Bank of Japan aims to double monetary base to tackle deflation

The Bank of Japan will aim to double the monetary base over two years through the aggressive purchase of long-term bonds, in a dramatic shift aimed at ridding Japan of the deflation that has dogged the country for almost two decades.

Haruhiko Kuroda yesterday announced his arrival as central bank governor with a "new phase of monetary easing", a move that comes after Japanese prime minister Shinzo Abe told the bank to target a 2 per cent rate of inflation.

“We can’t escape deflation with the incremental approach that’s been taken until now,” Mr Kuroda said after the announcement. “We need to use every means available.”

While he did not rule out a further acceleration of the bank’s easing programme should prices fail to rise as desired, Mr Kuroda said the new measures would be sufficient to achieve his goal.

“I am confident that all the policies we need to achieve 2 per cent inflation in around two years are now in place,” he said.

The Nikkei 225 stock average closed up 2.2 per cent, snatching back losses earlier in the day. The benchmark 10-year bond yield fell almost a fifth to 0.446 per cent, matching the all-time low of June 2003. The yen tumbled from 92.91 to the US dollar to a two-week low of about 95.20.

The Bank of Japan said it would double Japan’s monetary base from Y135 trillion ($1.43 trillion) to Y270 trillion by March 2015, mainly by buying more long-term government bonds. That will raise the average remaining maturity of its holdings from about three years to seven years, keeping downward pressure on yields all along the curve.

Monetary easing
Under the new measures, the Bank of Japan will expand its balance sheet by 1 per cent of gross domestic product each month this year and by 1.1 per cent per month in 2014, according to estimates from Barclays.

By comparison, the US Federal Reserve's current monetary easing programme involves increasing the balance sheet by 0.54 per cent of GDP per month. "This is really taking policy where it hasn't been before", said Jonathan Cavenagh, senior FX strategist at Westpac in Singapore. "It's pretty bold. It has certainly taken us by surprise."

The Bank of Japan will also set a new framework for its asset purchases. Previously, it had carried out market operations with the aim of keeping the overnight interest rate as close to zero as possible. Now it is focusing on the monetary base.

In a move that erases the centrepiece policy of Masaaki Shirakawa, the former central bank governor, the Bank of Japan said it would scrap the asset-purchasing programme that was created in 2010 to buy shorter-term debt.

Now all bond purchases will be consolidated in one operation, making the scale of the Bank of Japan’s easing more transparent. The bank says it will discuss with the government ways to ensure that investors keep faith in state finances, having temporarily suspended its self-imposed rule limiting bond holdings to the amount of banknotes in circulation.

"The results were extremely bold and we highly evaluate the policies," said Akira Amari, the Japanese economy minister. – Copyright Financial Times Ltd 2013