masaaki shirakawa : provision of subordinated loans excerpt from an address by mr masaaki shirakawa, governor of the bank of japan, at a meeting with banks ’ top management, tokyo, 24 march 2009. * * * at the policy board meeting held on march 17, the bank of japan decided to explore a new framework for providing subordinated loans to banks. we have invited today representatives of banks which are subject to international capital standards to explain the background and the bank of japan ’ s view on the decision. the funding conditions for firms have deteriorated rapidly since last autumn due to the increased strains in global financial markets after the collapse of lehman brothers. while financial institutions have retained the financial intermediation function accordingly by increasing lending, the environment surrounding financial institutions has become increasingly severe due to the stock price plunge and the domestic economic downturn. fund raising in financial markets for funds over the fiscal year - end has mostly been completed, but the firms continue to face difficult funding conditions. while the cp market has started to restore its function, funding in the capital market has been limited to the firms with high ratings. looking ahead, while demand for funds to secure liquidity for the year - end and the fiscal year - end and demand for working capital due to the rise in raw material prices until last summer will decline, demand for funds to continue and to restructure business are expected to gain momentum. there might be a case in which the financial intermediation function will not be carried out smoothly from a macro perspective, if the strains in global financial markets increase and financial institutions become more conscious of possible capital constraints in the future. if financial institutions become more conscious of taking credit risk and all financial institutions take the same action simultaneously, the adverse feedback loop between the finance and the economy may intensify through financial institutions ’ restraining from accumulating their assets, leading to the fallacy of composition, although the action is judged as rational for each individual institution. as a result, that might weaken the capital strength of each financial institution. from that point of view, concern is for the influence of a possible decline in stock prices. while the amount of stocks currently held by financial institutions is significantly reduced compared with the early 2000s, it remains unchanged that they hold substantial market risk associated with stockholdings. although stock prices have recently somewhat rebounded, the financial systems in the u. s. and europe have remained unstable. it should be avoided that each financial institution's consciousness

policy is rarely constrained by the zero lower bound and thereby minimizes the adverse consequences for macroeconomic stability. why comfort zones? these considerations provide the foundations for a broad consensus among academic economists and monetary policymakers around the world that the optimal inflation rate is in the range of about 1 to 3 percent ; that is, an average inflation rate outside this range would be detrimental to longer - run health of the economy. in light of that consensus, it might seem natural to specify price stability in terms of a range of acceptable outcomes for inflation. indeed, several present and past fomc participants have used the term " comfort zone " and specified a 1 to 2 percent range, thereby providing valuable information regarding their views about what levels of inflation are consistent with the federal reserve's dual mandate. 12 the analytical case for a point objective nevertheless, while a " comfort zone " approach may seem appealing, analytical considerations reveal some disadvantages of that approach as well as some significant benefits of specifying and maintaining a point objective for inflation. the pitfalls of comfort zones in particular, i would like to highlight three specific pitfalls associated with the " comfort zone " approach. confusion about objectives. first, when the price stability objective is formulated in terms of an acceptable range of inflation outcomes, the policy implications may be difficult to interpret. for example, if the comfort zone spans a range from 1 to 2 percent, does that mean that policymakers are equally comfortable with inflation rates of 1. 1 percent and 1. 9 percent? furthermore, confusion about inflation objectives might make it harder for a committee of policymakers to decide on the appropriate course of monetary policy. when one member advocates a more accommodative policy stance than other members, it may not be clear whether that reflects a more negative outlook for the economy or a greater willingness to allow inflation to settle in or near the top of the comfort zone. thus, the comfort zone approach might lead to greater confusion in policy deliberations and hence produce a less effective decisionmaking process. perverse expectations dynamics. second, framing price stability in terms of a comfort zone could lead to perverse expectations dynamics and thereby generate larger fluctuations in economic activity, especially if policymakers maintain a neutral stance regardless of where the inflation rate falls within the comfort zone. the term " comfort zone " appeared in the headline of a september 2002 new york times interview with former federal reserve governor laurence meyer ( stevenson, 2002 ) and has subsequently been used by federal reserve officials on numerous occasions,