhanced based on such wide-ranging
cooperation, and that industrial congregation will advance in the future.
The second issue is regional revitalization by utilizing natural energy. Oita Prefecture is the
top in the nation in terms of the number of hot springs sources and the amount of hot water,
and, supported by such geothermal energy, is an advanced prefecture in natural energy
utilization, with the supply and self-sufficiency ratio of natural energy being ranked first
among the prefectures in Japan. As for natural energy, there have recently been nationwide
efforts by both the public and private sectors to enhance its utilization together with the
beefed-up efforts toward solving environmental problems. Also in Oita Prefecture, there have
been signs of promoting the use of natural energy sources other than geothermal power
generation, including small hydroelectric generation and biomass generation. In perceiving
the natural energy area as a business opportunity, some local firms appear to be crossing
traditional business borders and entering the area through innovations, in which I expect
future growth.
With that, I will conclude my speech and move on to exchanging views with you. Thank you.