The Bank of Japan (BOJ) is scheduled to announce its latest policy decision and release its semi-annual economic outlook report sometime during Friday's Asian trading session.
Japan experienced extreme inflation immediately following World War II due to ballooning government debt fueled by war spending and other expenditures. Over the 30+ years since the country's 1986-91 asset price bubble, Japan has seen a 20-year period of general disinflation (deceleration in rising prices) followed by deflation (falling prices). Many have argued that the post-war inflation episode has not been forgotten among the country's monetary policymakers, who have been notably hesitant to pursue the kinds of aggressive inflationary polices adopted by their peers at the Federal Reserve and the Bank of England.
The BOJ has long been critized by politicians and economists alike for not doing enough to combat deflation. The possibility of a snap election later this year, concerns that the economy might lack the robustness to withstand tax increases proposed to address outsized government debt levels, and the Federal Reserve's announcement in late January to set an explicit 2 percent inflation target seem to have intensified calls by political leaders for the Japanese central bank to do more. In early February, BOJ Governor Masaaki Shirakawa was grilled by lawmakers threatening to change the BOJ law to give the government more power to intervene in monetary policy.
Increased transparency has become more commonplace among policymakers at some major central banks -- particularly at the Federal Reserve -- since the advent of the 2007-8 financial crisis, but not so much at the Bank of Japan. The central bank had traditionally avoided using words like "target" or "goal," choosing instead to describe 1 percent as its understanding of a desirable rate of inflation. The country's economics minister urged the central bank before its mid-February meeting to explore ways to better communicate its commitment toward ending deflation.
The BOJ has an asset buying and lending program under which it buys government and private debt, and provides cheap funding against multiple types of collateral. At its 14 February policy meeting, the bank's board agreed to boost the program by 10 trillion, committing the entire increase toward purchases of long-term government bonds. In an unprecedented move, the central bank also voted to set a goal of 1 percent for consumer inflation. Japan-based UBS economist Takuji Aida has said that in the English version of its policy statement, the BOJ used the term goal in reference to its pursuit of 1 percent inflation, but that it used a relatively more vague word in the Japanese language version of the statement. Nevertheless, the two new BOJ measures seemed to have a material effect on the Japanese yen, which weakened against multiple major currencies during the weeks following the Valentine's Day announcement. The yen's 4-week sell-off (highlighted in yellow on the chart below) against the US dollar exceeded those seen following recent current market interventions by the central bank. Kiyohiko Nishimura, one of the BOJ's two deputy governors, said in a speech to business leaders in Okayama on 18 April that the bank "is committed to implementing additional easing measures, if deemed necessary," adding that the BOJ is "actively" taking steps to achieve its 1 percent inflation goal. As Nishimura's view toward Japan's economic outlook has been more pessimistic than most among the central bank's board, his comments have been intrepreted by some as a signal of further policy easing to come from the BOJ.
Friday's meeting could be a put up or shut up moment for the Bank of Japan. The yen's recent recovery from its mid-March low against the greenback could continue if the BOJ does not demonstrate a firmer timeboxed commitment toward its 1 percent goal for the annual rate of consumer price inflation. An announcement of little to no change in the BOJ's 65 trillion yen ($803 billion) asset-buying and loan program, or even a 2013 inflation forecast [published in the economic outlook report] below the central bank's newly-stated 1 percent goal, would likely disappoint some yen bears.
Curt Wehrley Twitter: @fxcoachcurt Currency Coach & Quantitative Analyst FX Bootcamp
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