Commentary by William Pesek
March 9 (Bloomberg) -- Masaaki Shirakawa is about to become the most scrutinized man in Japan.
That’s saying a lot, given how unpopular Prime Minister Taro Aso is these days. As deflation returns to the second- biggest economy, the spotlight will focus on Bank of Japan Governor Shirakawa. Its glare will intensify as 2009 unfolds.
Shirakawa will be under extreme pressure to return short- term rates to zero. Expect desperate politicians to demand a return to the policies from which the BOJ spent recent years moving away. Shirakawa should stand firm and hold the key overnight lending rate at 0.1 percent. That small move hardly would take an act of bravery, but it might have symbolic meaning.
The same goes for the Federal Reserve, the Bank of England and other central banks on the precipice of zero interest rates.
Granted, Japan is pretty much there already. Who really thinks a minuscule rate cut would help things? Japanese companies slashed spending last quarter at the fastest pace in a decade as exports crashed and earnings evaporated.
The real issue with the zero-interest-rate policy, or ZIRP, is “quantitative easing.” It means the BOJ would print untold amounts of yen for an extended period to increase liquidity and stimulate credit. That was fine in the late 1990s and early 2000s, when it was just Japan’s monetary system that was broken. Today, add the Fed and Bank of England to that list.
Less Than Zero
The trouble with going to zero is twofold. One, central banks are having problems getting monetary traction, no matter where rates are, with credit markets seized up around the globe. Two, no one understands better than the BOJ how zero rates wreak havoc with money markets. Commercial banks, for example, find it hard to manage their reserves in such an environment.
There also are exit-strategy problems. “Putting in liquidity with the understanding that it disappears as soon as things go back to normal will create no inflation expectations, and so it’s ineffective,” says Richard Jerram, chief economist at Macquarie Securities Ltd. in Tokyo.
Once you start offering free money, how do you stop? It took record food and energy prices in recent years to produce a little inflation in Japan. Consumer prices failed to rise in January. And with the world moving into a deflationary cycle, the BOJ couldn’t hope to produce sustainable inflation unless it churned out trillions and trillions of yen over several years.
About the only good news in Japan’s economy is the yen’s 7.5 percent drop against the dollar since Jan. 21. It’s a nice respite from the yen’s 24 percent surge versus the dollar in 2008. Yet the Japanese currency’s reversal is an ominous sign for the auto and electronics industries. The move reflects pessimism about the economic outlook and the nation’s leadership.
‘Sell Japan’
It’s an intriguing thing, really. In the 15 months through March 2004, Japan spent the equivalent of Greece’s gross domestic product to weaken the yen. These days, the yen is sliding on concerns about political paralysis in Tokyo.
As investors yell “sell Japan,” politicians in Tokyo are setting out to buy the Japanese people. Lawmakers are doling out $20.4 billion to a thoroughly unimpressed population of 127 million that doesn’t want it. That might strike cash-strapped Americans who could use some pocket money right now, yet this tale explains much about where Japan finds itself and why this recession will continue deepening.
Voters see through this handout as a shallow political ploy and, until recently, so did Aso. A few weeks back, the prime minister derided the strategy, believing it would do little to boost growth. Sliding support rates and pressure from politicians prompted Aso to change his position. Voters are right to be cynical in this election year.
Cash Handouts
The impact of the cash handouts has already been blunted. If this exercise is about boosting consumer sentiment and trust in Japan’s leaders, then you can forget it. The ruling Liberal Democratic Party needs to do much better than gimmicks.
Even though Japan has the biggest public debt among developed nations, it has no choice but to increase borrowing. The almost 13 percent annualized drop in growth last quarter set the stage for another ugly showing in the current one. This is no time for timidity in Tokyo.
It’s also not the time to expect the central bank to do all the heavy lifting, something the LDP has done for two decades. Strategists say there isn’t yet a critical mass of foreign investors pulling the plug on Japan. The government needs to act to avoid such a scenario.
Shirakawa, who has headed the BOJ since April, is resisting a return to ZIRP, yet he is taking other measures. The BOJ is purchasing corporate bonds from banks. The idea is that with rates near zero, buying assets channels badly needed funds to businesses as global growth plunges.
Even so, Shirakawa will soon be on the hot seat as never before. Avoiding Japan’s past mistakes will help him withstand the heat. That goes for the Fed and other central banks, too.
(William Pesek is a Bloomberg News columnist. The opinions expressed are his own.)
To contact the writer of this column: William Pesek in Tokyo at wpesek@bloomberg.net
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