masaru hayami : the economy - recent developments and challenges speech by mr masaru hayami, governor of the bank of japan, at kisaragi - kai, tokyo, 30 may 2002. * * * introduction there have finally been some positive signs that japan ’ s economy has begun to stabilize as we enter the new fiscal year. however, our more than ten years of experience tells us that sustainable growth cannot be realized unless growth potential is strengthened through productivity growth. while economic activity is showing signs of improvement, we should not be complacent. rather we should take advantage of this favorable development and further promote structural reform through specific measures. such efforts will no doubt augment resilience of our economy through rejuvenating business activity and improving consumer confidence. in this sense, this fiscal year will be crucial for our economy in order to return to a sustainable and stable growth path. today, i would like to review recent economic developments and monetary policy management, followed by some of the main issues our financial system now faces. recent economic developments developments in domestic and overseas economies amid the synchronous deceleration in world economies, japan ’ s economy continued to deteriorate from the beginning of last year. yet, the pace of deterioration has recently somewhat moderated, with production starting to pick up reflecting an increase in exports and the progress of inventory adjustment against the backdrop of a recovery in overseas economies. the us economy had been confronting a contraction phase since around end - 2000 such as retrenchment in the information - technology ( it ) sector, and the tragic events of early september further increased uncertainty. however, due to stabilizing forces such as the progress of inventory adjustments in the it sector and resilient consumer spending as well as effects of monetary and fiscal policy stimulus, there have been increasing signs recently that the us economy is beginning to recover. in march, the federal reserve board thus revised its assessment for the foreseeable future from saying that “ the risks are weighted mainly toward conditions that may generate economic weakness ” to “ the risks are balanced ” with respect to prospects for price stability and sustainable economic growth. in response to indications of us economic recovery, exports and production in east asian economies, which are highly dependent on exports to the us, have started to increase and the decline in domestic demand is nearing an end. european economies are also showing some signs of recovery. japan ’ s economy has also basked in this movement toward recovery in overseas economies, as

fact, various private - sector forecasts show that for 2004 growth will be higher compared to 2003, and inflation will remain under 2 percent in the united states, europe, and asia. in such circumstances, central banks have been implementing monetary policy with more attention to the risk of deflation. for example, the federal reserve board announced in its fomc statement in august that “ policy accommodation can be maintained for a considerable period. ” japan is suffering from deflation, a worse problem than disinflation. this makes a stronger case for the bank to continue implementing an easy monetary policy, compared to other central banks. iii. revitalization of the corporate sector stronger global linkage has some bearing on the commonly observed facts that business sentiment has been slow to improve and fixed investment has not become as active as anticipated in various countries under monetary conditions that are easier than in the comparable stage of past business cycles. this partly reflects residual pressure for adjustment. but it also reflects more intensified competition in the corporate sector together with the progress in globalization, as well as increasing difficulties firms face in sustaining pricing power under the new conditions in which prices are being determined. we may be approaching a stage where corporate profits can only be increased by creating new value - added goods and services, and the investment opportunities for such creation are becoming more difficult to find. for example, in japan, the corporate management and economic framework established during the high - growth period are so firmly embedded that it is a very difficult and challenging task to transform them. in this regard, i have been advocating three directions for firms to pursue with a view to building a new framework for the japanese economy. the first is to boost their competitiveness and generate new consumer demand by creating new value - added goods and services. the second is to increase their business activity in the expanding chinese and other asian markets, and further deepen economic interdependence with them. and the third is to address global challenges such as the development of sustainable energy sources and environmental protection. if firms can make positive contributions in these directions, they will certainly be able to expand the frontier of innovation to revitalize the japanese economy. i hope that such efforts will place the japanese economy in a unique position in terms of the sustainable development of the world economy. iv. current situation of the financial system and challenges the japanese financial system, although still facing severe conditions as a whole, is steadily moving toward restoring its effective functioning. since last fall, there has been a growing