kazumasa iwata : the conduct of monetary policy under the new framework excerpts of a speech by mr kazumasa iwata, deputy governor of the bank of japan, at a meeting with business leaders, akita, 8 june 2006. * * * the conduct of monetary policy the bank of japan terminated the quantitative easing policy in early march 2006, and is in the process of reducing the outstanding balance of current accounts held by financial institutions at the bank. the outstanding balance, which was at around 30 to 35 trillion yen at the time of the termination, is currently at around 12 trillion yen. some market participants take the view that the pace of reduction may be too fast, and speculate that this may reflect the bank's intention to raise the target for interest rates at an early date. market participants expect the bank to raise the target for interest rates at some point during fiscal 2006, and this expectation has been factored into current market rates. the bank, however, noted when the quantitative easing policy was terminated that it would take a few months before the outstanding balance declined to a level near the reserve requirement. the bank's money market operations have been in line with this policy statement, and the bank has not been accelerating the pace of reduction in order to raise the target for interest rates at an early date. it has been some time since money market transactions were conducted under normal market conditions, so that some rates have risen due to trading friction. nevertheless, on the whole the bank's reduction of the outstanding balance has been carried out in a stable manner. new framework of monetary policy and policy implementation the conduct of monetary policy is now based on the new framework announced in march this year and on the findings from examining the risks affecting the economic outlook that are described in the outlook for economic activity and prices ( hereafter the outlook report ). under the quantitative easing policy, monetary policy was conducted with an emphasis on the underlying trend of the core consumer price index ( cpi ). to be more specific, with the overnight call rate at virtually zero percent, the bank made a commitment to maintain the quantitative easing policy until the year - on - year rate of change in the core cpi registered zero percent or higher on a sustainable basis in order to affect market expectations of the future path of interest rates. 1 this effect is referred to as the policy duration effect. the effectiveness of the quantitative easing policy has been the focus of much debate and criticism. i believe, however,

1 ) a significant improvement in corporate profits, particularly among large manufacturing firms, resulting from the successful restructuring efforts and the depreciation of the yen from the middle of 1995 ; ( 2 ) progress in the reorganization of the international production system as seen in the shift in japan ’ s exports and production toward more capital - and technology - intensive goods ; and ( 3 ) increased business fixed investment in new sectors owing to technological innovations and deregulation in information and communications industries. with regard to balance - sheet adjustments, strong adjustment pressures remained throughout fiscal 1996, as seen in the persistently high level of the ratio of debts to assets, especially among small nonmanufacturing firms. in fiscal 1996, weakening of prices came to a halt. domestic wholesale prices followed a downward trend until the middle of 1996, but in the second half of fiscal 1996 they virtually stopped declining, owing to a moderate improvement in domestic supply and demand conditions, as well as a rise in import prices reflecting the depreciation of the yen and the rise in crude oil prices. in march 1997, the year - to - year change shifted from decline to increase. although corporate service prices continued to decline compared to the level of the previous year, reflecting the decrease in leasing prices and real estate rents, the year - to - year declines were smaller in the second half of fiscal 1996, due to a recovery in demand for services following the improvement in corporate profits. consumer prices ( nationwide, excluding perishables ) also increased by a slightly wider margin from the previous year owing to a smaller decline in commodity prices as a result of the depreciation of the yen, and the halt in the decline in domestic wholesale prices, as well as a gradual increase in service prices. while prices seemed to have stopped declining, the increase in import prices from the depreciation of the yen and higher crude oil prices had little impact on domestic prices, as there remained persistent downward pressures on prices from imports of manufactured goods, particularly final goods, and technological innovations. as for commercial land, prices for large and well - located plots of land suitable for development virtually stopped declining owing mainly to the gradual progress in stock adjustment for office space. however, the prices of smaller plots of land with limited commercial value continued to decline. the recent development in commercial land prices thus indicates a distinct splitting into two groups. meanwhile, residential land prices are bottoming out, reflecting the high level of residential housing construction. the cyclical momentum for economic recovery gathered strength in fiscal