Economic Activity, Prices,
and Monetary Policy in Japan
Speech at a Meeting with Business Leaders in Gifu
Yutaka Harada
Member of the Policy Board
Introduction
Thank you for giving me this opportunity to exchange views with you and for having taken
the time to be here despite your busy schedules. It is indeed a great honor to be here today.
Please allow me to express my gratitude for your great cooperation with the business
operations of the Bank of Japan, particularly of the Nagoya Branch.
The Bank has implemented quantitative and qualitative monetary easing -- or QQE for short
-- since April 2013 and introduced various additional measures such as the negative interest
rate policy and yield curve control, all with the aim of achieving the inflation target of 2
percent.
As a result of these measures, Japan's economy has been improving. According to the
Reference Dates of the Business Cycle released by the Cabinet Office, the economy has
continued to improve for 55 months, from November 2012 -- when the economy was at the
bottom of the business cycle -- until this June. In addition, in April 2017, the Bank revised
its economic assessment upward, stating that the economy "has been turning toward a
moderate expansion." I know that some argue that although the economy is said to be
improving, they are not feeling the effects of this improvement; however, the improvement
is clear even when looking at the employment situation.
Today, I would like to explain monetary policy measures conducted by the Bank and what
they have achieved, and then discuss what to make of arguments circulating with respect to
the purported dangers of bold monetary policy.
I. Monetary Easing Measures
Table 1 presents an outline of the monetary policy measures conducted by the Bank since
the start of 2013.
Table 1 Timeline of the Bank's Monetary Policy Measures
January 2013 Introduction of the "price stability target" of 2 percent
Introduction of QQE
- Monetary base: increase at an annual pace of about 60 to 70
April 2013 trillion yen
- Amount outstanding of the Bank's JGB holdings: increase at
an annual pace of about 50 trillion yen
Expansion of QQE
- Monetary base: increase at an annual pace of about 80 trillion
October 2014 yen
- Amount outstanding of the Bank's JGB holdings: increase at an
annual pace of about 80 trillion yen
Introduction of "QQE with a Negative Interest Rate"
- A negative interest rate of minus 0.1 percent is applied to the
January 2016
Policy-Rate Balances in current accounts held by financial
institutions at the Bank
"Enhancement of Monetary Easing"
July 2016 - Amount outstanding of the Bank's ETF holdings: increase at an
annual pace of about 6 trillion yen
Introduction of "QQE with Yield Curve Control"
- Yield curve control
Short-term policy interest rate: a negative rate of minus 0.1
percent is applied to the Policy-Rate Balances in current
accounts held by financial institutions at the Bank
Long-term interest rate: the Bank will purchase JGBs so that
September 2016
10-year JGB yields will remain at around zero percent; with
regard to the amount of JGBs to be purchased, the Bank will
conduct purchases more or less in line with the current pace
-- an annual pace of increase in the amount outstanding of
its JGB holdings of about 80 trillion yen
- Inflation-overshooting commitment
I would like to look at developments in monetary indicators as a result of these measures by
looking at two graphs. As can be seen in Chart 1, the monetary base, which is the money
that the Bank can control directly, and the balances in current accounts held by financial
Chart 1 Rapid Increase in the Monetary Base and
Increase in M2 and Bank Lending
Introduction of QQE
(April 2013)
tril. yen
1000
Before QQE After QQE
800
M2
+2.8% (annualized) +3.7%
600
Bank lending
-0.3% (annualized) +2.5%
400
200
0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
CY
Monetary base
Current account balances at the Bank of Japan
Bank lending
Money stock (M2)
Source: Bank of Japan.
institutions at the Bank have increased rapidly since April 2013. In line with this, the money
stock and lending have been growing.1
1
Comparing the annual rates of change in the money stock and lending in the four years before and
after the introduction of QQE in April 2013 (specifically, comparing March 2009-March 2013 and
April 2013-April 2017) shows that these were plus 2.8 percent and minus 0.3 percent respectively
before QQE and plus 3.7 percent and plus 2.5 percent respectively after the introduction of QQE.
Shioji has shown that QQE did have a quantitative effect -- albeit a small one -- on the rate of
increase in the money stock and lending. See: Shioji Etsuro, "Zero kinrika ni okeru nihon no
shin'you souzou," [Japan's credit creation under zero interest rates], chap. 2 in Gendai keizaigaku no
chōryū
2016 [Currents in modern economics 2016], ed. Teruyama Hiroshi et al., (Tokyo: Toyo
Keizai Inc., 2016).
Moreover, as shown in Chart 2, due to the decline in nominal interest rates and the rise in
inflation expectations, real interest rates -- nominal interest rates minus expected inflation
rates -- have greatly declined.
Chart 2 Marked Decline in Nominal and Real Interest Rates
Introduction of QQE
(April 2013)
%
3
2
1
0
Nominal interest rate (10-year JGBs) (a)
Inflation expectations of economists (b)
Inflation expectations of market participants (c)
-1
Real interest rate (a-b)
Real interest rate (a-c)
-2
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
CY
Note: Figures for inflation expectations of economists are the average of expectations for six to ten years
ahead, taken from the Consensus Forecasts. Figures for inflation expectations of market
participants are expectations for the next ten years, taken from the QUICK Monthly Market Survey
(Bonds).
Sources: Consensus Economics Inc., "Consensus Forecasts"; QUICK, "QUICK Monthly Market Survey
(Bonds)"; Bloomberg.
The decline in real interest rates has stimulated investment, boosted stock prices in Japan,
and led to a depreciation of the yen. Rising stock prices further raise investment and lead
households to increase their consumption expenditure. In other words, economic activity
has started to improve through these channels.
However, unfortunately, there are some who argue that these kinds of monetary policy
measures are dangerous. That is, they argue that regardless of how much monetary easing is
conducted, nothing will happen for a while, but at some point, such easing will suddenly
give rise to hyperinflation, a surge in interest rates, a collapse of the yen, and so forth.
Moreover, the argument goes, low interest rates depress banks' operations, actually
impeding banks' financial intermediation function, thus obstructing the effects of monetary
easing; or, banks, faced with squeezed profits, will take excessive risk, threatening the
stability of the financial system. However, essentially, whatever one does, there are always
risks. The reason for doing something even if there are risks is that it produces some sort of
result. And looking at the Bank's monetary policy, it certainly has produced results.
Therefore, before considering the purported risks in more detail, let us first have a look at
the achievements of monetary easing.
II. The Achievements of Bold Monetary Easing
Chart 3 shows developments in employment and the unemployment rate. Although it has
been widely said that the only employment that has been growing is non-regular
employment, the share of part-time employees in the total number of employees actually
peaked in 2017.2 Moreover, the unemployment rate has fallen substantially. The chart
shows that the unemployment rate at the end of the 1990s stood at 5 percent, while Japan's
structural unemployment rate in the 2000s was said to be around 3.5 percent.3 Some had
argued that a structural unemployment rate of 3.5 percent implies that monetary policy
measures that would reduce unemployment below this level would stir inflation and give
rise to a speculative bubble and should therefore be avoided.4 However, the unemployment
rate currently stands at 2.8 percent, and there is no inflation or a bubble. Thus, if we
understand the argument that Japan's structural unemployment rate is around 3.5 percent as
implying that a drop in unemployment below this rate would give rise to inflation, this was
incorrect.5
2
According to the Labour Force Survey by the Ministry of Internal Affairs and Communications,
the share of non-regular employees peaked in 2014.
3
The following publications suggested that the structural unemployment rate was in the range of
about 3.0-3.5 percent using unemployment-vacancy analysis: (1) Analysis of the Labour Economy
2015 by the Ministry of Health, Labour and Welfare; (2) Annual Report on the Japanese Economy
and Public Finance 2015 (Summary) by the Cabinet Office; and (3) Outlook for Economic Activity
and Prices by the Bank of Japan.
4
Shirai has argued that "Japan is not suffering from a shortage of demand. Looking at the
unemployment rate and the capital utilization rate, there is almost no slack" (translated by the Bank
See Noguchi Asahi and Shirai Sayuri, "Herikoptā manē no shōtai: Gekitotsu taidan" [The
of Japan).
Shūkan
true meaning of helicopter money: A heated debate], Ekonomisuto, August 2, 2016.
5
For instance, Hayakawa argues that "although the rate of wage increases is still low, it has started
to gradually rise since the unemployment rate reached 3.5 percent. This suggests that the relationship
≒ ≒
that the structural employment rate the natural unemployment rate 3.5 percent generally
Chart 3 Improvement in Labor Market Conditions
Introduction of QQE
(April 2013)
%
million
60 18
Number of regular employees
Before QQE After QQE
Number of full-time employees
Regular employees
16
Number of part-time employees
+0.6% (annualized) +1.9%
50
Unemployment rate (right scale)
Youth unemployment rate (age 15-24 years, right scale)
14
40 12
Full-time employees
-0.1% (annualized) +1.4%
10
30
8
20 6
4
10
Part-time employees
+2.3% (annualized) +3.1%
2
0 0
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
CY
Sources: Ministry of Health, Labour and Welfare; Ministry of Internal Affairs and
Communications.
Chart 4 Improvements in the Fiscal Balance and Government Debt
QQE began in April 2013, but these developments indicate that if it had started earlier, the
unemployment rate in Japan without doubt would have remained at 3 percent or below
throughout. Given that the unemployment rate from the mid-1990s to 2012 on average was
roughly 4.5 percent, unemployment was almost 2 percent higher than it could have been.
This implies that, because 2 percent lower of workers could not find a job, the GDP level
was on average slightly less than 2 percent lower than it would have been. In fact, the loss
in GDP may have been even greater than that. What I mean is that an increase in the
unemployment rate by 1 percent may reduce GDP by more than 1 percent. The reason is
that if there is a recession and output decreases, firms do not decrease employment in line
with the decrease in output but instead try to maintain employment levels. In addition, when
holds" (translated by the Bank of Japan). See Hayakawa Hideo, "Kinyū seisaku no 'gokai': 'Sōdai na
jikken' no seika to genkai." [The 'misunderstandings' of monetary policy: Achievements and
limitations of the 'great experiment'] (Tokyo: Keio University Press, 2016).
there is a recession, the desire to work decreases, the number of people seeking employment
declines, the number of unemployed people falls, and the unemployment rate does not
increase to the extent that employment has decreased.6
Moreover, the deterioration in the employment situation during the period before QQE
began may have caused the subsequent long-term stagnation. As shown in Chart 3, the rise
in the unemployment rate was particularly pronounced among the young. If new graduates
cannot get a good job, they will not receive sufficient vocational training and their human
capital will decline, which will eventually lead to lower GDP growth rates.7
Given this, it may be possible to correct past mistakes through accommodative monetary
policy. If the labor market tightens, those who were previously unable to find a job will be
able to find one, while those who involuntarily took up employment as non-regular
employees can find regular employment; as a result, they will receive sufficient job training
and have more job opportunities, labor quality will rise, and productivity will grow. In other
words, it is possible that through a prolonged situation of labor market tightness, the labor
force participation rate will rise, there will be active human capital accumulation,
productivity will grow, and the real GDP growth rate will accelerate.8
A particular problem in Japan's case is the issue of young people who were looking for a job
during the so-called "employment ice age." While there is no clear, generally accepted
definition of the "employment ice age" period, some have defined it as the period from the
mid-1990s to the mid-2000s, whereas others also include a few years after the global
6
The coefficient regarding how much the real GDP growth rate changes if the unemployment rate
changes by 1 percent is called Okun's coefficient, which in Japan is about 3. See Harada Yutaka,
Nihon wo sukutta rifure-ha keizaigaku [Reflationism: The economics that saved Japan] (Tokyo:
Nikkei Publishing Inc., 2014), 117-118.
7
Nakano Akihiro and Kato Ryo, "'Chōki teitai' ron wo meguru saikin no giron: 'Rireki kōka' wo
chūshin ni" [The recent debate on "long-term stagnation": Focusing on the "hysteresis effect"], Bank
of Japan Review, no. 2017-J-2, March 2017, http://www.boj.or.jp/research/wps_rev/rev_2017/data
/rev17j02.pdf.
8
Janet L. Yellen, "Macroeconomic Research After the Crisis," (speech, "The Elusive 'Great'
Recovery: Causes and Implications for Future Business Cycle Dynamics" 60th annual economic
conference sponsored by the Federal Reserve Bank of Boston, Boston, MA, October 14, 2016).
financial crisis.9 This was a period of recession in which it was very difficult for new
graduates to find employment. Many could not find regular employment and instead, out of
necessity, became non-regular workers, taking on part-time jobs or temporary work.
If these people were to become regular employees, wages, productivity, and tax revenues
including social insurance contributions would rise. This is desirable not only for them
individually, but also for Japan as a whole.
Of course, if we set too much store by the "high-pressure economy" argument -- which
suggests that labor market conditions should be kept tight through monetary easing --
monetary policy may be tightened too late despite signs of inflation, potentially leading to
intolerably high inflation. While I think that the "high-pressure economy" argument is
probably correct, in actual monetary policy conduct, we should prioritize the 2 percent
inflation target and regard further improvements in employment and increases in the growth
rate as desirable to the extent that they can be achieved.
Furthermore, the fiscal situation is also improving. Chart 4 shows the fiscal balance of the
general government divided by nominal GDP. As can be seen in the chart, the government
deficit relative to GDP deteriorated sharply to 8 percent in the wake of the global financial
crisis in 2008. It remained at that level for a while, but has improved by 6 percentage points
since 2013 and now stands at about 2 percent relative to GDP. Part of the improvement of
course is due to the consumption tax hike in 2014, but the tax hike accounts for only 8
trillion yen or 1.5 percentage points of GDP; the remaining 4.5 percentage points are due to
the economic growth brought about by economic measures such as QQE.10
Moreover, the amount outstanding of government debt relative to nominal GDP, as shown
in the chart, peaked in 2014 and has been declining since. The improvement in the fiscal
situation to a considerable extent also owes to the improvement in the economic situation
due to economic measures including QQE.
Chart 4 Improvements in the Fiscal Balance and Government Debt
Introduction of
Consumption tax hike
consumption tax Consumption tax hike
(April 2014)
(April 1989)
(April 1997)
%
%
8 300
Introduction of QQE
3
(April 2013)
250
-2
200
-7
-12 150
-17
100
-22
50
-27
-32 0
1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016
CY
Primary balance (SNA)
Fiscal balance (Flow of Funds Statistics)
Amount of government debt outstanding (right scale)
Note: The series show ratios relative to nominal GDP. The fiscal balance is the financial surplus
or deficit of the general government in the Flow of Funds Statistics. Figures for the amount
of government debt outstanding and the primary balance are converted from annual to
quarterly data through linear interpolation.
Sources: Cabinet Office; Bank of Japan.
As discussed so far, the Bank's bold monetary easing has produced excellent results.
III. What Are the Dangers of QQE?
Given that QQE has clearly produced results, criticism of the Bank's monetary policy
naturally has shifted to the argument that "although nothing has happened so far, there is a
danger that a serious problem may arise in the future." I call this kind of argument the "big
rock theory." As illustrated in Chart 5, the "big rock theory" holds that there is a big rock on
the slope that blocks the way. However, if one tries to move the rock out of the way, it
hardly moves at first, but once it does get rolling, it will not stop. The argument therefore
maintains that it is better not to try to move the rock out of the way. Turning back to
monetary policy, this implies that no matter how much monetary easing is pursued, nothing
Chart 5 Big Rock Theory
Big rock theory: a big rock on a slope hardly moves at first if one tries to move
it out of the way, but once it does get rolling, it will not stop, and therefore it is
better not to try to move the rock out of the way.
Big
rock
Slope
happens for a while, but suddenly at some point it will give rise to hyperinflation, a surge in
interest rates, and a collapse of the yen. For this reason, the theory argues, monetary easing
should not be pursued. In my opinion, such fears are groundless.11
The criticism leveled by "big rock theory" proponents seems to have converged on the
dangers associated with the exit from monetary easing. I think the reason is that
hyperinflation and the collapse of the yen are unlikely to happen and the proponents of the
"big rock theory" have realized that their warnings will not convince the public.
"Exit" here refers to the Bank's termination of monetary easing followed by an increase in
interest rates and a reduction of the monetary base because achieving 2 percent inflation is
in sight as a result of monetary easing. Actually, if you think about it, the "big rock theory,"
which focuses on dangers related to the exit, assumes that, as a result of monetary easing, a
situation arises in which prices increase and monetary policy must be tightened. Therefore,
the proponents of the theory do not hold the view that nothing will happen no matter how
much monetary easing is pursued; rather, they recognize the effectiveness of QQE. From
my perspective, this is a welcome argument, since it recognizes the effectiveness of
monetary easing.
At the exit, the Bank will have to raise interest rates. There are two possible ways to do so:
by abandoning the negative interest rate policy currently carried out by the Bank and raising
the interest rate applied to excess reserves; or by selling Japanese government bonds (JGBs)
held by the Bank. While the Bank at the moment has not decided anything with regard to
the exit, what I would like to explain is easier to understand by focusing on an increase in
the interest rate applied to excess reserves, so let me do so here. According to proponents of
the "big rock theory," the Bank will make large losses when it raises the interest rate on
excess reserves because of the low interest rates on JGBs purchased by the Bank in the past.
It is of course possible that the Bank may register losses because it will receive low interest
rates while paying high interest rates. Proponents of the "big rock theory" argue that if the
Bank does indeed make losses, confidence in the currency would be undermined, there
would be hyperinflation, the yen would collapse, and interest rates would surge.
However, please think about it carefully. Essentially, does anyone use money paying
attention to whether the central bank makes a profit or a loss? Moreover, the central bank, in
return for purchasing government bonds in the market, supplies currency, that is, the
monetary base. While yields even on JGBs at present are around 0 percent, they were 3
percent until around the middle of the 1990s. The reason is that back then the real economic
growth rate was high and prices were rising somewhat. If prices rise, interest rates will also
rise eventually. This means that it will be possible to purchase higher yielding JGBs. Of
course, until that time, the Bank will have to hold low yielding JGBs while paying high
yields to banks in order to prevent an overheating of the economy. However, in the end, the
central bank will always make a profit in the long run, since it buys high yielding JGBs
using cash and current account deposits that carry almost no costs. Thus, the Bank will not
make a loss in the long run that could pose a danger.12
Another criticism that has been leveled against QQE is that it has a negative impact on
banks' operations. Both real and nominal interest rates have declined as a result of the bold
monetary easing measures. While low interest rates support the long-term economic
recovery, some argue that they also undermine the operations of banks, which impedes the
effects of monetary easing. Because banks' profits are based on the difference between
deposit interest rates and the loan rates they charge and it is difficult for them to impose
negative deposit interest rates, it is certainly the case that as loan interest rates approach
zero, banks' profit margins necessarily decrease. However, the decline in interest rates is not
only due to the Bank's policy measures. To start with, the decline in real interest rates is also
due to a decline in the long-term growth potential of Japan's economy as well as structural
changes in the supply of and demand for funds. This structural change in the supply of and
demand for funds is due to the fact that firms have become excessive savers and do not
borrow money. Meanwhile, the decline in nominal interest rates is due to the decline in
prices. As prices rise, nominal interest rates will eventually also rise.13 Therefore, in order
to raise interest rates, it is necessary to continue with bold monetary easing and achieve the
2 percent price stability target.
Moreover, as the economy improves, the number of people unable to repay loans will
decrease, the number of people who want to borrow money will increase, and banks will be
able to raise lending rates again.
IV. Why Has the Price Stability Target Not Yet Been Achieved?
As mentioned earlier, the monetary easing measures have been effective and warnings of
the dangers of these measures make little sense. The only thing that the measures have not
achieved is an increase in prices.
Let me start by looking at developments in prices and then consider why the price stability
target of 2 percent has not yet been achieved.
Chart 6 shows the year-on-year rate of change in the consumer price index (CPI) on a
quarterly basis. The chart may give the impression that achieving the price stability target of
2 percent is a long way off. However, in order to grasp the underlying trend in consumer
prices, it is necessary to look at the rate of change in the CPI excluding fresh food and
energy, since the CPI excluding fresh food but including energy is affected by temporary
fluctuations in oil prices. The important thing to note when looking at these indexes is that
their underlying trend was negative from the mid-1990s onward, but following the
introduction of QQE the rate of change in the CPI excluding fresh food and energy turned
positive and since then has continued to be on an uptrend.14
Chart 6 Breakdown of the CPI
Consumption tax hike
Consumption tax hike
(April 1997) (April 2014)
%
4
Introduction of
QQE (April 2013)
3
Contribution of CPI (all items less fresh food and energy)
Contribution of CPI (energy)
2
CPI (all items less fresh food)
CPI (all items less fresh food and energy)
1
0
-1
-2
-3
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
CY
Note: The CPI is adjusted for the effects of the changes in the consumption tax by deducting
2.0 percentage points at the time of the introduction of the tax in 1989, 1.5 percentage points
at the time of the first hike in 1997, and 2.0 percentage points at the time of the second hike in
2014.
Source: Ministry of Internal Affairs and Communications.
14
While the average annual rate of change in the CPI excluding fresh food and energy between
April 1999, when it first turned negative, and April 2013 was minus 0.5 percent, it has been plus 0.6
percent between the start of QQE in April 2013 and April 2017 (excluding the 2 percent increase in
the CPI as a result of the consumption tax hike).
Next, let us have a more detailed look at developments in prices. Immediately after the
introduction of QQE in April 2013, the rate of change in the CPI excluding fresh food and
energy increased from around minus 0.5 percent to around plus 1 percent. After losing
momentum in the wake of the consumption tax hike in April 2014, the rate of change turned
upward again with the expansion of QQE, but then started to decline once again in 2016.
However, as I will explain later, I believe that the rate of change will likely turn upward
once more due to the expected decline in the unemployment rate and other factors.
Certainly, the 2 percent price stability target has not yet been achieved. Moreover, many
argue that even though the economy is said to have improved, increases in incomes are
minimal, and thus they do not feel much improvement. The Bank of course also does not
want prices to rise just for the sake of it but because the economy is improving. That is, the
Bank conducts monetary policy based on the premise that deflation is detrimental because it
leads to economic stagnation and that if we escape from deflation and achieve the 2 percent
price stability target, the economy will also improve.
So, why has the economy not recovered that much? Let me consider why the 2 percent price
stability target has not been achieved. Analyses by the Bank suggest that a major reason for
this is the decline in inflation expectations, and that the following two factors have played a
major role in the decline in inflation expectations. First, (1) the decline in crude oil prices,
(2) the weakness in demand following the consumption tax hike in April 2014, and (3) the
slowdown in emerging economies and volatile global financial markets, have lowered the
observed inflation rate. And second, amid this decline in the observed inflation rate,
inflation expectations -- after having been largely flat -- weakened, reflecting the fact that
expectations formation in Japan is largely adaptive, that is, backward-looking.15 Among
these factors, let me focus on the consumption tax hike and the sluggishness in the global
economy.
Chart 7 shows developments in real consumption before and after the consumption tax hike.
The chart indicates that following the consumption tax hike, consumption, as measured by
the consumption activity index compiled by the Bank, has remained weak for more than
two years, although it is now finally showing signs of recovery. The consumption tax hike
from 5 percent to 8 percent had the effect of raising consumer prices by 2 percent. Thus, if
we exclude the increase in consumption due to frontloading and the subsequent decline in
response, real consumption should have fallen by 2 percent and then continued along the
trend observed before the tax hike. While the chart depicts such a trend, actual growth in
consumption has declined considerably and has fallen drastically below this trend
particularly since the end of 2015. Moreover, although wages have not grown very much, if
we exclude the effects of the consumption tax hike, real employee income -- i.e., wages
multiplied by the number of employees -- has consistently grown, since employment has
been consistently improving during this period. Thus, even though real income is increasing,
the situation continues that consumption is not increasing.
Chart 7 Stagnation in Real Consumption
Introduction of Consumption tax hike
QQE
April 2014
April 2013
CY 2010=100
120
Trend after the introduction of QQE
115
Trend after a downward shift of 2 percent
110
105
100
Trend after a downward shift of 3.5 percent
95
2012 2013 2014 2015 2016
CY
Consumption activity index World trade volume Real employee income
Note: Real employee income is obtained by multiplying nominal wages by the number of employees
(Labour Force Survey) and adjusting inflation by the CPI for all items.
Sources: Bank of Japan; Ministry of Internal Affairs and Communications; Ministry of Health,
Labour and Welfare; CPB Netherlands Bureau for Economic Policy Analysis.
Why is consumption not increasing? One potential explanation is that, given that there had
been plans to further raise the consumption tax to 10 percent after the hike to 8 percent,
people already responded in their consumption behavior as though the tax rate was raised
by 5 percentage points to 10 percent.16 In that case, it would be no surprise that real
consumption expenditure declined by 3.5 percent. However, even if we draw the trend
based on this assumption, consumption has fallen further behind the trend since the end of
2015. Moreover, if the explanation that people already responded to an expected 10 percent
consumption tax hike is correct, the next consumption tax hike to 10 percent should have
little effect on consumption, which I find hard to believe.
In any case, if real consumption decreases, demand will decline and prices will be subject to
downward pressure. While it is difficult to know exactly how large this downward pressure
is, it is certain that such pressure will exist.
Another factor that should be mentioned is trends in the global economy. As shown in Chart
7, it is clear that the stagnation in global trade since 2015 has cooled consumer sentiment
through a decline in exports and stock prices, and has delayed the recovery of Japan's
economy.
However, the tightening of the labor market seen in the decline in the unemployment rate
shown in Chart 3 should lead to a rise in wages and eventually in prices. There are already
signs of this happening. In this context, it is useful to look at the Phillips curve, which
shows the link between the unemployment rate and the inflation rate. Chart 8 shows the
Phillips curve for Japan. In the chart, the inflation rate is shown on the vertical axis, the
unemployment rate on the horizontal axis, and the Phillips curve is given by the
downward-sloping curve. As can be seen, prices only rise gradually as the unemployment
rate falls, but once the unemployment rate approaches 2 percent, prices rise quickly. The
unemployment rate has already fallen to 2.8 percent. Therefore, there is no doubt that prices
will eventually rise as the unemployment rate continues to fall.
Chart 8 Phillips Curve and Tightening of the Labor Market
y/y % chg.
8
7
6
5
Price Price stability stability target target of of 2 2 percent percent
energy)
4
and
3
food
2
fresh
1
less
0
items
-1
(all
-2
CPI
-3
1 2 3 4 5 6
%
Unemployment rate
Source: Ministry of Internal Affairs and Communications.
Concluding Remarks
As stated so far, the Bank's monetary policy measures have produced excellent results so far
and with regard to prices, at least a situation in which there is no longer deflation has been
achieved.
Finally, I would like to say that the argument that economic growth is inhibited by a
shortage of labor is incorrect. The argument essentially states that what impedes economic
growth is the shortage of labor brought about by monetary easing measures. The argum