October 21, 2020
Bank of Japan
Economic Activity, Prices,
and Monetary Policy in Japan
Speech at a Meeting with Business Leaders in Fukui
(via webcast)
SAKURAI Makoto
Member of the Policy Board
I. Economic Activity at Home and Abroad
A. Recent Developments in Overseas Economies
I would first like to talk about developments in overseas economies, given the significant
contraction in global economic activity caused by the worldwide spread of the novel
coronavirus (COVID-19).
The global economy grew at a rate of around 3-4 percent up through 2019 but faced the
outbreak of COVID-19 at the turn of 2020. The impact of COVID-19 spread rapidly from
China to other Asian countries including Japan, as well as Europe, the United States, and
more or less the rest of the world in a short period of time. Economic globalization over the
past four decades has been accompanied by a massive increase in the movement of people
across countries. Partly as a result of this, the current pandemic has spread more rapidly and
has had a greater impact on the global economy than pandemics in the past. Global economic
activity and global trade both remain at low levels as measures to restrict economic activity,
including temporary lockdowns of cities, continue to be implemented, albeit to varying
degrees (Chart 1). According to the October 2020 World Economic Outlook released by the
International Monetary Fund, the global growth rate for 2020 is projected to be minus 4.4
percent. By region, negative growth figures are large for advanced economies but relatively
small for emerging economies; this mainly reflects the fact that COVID-19 has already begun
to subside in China, which experienced the earliest outbreak. However, given the resurgence
of infections in advanced economies and the further spread of COVID-19 in emerging
economies, uncertainty regarding the outlook for infections is extremely high, and it is
therefore necessary to be vigilant about the possibility of a further global economic downturn.
B. Outlook for Overseas Economies
At present, countries worldwide are struggling with issues such as a decline in output, a rise
in the unemployment rate, and an increase in corporate bankruptcies due to restrictions on
economic activity. Overall, however, economic activity has bottomed out and is in the process
of picking up somewhat. While the full-scale resumption of global economic activity may be
delayed as COVID-19 continues to spread in many emerging economies other than China,
the global economy as a whole is likely to continue recovering, albeit at a moderate pace, as
governments work toward striking a balance between the prevention of the spread of COVID-
19 and the improvement in socio-economic activities.
Nevertheless, it should be carefully borne in mind that there are significant uncertainties
regarding this outlook. A key issue in forecasting the pace of global economic recovery is
whether policymakers around the world can prevent increases in corporate bankruptcies and
unemployment and the extent to which they can avoid a loss of supply capacity. If firms can
maintain their supply capacity, this will allow global supply chains, which for many years
have supported global economic growth, to also be maintained without major disruptions. On
the other hand, it is possible that new structural changes will emerge, such as a reconfiguration
of global supply chains triggered by, for example, clarified differences across countries in
terms of when COVID-19 subsides and how fast economic recovery progresses, intensified
U.S.-China tension over trade and other issues, and the materialization of geopolitical risk.
Accurately determining the direction of such changes is essential in forecasting the pace of
global economic recovery.
C. Recent Developments in Japan's Economy
Next, I will talk about developments in Japan's economy.
Real GDP growth fell sharply in the April-June quarter of 2020, registering minus 7.9 percent
on a quarter-on-quarter basis, due to the economic contraction induced by the further spread
of COVID-19 (Chart 2). With the exception of some innovation-related business fixed
investment, almost all demand components -- such as exports, private consumption, and
business fixed investment -- declined, production decreased significantly, and business
conditions deteriorated considerably (Charts 3 and 4). From March onward, Japan, like other
countries, swiftly formulated and put in place large-scale economic measures. Such large-
scale government measures and the introduction of monetary easing measures by the Bank of
Japan have restored calm to financial and foreign exchange markets, which had become
unstable, and although uncertainty remains high, tension has eased. The series of policy
measures has to some extent kept increases in corporate bankruptcies and unemployment in
check. Although COVID-19-related bankruptcies have been rising, the latest figure for the
total number of bankruptcies for September is still more than 30 percent lower than that for
December 2012 (Chart 5). Moreover, although unemployment rose from 2.4 percent in
February 2020 to 3.0 percent in August, it remains fairly low compared to 4.3 percent
registered in December 2012.
Recent economic indicators show that economic activity bottomed out in the April-June
quarter of 2020 and has already started to pick up, but the situation remains severe. For the
time being, it is essential to aim to achieve both containment of the spread of COVID-19 and
expansion of economic activity. However, given that it will take some time for economic
activity to recover, it is necessary to persistently continue with the efforts to support corporate
financing and to prevent corporate bankruptcies and unemployment from rising.
D. Outlook for Japan's Economy
Given that it is not clear when COVID-19 will subside, it is not easy to forecast the outlook
for Japan's economy. However, considering that the economy has already bottomed out, I
believe that a probable scenario is that the economy will gradually enter a recovery phase.
Based on the assumption that Japan's economy will improve gradually from the second half
of 2020, forecasts of the majority of the Policy Board members presented in the July 2020
Outlook for Economic Activity and Prices are as follows. The real GDP is expected to register
substantial negative growth ranging from minus 5.7 to minus 4.5 percent for fiscal 2020.
However, this is expected to be followed by relatively high growth in the range of 3.0-4.0
percent in fiscal 2021, considerably above the potential growth rate. In fiscal 2022, it is
assumed that the economy will more or less normalize and that the virtuous cycle from
income to spending will resume, with growth expected to be firm in the range of 1.3-1.6
percent (Chart 6).
Moreover, in forecasting the pace of recovery, I believe that it is worthwhile to be attentive
to developments in innovation-related and labor-saving business fixed investment, in which
Japanese firms have been actively engaged. Interviews with firms and other sources of
information suggest that firms have solidly maintained their investment plans for innovation-
related projects, including those related to 5G communication technology. Given that exports
in this area are also likely to grow, innovation-related business fixed investment can be
expected to be a driving force for future economic recovery. In addition, taking into account
that labor shortages are likely to continue in the medium to long term given Japan's
demographics, labor-saving investment, which had been expanding over the past several
years, is expected to return to an uptrend in the economic recovery phase. Another point to
note is that firms have been making new business fixed investment, supported by steady
progress in the diffusion of teleworking as well as in the active use of IT in response to
restrictions on economic activity caused by the spread of COVID-19. If these structural
changes born out of the spread of COVID-19 fully take root, they may lead to the creation of
new business models. Thus, looking ahead, if Japan's economy steadily recovers and the
virtuous cycle from income to spending that operated before the outbreak of COVID-19
reemerges, a sustained expansion of business fixed investment that drives such structural
changes forward can be expected.
At the same time, the key to restoring this virtuous cycle is to provide support from the
monetary policy side so that inflation expectations remain somewhat positive. If the private
sector expects inflation to be negative, consumption and investment are more likely to be put
off, and the virtuous cycle may stop operating. In this sense, I believe that the Bank's current
monetary policy stance -- in which the Bank sets a price stability target and commits itself to
continuing to expand the monetary base until the target is achieved in a stable manner; that
is, it commits to maintaining accommodative financial conditions -- plays a vital role.
II. Prices
A. Recent Price Developments and Their Background
Next, I will turn to price developments.
Prices are currently under strong downward pressure (Chart 7). This is due in part to the sharp
drop in aggregate demand owing to the restrictions on economic activity, as well as the
significant decline in energy prices reflecting market expectations for further easing in the
supply-demand conditions for energy in line with a decrease in global energy demand. The
output gap has also turned negative recently, and the momentum toward inflation has been
lost. On the other hand, this is not a situation where prices are continuing to plunge. When
there is a lull in demand because of unavoidable restrictions on economic activity, as seen
recently, firms recognize that demand will not pick up even if they lower sales prices and that
lowering prices will make it impossible for them to cover costs. This seems to have prevented
an acceleration in downward pressure on prices. Naturally, there is no upward pressure on
prices when the output gap is negative, so inflation is expected to continue to be relatively
weak for the time being.
B. Outlook
For the inflation rate to turn positive, it is necessary that the economy recover steadily and
the output gap return to positive territory. Even if the inflation rate turns positive again at an
early stage, however, it is unlikely to accelerate further for a while. Looking back at the
situation prior to the spread of COVID-19, the inflation rate did not accelerate despite the
economy being close to full employment and continuing to register a positive output gap.
This phenomenon is not unique to Japan as inflation rates in most major advanced economies
have been slowing, albeit to varying degrees (Chart 8). I think that the question of why
inflation has not been accelerating needs to be seriously revisited.
It is often pointed out that the reason for Japan's sluggish inflation rate is an entrenched
deflationary mindset among consumers that is born out of their past experiences with
deflation, making it difficult for firms to fully pass on upward pressure on wages to sales
prices. In addition, structural changes that began in the years prior to the outbreak of COVID-
19 have made the inflation mechanism more complex. Specifically, these changes include (1)
the establishment of global supply chains, which resulted in low and stable goods prices
worldwide, (2) the shift to a service economy in Japan in response to globalization, (3) the
resulting increased sensitivity of prices to service sector wages, (4) the increase in labor-
saving investment as well as improvements in labor productivity by firms to address labor
shortages, and (5) the tendency of firms to absorb the upward pressure on wages by improving
productivity rather than passing it on to sales prices. Similar structural changes can also be
observed in other major advanced economies, and, while they have boosted job opportunities,
they also appear to have acted to curb increases in wages and prices on the whole. Given the
possibility that these structural changes will regain momentum once COVID-19 subsides, it
is difficult at this point to clearly judge whether inflation will accelerate immediately even if
it turns positive again. However, as I mentioned earlier, it goes without saying that, even if
actual inflation is sluggish, keeping inflation expectations somewhat positive is important
from the perspective of ensuring that spending behavior in the private sector is forward-
looking.
I believe that the impact of these structural changes on prices will need to be examined in
more detail. I will return to the structural changes in Japan and changes in the inflation
mechanism later.
III. Monetary Policy
A. Current Monetary Easing Policy and Its Basic Framework
Next, I will touch upon the Bank's conduct of monetary policy.
The Bank has enhanced a wide range of its monetary easing measures since March and
implemented the following three measures in response to the instability in financial markets
accompanying the spread of COVID-19 as well as concern over financial strains faced by
firms stemming from the decrease in sales due to restrictions on economic activity (Chart 9).
First, the Bank introduced the Special Program to Support Financing in Response to the Novel
Coronavirus (COVID-19) in order to support financing, mainly of firms. The total size of this
program will be about 130 trillion yen. Specifically, this program consists of (1) purchases of
CP and corporate bonds with an upper limit of about 20 trillion yen and (2) the Special Funds-
Supplying Operations to Facilitate Financing in Response to the Novel Coronavirus (COVID-
19), which is a fund-provisioning measure with a size of up to about 110 trillion yen to
encourage lending to firms by financial institutions. Through the latter operation, the Bank
provides funds on favorable terms to private financial institutions that make loans in response
to COVID-19, which links up with the government's economic measures to provide
effectively interest-free and unsecured loans, mainly to small firms through private financial
institutions.
Second, to maintain stability in financial markets, the Bank has adopted a framework through
which further ample yen and foreign currency funds can be provided in a flexible manner. As
for the yen funds, with a view to maintaining stability in the bond market and stabilizing the
entire yield curve at a low level, the Bank decided to purchase the necessary amount of
Japanese government bonds (JGBs) without setting an upper limit. Regarding foreign
currency funds, the Bank has provided U.S. dollar funds in cooperation with five other major
central banks.
Third, the Bank has been actively purchasing exchange-traded funds (ETFs) and Japan real
estate investment trusts (J-REITs) to lower risk premia in asset markets; in other words, to
prevent a deterioration in firms' and households' sentiment through volatility in asset markets
with the aim of providing support to forward-looking economic activity.
These powerful monetary easing measures have exerted positive effects. Although financial
and foreign exchange markets, which were highly volatile from March through April, remain
nervous, tension has eased. Moreover, even though corporate funding conditions are still
severe, the environment for funding has eased owing to the various measures taken by the
Bank and the government, as well as active efforts made by financial institutions in line with
these measures (Chart 10).
B. Future Conduct of Monetary Policy
For the time being, the Bank will continue to provide support for financing and maintain
stability in financial markets under the framework of the aforementioned three measures.
Furthermore, in light of concern that a slower-than-expected rebound from the COVID-19
crisis could adversely affect Japan's economy and financial system, I believe that it is
important to continue working together with the government as well as with other major
central banks and take swift and appropriate policy responses as necessary. Next, I will
elaborate on my own thinking about policy responses going forward.
IV. Economic Recovery, Structural Change, and the Role of Monetary Policy: A Look
Ahead
The biggest and most urgent challenge for macroeconomic policy in Japan is to steadily work
toward economic recovery while striking a balance between containing COVID-19 and
resuming and expanding economic activity. I would like to mention some new challenges in
the economic recovery process, including the role of monetary policy, based on the structural
changes in Japan prior to the spread of COVID-19 and the experience with regard to policy
responses to these changes.
A. Structural Change and Monetary Policy in Japan: The Experience of the Past Seven
Years
Japan's economy achieved moderate positive growth from 2013 to 2019, supported by a
policy mix of fiscal and monetary easing policies. This was accompanied by gradual
structural changes, which can be summarized as follows.1 In response to macroeconomic
policies, (1) financial markets stabilized, (2) a virtuous cycle from income to spending was
established in Japan's economy, (3) outward investment grew in line with advances in
globalization, and (4) the inflation mechanism began to change. I would like to touch briefly
on each of these points.
Starting with financial markets, these have generally been stabilizing against the backdrop of
a policy mix of large-scale monetary easing and fiscal policies since 2013. Despite some
short-term fluctuations, financial and foreign exchange markets have remained stable,
particularly since the second half of 2016. This remains the case even now, despite the
ongoing impact of COVID-19. Likely reasons include the lack of any significant differences
in the direction and scale of monetary easing policies implemented in major countries to
stabilize their own economies, the absence of significant adjustment pressures between
currencies, as seen in the narrowed interest rate differentials between major economies, and
the narrowing of the inflation gap between major economies, which affect long-term nominal
exchange rate adjustment pressures (Chart 11).2
The next change is that a virtuous cycle became established. Persistent monetary easing in
Japan has led to a steady improvement in labor market conditions, bringing the economy
1
For details on structural changes as a result of globalization and advances in IT and artificial
intelligence (AI), see Richard Baldwin,
The Great Convergence: Information Technology and the New
(Cambridge: The Belknap Press of Harvard University Press, 2016); Richard Baldwin,
Globalization
(Oxford: Oxford University
The Globotics Upheaval: Globalisation, Robotics, and the Future of Work
Press, 2019); and Branko Milanovic,
Capitalism, Alone: The Future of the System That Rules the
(Cambridge: The Belknap Press of Harvard University Press, 2019).
World
2
See Sakurai Makoto, "Economic Activity, Prices, and Monetary Policy in Japan," speech at a
meeting with business leaders in Hyogo, November 27, 2019,
https://www.boj.or.jp/en/announcements/press/koen_2019/ko191205b.htm/.
close to full employment. Against this backdrop, and with the government's growth strategy,
more women and seniors newly joined the labor market, employee income rose steadily, and
private consumption became firm. In addition, spurred by a growing belief among Japanese
firms that labor shortages would continue on the back of expectations that the economy would
continue to grow at a moderate pace, and aided by advances in IT and AI, domestic business
fixed investment, especially labor-saving investment, shifted to a period of sustained growth.
These factors combined to make possible a virtuous cycle from income to spending based on
moderate sustained growth.
Another structural change is the growth in outward investment over the past two to three
decades. This is clearly reflected in changes in Japan's balance of payments structure. That is,
since the 2000s, Japan's trade balance has been more or less in equilibrium while the current
account has continued to register a large surplus, the bulk of which is attributable to outward
investment income (Chart 12). This trend has continued despite the drastic downturn in
economic activity brought about by the spread of COVID-19. The upswell in outward
investment partly stems from the fact that such investment promises higher rates of return
than domestic investment and that the risk to firms' balance sheets from exchange rate
fluctuations has decreased. The growth in outward investment means that Japan's nominal
gross national income (GNI) consistently exceeds nominal GDP, by a margin of as much as
3-4 percent of nominal GDP. It is therefore fair to say that Japan is essentially an outward
investment-oriented nation. With their global supply chains well established, many Japanese
firms have come to make domestic and international investment decisions in an integrated
manner, carefully taking into account the medium-term growth expectations for individual
economies, differences in labor and capital costs, and the need to guard against technology
leakages.
Lastly, as in other advanced economies, advances in globalization have shifted the balance of
Japan's economy toward services industries, which in turn has affected its inflation
mechanism. That is, the establishment of global supply chains to serve the manufacturing
sector has engendered stable and low prices of goods across major advanced economies. As
a result, inflation now seems to be increasingly determined by the rate of increase in the prices
of services, which are relatively labor intensive and thus more susceptible to domestic labor
market conditions. In this environment, growth in labor-saving investment to address labor
shortages -- which I mentioned earlier -- has made it possible for firms to offset upward
pressure on personnel expenses by improving their labor productivity. This in turn has
absorbed upward pressure on wages, acting as a constraint on inflation.
Looking at these four structural changes as a whole, it can be said that they have arisen in
large part from the Bank's persistent monetary easing, which laid the groundwork for a macro-
financial environment that encouraged firms to pursue forward-looking investment.
Monetary policy can exert influence on the economy only indirectly through financial
markets and financial institutions, and cannot directly bring about structural changes through
a redistribution of resources in the way that fiscal policies or growth strategies can. That said,
Japan's experience, in which monetary policy has indirectly supported such structural changes,
has important implications for the Bank when considering the direction of monetary policy
in a post-COVID-19 era.
B. Challenges during a Post-COVID-19 Recovery and Future Structural Changes
It was in the midst of these structural changes that Japan's economy, like the rest of the world,
was struck by the pandemic. Top priority in the initial stage of the outbreak was given to
preventing increases in corporate bankruptcies and unemployment as much as possible by
supporting corporate financing and ensuring the availability of funds for firms struggling with
a sharp deterioration in their business. Recognizing this, the Bank has successively introduced
measures to strengthen monetary easing, which, coupled with the government's measures and
initiatives taken by private financial institutions, have resulted in limiting increases in
corporate bankruptcies and unemployment so far.
In considering the direction of monetary policy going forward, the key points to keep in mind
are the amount of time required for the economy to recover and the risks and challenges to
be addressed if the recovery takes longer than expected. If COVID-19 were to persist longer
than expected, the financial situation of firms struggling with their sales would become more
strained over time, causing them to eventually become insolvent, which in turn would lead to
an upsurge in corporate bankruptcies and a deterioration in the employment situation. This
would diminish the supply capacity and hence the growth potential of Japan's economy.
Moreover, if the amount of nonperforming loans were to rise as corporate credit risks
materialize, this could impair the soundness of the financial institutions that support such
firms, leading to a deterioration in the functioning of the financial system itself. Concern over
risks to the financial system could then exert further downward pressure on the real economy.
At the moment, financial institutions hold adequate capital and there is little concern that the
financial system might become unstable. However, it is important to be prepared to take
prompt action as needed while closely monitoring both the real economy and the financial
system.
With the financial system remaining stable, if the economy makes a steady rebound once
COVID-19 subsides, it will become possible to increase the robustness of the economy by
moving ahead with full-fledged efforts to address medium- and long-term challenges. In
doing so, the following two issues will be crucial. The first is whether globalization will return
to pre-COVID-19 trends or whether new structural changes will emerge. The second is
whether Japan's economy can make the structural changes needed to respond adequately to
the new global economy.
Regarding the first question, what is clear is that firms will reconfigure their production
locations, for example, to multiple supply chains to avoid a breakdown in their overall supply
chains in case production is suspended in a certain region. Moreover, firms may reorganize
their production locations if the U.S.-China conflict over trade and other issues intensifies.
Nevertheless, in view of the cost advantages provided, it is unlikely that the system of global
supply chains itself will come to an end. And if that is the case, a return to the former trend
of globalization is likely as COVID-19 subsides.
In addition, new structural changes may emerge based on the experience of the pandemic.
For instance, the use of IT and AI is expected to make further inroads in a variety of areas;
for example, making teleworking as common in Japan as in other countries. Further, with the
shift to services likely to continue in advanced economies and with labor shortages expected
to continue due to demographic trends, a key challenge for Japan's economy will be to boost
labor productivity through the active use of IT and AI.
C. Expanding Role of Monetary Policy and Challenges Ahead
Lastly, I would like to touch upon monetary policy challenges going forward, taking into
account the structural changes expected in the post-COVID-19 era.
First, in a situation where it is necessary to strike a balance between containing COVID-19
and helping the economy to recover, the immediate challenge for monetary policy is to
support Japan's economy from the financial side. Specifically, the key priorities are to
continue with large-scale monetary easing under the current monetary policy framework,
maintain financial market stability, support corporate financing, and contain increases in
corporate bankruptcies and unemployment. In doing so, it is necessary to continue working
together with the government and other major central banks in order to respond flexibly in
terms of macroeconomic policy and to ensure market stability.
Next, in conducting monetary policy, one of the medium- to long-term challenges facing the
Bank is to ensure stability of the financial system. If economic recovery takes longer than
expected, it is possible that an upsurge in corporate bankruptcies could impair the soundness
of financial institutions, placing the financial system at risk. If financial institutions -- which
play a key role in providing financial support for corporate business activities -- can no longer
fulfill their financial intermediation function, this would exert downward pressure on the real
economy, which, if the situation were to persist, could potentially weaken the growth potential
of Japan's economy. Developments such as the transformation of working styles through the
use of IT and AI can have a positive impact in terms of revitalizing regional economies. In
light of this, it is essential to firmly maintain financial system stability over the medium to
long term to allow financial institutions to effectively carry out their roles in promoting new
structural changes. The Bank will take the necessary responses to enable the appropriate
functioning of financial intermediation.
In closing, let me reiterate that the virtuous cycle from income to spending achieved over the
past seven years is mainly due to the fact that the Bank, as part of a policy mix of fiscal and
monetary policies, has persistently maintained accommodative financial conditions, which
encouraged forward-looking investment among firms. In terms of monetary policy going
forward, the Bank will work together with the government and other major central banks as
necessary, taking timely and appropriate responses to achieve price stability to contribute to
the sound development of the national economy while ensuring stability of financial markets.
I am hopeful that, in this way, a virtuous cycle will be restored in Japan's economy after
COVID-19 subsides, and that the economy will continue to experience sustained growth
under new economic structures.
Thank you for your attention.
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-0.7 +0.4
-0.6 +0.2 +0.5 The
Board majority
items
and
probability
as
the
forecasts
(all
Policy submitted
of Report.
figures the concerning
excluded.
highest
and
Members CPI
estimates). of
each
the
Outlook
figure
forecasts
highest
range policies
Pric