Why the BOJ policy move (mostly) lacked credibility

The BOJ’s recent decision is likely to end up being far more important than anything the Fed does or does not do today.  But as of now it raises more questions than answers:

1.  The BOJ announced it would cap 10-year bond yields at 0%, and also that it would attempt to overshoot its 2% inflation target.

2.  The BOJ did not announce lower IOR or more QE.

Today’s market reaction is hard for me to gauge.  The initial reaction was clearly positive, as stocks rose nearly 2%, and the yen fell by almost 1%.  Later, however, the yen more than regained the ground it lost.  That doesn’t mean the BOJ action had no impact, just that whatever impact it had was at most slightly more than markets anticipated.

The overshoot promise could be viewed as either Krugman’s “promise to be irresponsible”, or as a baby step toward level targeting.  Martin Sandhu gives a third interpretation—a signal that the target really is symmetrical, despite all the talk about a de facto 2% inflation ceiling in many countries.  There’s no reason that all three interpretations could not be a little bit true—after all, central bank policy is made by committees.

I vaguely recall Bernanke suggesting something like a long term interest rate peg—can anyone confirm?  I have mixed feelings about this idea.  On the one hand, I like moving monetary policy away from a QE/negative IOR approach, and toward a price peg approach.  But I view interest rates as almost the worst price to peg, for standard NeoFisherian reasons.  Are low long-term rates easy money, or a sign that money remains tight?  That’s not at all clear.

Although I am disappointed by the specific steps taken today, these actions do make me more optimistic in one sense.  The BOJ has shown that it’s still willing to experiment, and that it still wants to raise inflation.  Here’s an analogy.  When the Fed first engaged in forward guidance, they did so in a very ineffective manner—low rates for X number of years.  This was criticized as being rather ambiguous—in much the same way the BOJ’s 10-year bond yield cap is ambiguous.  So the next step in forward guidance was to make the interest rate commitment conditional on the economy, a major improvement.  Perhaps the BOJ’s next step will be to switch to price level target, in order to make the size of the inflation overshoot more concrete.  Or maybe instead of capping 10-year bond yields, they’ll peg something more unambiguous, such as the yen against a basket of currencies.  If that’s too controversial (and it probably is) then peg the yen against a CPI futures contract.

The danger is that this specific move won’t work, and the backlash will prevent the BOJ of moving further down the road in the future.  Maybe that’s why the yen reversed course a few hours later.

PS.  It just occurred to me that the 10-year bond yield cap could be viewed as a sort of commitment to enact a policy expected to lead the yen to appreciate by at least 1.68%/year against the dollar (for standard interest parity reasons).  That’s a non-NeoFisherian way of explaining why I’m skeptical.  In the long run, this bond yield cap means that Japanese inflation is likely to be 1.68% lower than US inflation.  They really needed to do the opposite of what the Swiss did early last year—they should have sharply depreciated the yen, and simultaneously raised interest rates.

PPS.  Kudos to Paul Krugman.  Ideas that start out seeming very “ivory tower”, such as promising to be irresponsible, can end up being enacted, at least in part.  Unfortunately, Krugman first proposed that idea under the (quite reasonable) assumption that liquidity traps would be temporary.  The markets don’t seem to believe that any longer, at least with respect to Japan.

Update:  Kgaard added this comment:

Scott — My understanding is that at the post-announcement press conference Kuroda said he would not be upping the amount of monthly bond purchases, and this is what turned the yen. Seems to me that what you wrote a couple days ago is entirely relevant here: If they SAY they want 2% CPI but then take actions consistent with 0% CPI, then what they really are targeting is 0% CPI until further notice, and investors will respond accordingly. Hence stronger JPY …

Update #2:  from commenter Mikio:

Kuroda did not say he will not expand purchases. On the contrary. He repeated again that the BOJ is ready to expand both the purchases as well as cut the IOR. But obviously they did not think they need to act now.

I think the jury is out there about this move. It’s non-progress if you look at the yen, it’s marginally positive if you look at stock market.

Update#3:  HL added the following:

Kgaard and Mikio are both right / wrong

After the longest delay for the statement release, markets learned at 01:18 pm Tokyo time, the following:

No change in policy balance rate at -0.1%
Monetary base expansion until inflation stable above 2%
JGB purchases in line with the current pace
MB/NGDP rate to hit 100% in 1 year (currently 80%)
Yield curve control introduced
Average maturity target scrapped
10 year JGB yield target around 0%
Forward guidance enhanced
Inflation overshooting commitment
Purchases to fluctuate to achieve curve control
Continue easing until inflation stably above 2%
No mention of timeframe
Comprehensive review on policy
NIRP helpful for decline in funding rates
NIRP didn’t seem to change banks’ willingness to lend
NIRP’s impact on yield curve, however, a bit problematic

Then during the preso (03:30~04:42), Bloomberg headlines
03:39 pm “No change in commitment to achieve 2% ASAP”
03:44 pm “Cutting minus rates further is still an option”
03:55 pm “Don’t think BOJ is coming close to limits”
03:55 pm “We just strengthened our framework”
04:12 pm “Expect inflation to hit 2% during FY 2017”
04:22 pm “amount of bond buying changes with the economy”
04:29 pm “BOJ won’t have JPY 80 trillion for JGB buying as fixed”
04:40 pm “New framework isn’t tapering”

So immediately after the statement release, markets had reasons to believe that some guidance on quantity part could be provided by Kuroda (continuing the purchase, etc). Then during the preso, Kuroda made that guidance more ambiguous. But the fact is: there is nothing in these comments to suggest that the BOJ will start tapering soon.

USDJPY had its strongest period between the statement release and the start of the preso Q&A. Then it was on a gradual decline even before Kuroda started making comments related to the quantity dimension. Eventually it settled around 101.70 before declining sharply at the start of New York session…

 


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32 Responses to “Why the BOJ policy move (mostly) lacked credibility”

  1. Gravatar of Kgaard Kgaard
    21. September 2016 at 07:03

    Scott — My understanding is that at the post-announcement press conference Kuroda said he would not be upping the amount of monthly bond purchases, and this is what turned the yen. Seems to me that what you wrote a couple days ago is entirely relevant here: If they SAY they want 2% CPI but then take actions consistent with 0% CPI, then what they really are targeting is 0% CPI until further notice, and investors will respond accordingly. Hence stronger JPY …

  2. Gravatar of ssumner ssumner
    21. September 2016 at 07:22

    Thanks, I added your comment to the post.

  3. Gravatar of Chuck Biscuits Chuck Biscuits
    21. September 2016 at 07:22

    Wait, I’m confused. I thought you want central banks to target NGDP •expectations•, here you say you’re optimistic because you think BOJ is willing to try to raise •actual• inflation. Which is it? Or are you just making things up as you go along, as with the “natural” rate?

  4. Gravatar of ssumner ssumner
    21. September 2016 at 07:25

    Chuck, My whole purpose is writing this blog is to annoy people like you. I just make it up as I go along.

  5. Gravatar of John Hall John Hall
    21. September 2016 at 07:42

    The BoJ should raise interest rates? You’re sounding vaguely neo-Fisherian.

  6. Gravatar of Brian Donohue Brian Donohue
    21. September 2016 at 07:46

    Scott,

    Good post.

    Better response to Chuck.

  7. Gravatar of Gary Anderson Gary Anderson
    21. September 2016 at 08:01

    I think the Japanese should buy all the fish in the ocean. Or all the rocks in the USA. At some point the Japanese should buy the entire world, and after that own a few stars.

    Japan is a dwarf star, or maybe a black hole, where stuff goes in but light doesn’t come out. They may be happy with deflation if the other central bankers keep world assets from falling. They can claim victory without lifting a finger.

    So far, the Fed seems assured that asset prices will not fall. What more could you ask from central bankers, help for the average guy? Ha, that was funny.

    Just think, the Fed has asset prices stable, and has low bond yields to help the counterparties. What more would big banks want?

  8. Gravatar of Gary Anderson Gary Anderson
    21. September 2016 at 08:13

    “The BOJ announced it would cap 10-year bond yields at 0%, and also that it would attempt to overshoot its 2% inflation”

    So, remember when QE stopped? Well yield of US bonds went down. We will see if the conundrum is in effect with the 10 year bond.

    Trust me, I can laugh with Tom Keene when he chuckled under his breath that people are writing this cap by the BOJ is the death of NIRP. The death of NIRP, lol.

  9. Gravatar of Sean Sean
    21. September 2016 at 08:27

    It would seem to me the overshoot committment would be more effective in the US. The FED has been running monetary policy inline with something like 1.5 core pce and hiking rates in a path consistant with that. If the FED made the same promise as the BOJ and declared that the Fed was now on vacation in terms of hiking rates until the overshoot occurs I would be fairly confident that the overshoot would occur since tip spreads are already 1.7% while pricing in a more hawkish monetary policy path than the FED going on a yearlong vacation.

    Not sure what the BOJ hammer is going to be to get inflation rising so that the overshoot language becomes more powerful.

  10. Gravatar of Ray Lopez Ray Lopez
    21. September 2016 at 11:06

    Sigh. Another SSumner “CYA” post so that when and if Japan’s Abenomics fails (as it well might, since monetarism is snake oil) Sumner can say “I told you so”. But if Abenomics succeeds, as is possible since an economy is nonlinear and money is neutral (so printing more of it has no real effect, anything can happen) then this Sumner post will disappear into the Memory Hole and be forgotten. Clever.

  11. Gravatar of Liberal Roman Liberal Roman
    21. September 2016 at 11:31

    Speaking of our Fed….” Voting against the action were: Esther L. George, Loretta J. Mester, and Eric Rosengren, each of whom preferred at this meeting to raise the target range for the federal funds rate to 1/2 to 3/4 percent.”

    George, Mester, and Rosengren. 2 of 3 are Obama appointees. No one else to blame now.

  12. Gravatar of dtoh dtoh
    21. September 2016 at 11:37

    @Scott
    The BoJ is not credible for the following reasons.

    1. Their recent track record. Despite having plenty of ammunition, they didn’t achieve their target.

    2. A non-credible target. To get to 2% inflation, I think they would need north of 5% NGDP growth which ain’t going to happen.

    4. The wrong target. Should be NGDP.

    5. Expectations have to be about something. Kuroda specifically said they weren’t. I.e. that the BoJ wasn’t going to increase its bond purchase and expectations would just be about expectations.

    Bunch of brain dead imbeciles running the BoJ. Almost as bad as Bernanke.

  13. Gravatar of ssumner ssumner
    21. September 2016 at 13:10

    John, Only if they do so through an expansionary monetary policy. If they use a contractionary policy, then I’m opposed.

    Sean, They don’t need a bigger hammer, they need a different policy framework.

    Ray, Still working on figuring out the AS/AD graph? Take your time, they are very tricky.

    Liberal, Are your sure? I don’t think Obama picked bank presidents.

    dtoh, There seems to be a lot of stupidity among central bankers, in your view.

  14. Gravatar of dtoh dtoh
    21. September 2016 at 20:01

    @scott

    You said, “There seems to be a lot of stupidity among central bankers, in your view.”

    Could any non-stupid person disagree?

  15. Gravatar of Mikio Mikio
    22. September 2016 at 07:47

    Scott and Kgaard:

    Kuroda did not say he will not expand purchases. On the contrary. He repeated again that the BOJ is ready to expand both the purchases as well as cut the IOR. But obviously they did not think they need to act now.

    I think the jury is out there about this move. It’s non-progress if you look at the yen, it’s marginally positive if you look at stock market.

    Otherwise great post, thank you.

    Mikio

  16. Gravatar of HL HL
    23. September 2016 at 06:47

    Kgaard and Mikio are both right / wrong

    After the longest delay for the statement release, markets learned at 01:18 pm Tokyo time, the following:

    No change in policy balance rate at -0.1%
    Monetary base expansion until inflation stable above 2%
    JGB purchases in line with the current pace
    MB/NGDP rate to hit 100% in 1 year (currently 80%)
    Yield curve control introduced
    Average maturity target scrapped
    10 year JGB yield target around 0%
    Forward guidance enhanced
    Inflation overshooting commitment
    Purchases to fluctuate to achieve curve control
    Continue easing until inflation stably above 2%
    No mention of timeframe
    Comprehensive review on policy
    NIRP helpful for decline in funding rates
    NIRP didn’t seem to change banks’ willingness to lend
    NIRP’s impact on yield curve, however, a bit problematic

    Then during the preso (03:30~04:42), Bloomberg headlines
    03:39 pm “No change in commitment to achieve 2% ASAP”
    03:44 pm “Cutting minus rates further is still an option”
    03:55 pm “Don’t think BOJ is coming close to limits”
    03:55 pm “We just strengthened our framework”
    04:12 pm “Expect inflation to hit 2% during FY 2017”
    04:22 pm “amount of bond buying changes with the economy”
    04:29 pm “BOJ won’t have JPY 80 trillion for JGB buying as fixed”
    04:40 pm “New framework isn’t tapering”

    So immediately after the statement release, markets had reasons to believe that some guidance on quantity part could be provided by Kuroda (continuing the purchase, etc). Then during the preso, Kuroda made that guidance more ambiguous. But the fact is: there is nothing in these comments to suggest that the BOJ will start tapering soon.

    USDJPY had its strongest period between the statement release and the start of the preso Q&A. Then it was on a gradual decline even before Kuroda started making comments related to the quantity dimension. Eventually it settled around 107 before declining sharply at the start of New York session…

  17. Gravatar of HL HL
    23. September 2016 at 06:49

    Sorry 101.70. Not 107 (if so I would’ve been super rich!)

  18. Gravatar of HL HL
    23. September 2016 at 06:57

    Although it is probably reasonable to make pessimistic assessment of what the BOJ has done, I also think it is interesting that

    (a) Relatively upbeat (widely regarded as impossible) FY 2017 CPI inflation forecast was maintained

    (b) The BOJ is promising an overshoot despite the widespread skepticism about its policy efficacy

    (c) It is targeting 10 year JGB yield at 0% with the full understanding of the risk that should market forces push the yield lower, it could be forced to reduce its JGB purchases

    (d) They are still keeping the MB target intact for next year

    Perhaps they are “easing to forecast” in the next meeting with an aggressive ramp-up in muni debt / private asset purchase and NIRP? Wouldn’t that return the initiative to BOJ completely? Just a thought…but maybe I am too optimistic.

  19. Gravatar of Scott Sumner Scott Sumner
    23. September 2016 at 07:05

    dtoh, Do you really believe that Bernanke, Yellen, Fischer, Draghi, et al, are stupid?

    Thanks Mikio, I added an update.

    Thanks HL, I’ll add that info. But the press said the 0% rate was a “cap” you are saying a “peg”. Did the Financial Times get it wrong?

  20. Gravatar of HL HL
    23. September 2016 at 07:28

    The official statement and Kuroda’s comments never characterized it as a cap. Just “Around the current level of 0%”. This is perfectly consistent with the explanation that amount of purchases will vary according to the state of the economy. I think the FT made an error. I am sure that the BOJ would love it to be a cap as that would indicate higher inflation is around the corner. Also, they haven’t said anything about this 0% target being permanent.

    Come to think of it, by the time they contemplate raising the yield target (or make a wildly inverted curve as it is currently allowed by the new framework) in response to strong inflation, we will have a fascinating and potentially definitive test of Neo-Fisherian ideas (especially since we are dealing with Japan’s uniquely horrible solvency dynamic).

  21. Gravatar of HL HL
    23. September 2016 at 07:46

    Please disregard the second part. Got too excited.

  22. Gravatar of Mikio Mikio
    23. September 2016 at 08:16

    The “overshooting-commitment” is definitely a positive.

    As for the zero ten year yield pledge, I think it’s confusing and hence already useless.

    I am afraid it’s only real purpose is to appease the ultra-conservative big banking conglomerates, by offering them a steeper yield curve, to substitute the future reduction in the IOR they receive.

    Worrying about banks’ profits should not the BOJ’s concerns. So any indication that this has little to do with monetary policy is already a bad idea.

  23. Gravatar of dtoh dtoh
    23. September 2016 at 11:43

    @scott
    You asked; “Do you really believe that Bernanke, Yellen, Fischer, Draghi, et al, are stupid?”

    It depends on how we define intelligence/stupidity.

    If we mean an ability to solve certain conscribed theoretical problems of which academics are fond, then probably no…they are not stupid.

    If we mean the general ability to solve real life problems (e.g. figuring out which lever to push to get the cheese or how to reduce unemployment), then yes…they are complete and utter imbeciles.

  24. Gravatar of Kgaard Kgaard
    23. September 2016 at 17:20

    Basic question here, potentially a stupid one: Why doesn’t the BoJ provide funding to banks at -2% and peg the 10-year yield at 0%? Conceptually this would get you all the NIRP benefits that NIRP supposedly provides, while enriching the banks (and getting everyone off the BoJ’s back about that). Am I missing something basic about monetary policy mechanics that makes this a non-useful exercise?

  25. Gravatar of HL HL
    23. September 2016 at 18:20

    Kgaard and Mikio. My take is that they are doing this as a part of a two or three stage process. If you assume that this was the opening move, then the whole thing starts to look a bit better. Ideally, they should have done it from the get-go, but if they are really obsessed with quarterly forecast update format, then going all-in in November 1st meeting kinda makes sense. There, you declare that things are disappointing compared to the earlier forecast and launch deep NIRP and aggressive muni debt / private sector purchases.

    Unless they are completely crazy, they made that overshooting commitment for a reason. If not, it will go down as the most ridiculous central banking message in history….20% appreciation in the currency (trade-weighted). Headline CPI deflation. All survey measures crashing down. The hope that inflation somehow overshoots from here onward, especially without any policy help on the side….it’s Baghdad Bob stuff. And I don’t think the BOJ is Baghdad Bob…

  26. Gravatar of H_WASSHOI (Maekawa Miku-nyan lover) H_WASSHOI (Maekawa Miku-nyan lover)
    23. September 2016 at 21:26

    I don’t like to deny pessimistic people, their thought is like bullshit if they are wrong

    https://twitter.com/calestous/status/745085790938632192

  27. Gravatar of Scott Sumner Scott Sumner
    24. September 2016 at 12:47

    dtoh, If Bernanke is stupid, how would you describe someone who thinks the unemployment rate is 40%?

    I think it’s a mistake to assume people who disagree with you are stupid. It makes more sense to assume people who think the unemployment rate is 40%, not 4.9%, are stupid.

    Kgaard, If rates got that low, I think that people would just hoard cash.

    HL, You said:

    “And I don’t think the BOJ is Baghdad Bob…”

    It won’t take long for us to find out

  28. Gravatar of dtoh dtoh
    25. September 2016 at 03:30

    scott,

    1. Do you honestly think Trump was referring to the official BLS unemployment rate?

    2. If you were trying to make a point in 15 seconds to the average person about a decline in the labor force participation rate, would you do it by explaining BLS methodology and definitions.

    I don’t assume people who disagree with me are stupid, but if someone answers yes to either of the above questions, then I would assume they are either stupid, stubborn, or trying to be intentionally provocative.

  29. Gravatar of ssumner ssumner
    25. September 2016 at 12:37

    1. No, he’s probably too stupid to know that that is.

    2. No, but I would not lie, and claim the unemployment rate was 40%. Are you saying that his claim was not a lie? You can use whatever unemployment rate you want, and you’d never get 40%. Maybe 10%, if you included all the discouraged workers, involuntary part timers, etc. 10% is defensible, 40% is a lie.

    Don’t make things so complicated, a lie is a lie. I believe you are overthinking these issues. Trump engages in the big lie, over and over again. It’s what he does, which explains why many knowledgable people are horrified by him. The average American has no idea that 40% is a lie, so they don’t care about his lies. They have no idea that he supported the Iraq War, so they don’t care when he says he opposed it.

  30. Gravatar of dtoh dtoh
    25. September 2016 at 18:13

    @scott,

    1. Do you actually believe that? If so how was he able to cite the actual BLS number when he made his comment. You actually think a Wharton educated real estate developer who lives and dies on his cost of funding isn’t watching his Bloomberg screen when the number comes out every month?

    Do you even know what he actually said and where the 40% number came from. Hint – he never claimed the rate was 40%.

    I’ve never claimed that Trump or any other politician is honest, but at least the rest of us can be accurate about what he did or did not say.

    BTW – I haven’t done the math but I think a 5 or 6% drop in the labor participation rate and 2 or 3% increase in the ratio of part timers works out to something higher than 10% (and that’s assuming there were no labor dropouts and no unwilling part timers before 2008.)

  31. Gravatar of Big in Japan | Bruegel Big in Japan | Bruegel
    26. September 2016 at 00:04

    […] Scott Sumner at the Money Illusion blog argues that the BOJ decision shows the Bank is still willing to experiment, and makes an analogy to when the Fed first engaged in forward guidance. The BOJ’s 10-year bond yield cap is ambiguous, but perhaps the BOJ’s next step will be to switch to price level target, in order to make the size of the inflation overshoot more concrete.  Or maybe instead of capping 10-year bond yields, they’ll peg something more unambiguous, such as the yen against a basket of currencies. If that’s too controversial (and it probably is) then they could peg the yen against a CPI futures contract. The danger remains that this specific move won’t work, and the backlash will prevent the BOJ of moving further down the road in the future. […]

  32. Gravatar of Big in Japan | Global Business Outlook Big in Japan | Global Business Outlook
    26. September 2016 at 05:21

    […] Scott Sumner at the Money Illusion blog argues that the BOJ decision shows the Bank is still willing to experiment, and makes an analogy to when the Fed first engaged in forward guidance. The BOJ’s 10-year bond yield cap is ambiguous, but perhaps the BOJ’s next step will be to switch to price level target, in order to make the size of the inflation overshoot more concrete.  Or maybe instead of capping 10-year bond yields, they’ll peg something more unambiguous, such as the yen against a basket of currencies. If that’s too controversial (and it probably is) then they could peg the yen against a CPI futures contract. The danger remains that this specific move won’t work, and the backlash will prevent the BOJ of moving further down the road in the future. […]

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