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Pastimes : Clown-Free Zone... sorry, no clowns allowed -- Ignore unavailable to you. Want to Upgrade?

To: Les H who wrote (126358)	10/3/2001 12:26:37 AM
From: who cares?	Read Replies (2) \| Respond to of 436258

Page 1 of 3 BN 00:01 Is the BOJ Serious About Boosting Money Supply?: David DeRosa Is the BOJ Serious About Boosting Money Supply?: David DeRosa (Commentary. David DeRosa, president of DeRosa Research & Trading, is also an adjunct finance professor at Yale School of Management and the author of ``In Defense of Free Capital Markets.'' The opinions expressed are his own.) New Canaan, Connecticut, Oct. 3 (Bloomberg) -- Commercial bank reserves held at the Bank of Japan more than doubled last month to 12.4 trillion yen ($103 billion). This was no accident -- the BOJ purposely created bank reserves to expand the money supply. Moreover, some of that surge in this important component of the monetary base came via unsterilized currency intervention, something the BOJ has been loath to implement. The monetary base consists of currency in circulation and reserves held by commercial banks at the central bank. So why did the BOJ finally see the light? For years the BOJ has ignored the advice of practically every economist I know. One of the many problems plaguing Japan is deflation --- prices of goods and services are falling. Economists told the BOJ that to stop consumer price deflation it would have to be aggressive in raising the anemic rate of growth in the monetary base. The basis for the recommendation is the quantity theory of money, an idea nearly as old as the economics profession itself. In Japan's case, the quantity theory asserts that if the central bank creates money fast enough the prices of consumer goods will have to stop falling and begin to rise. In the special case of Japan, the solution to some problems - - certainly not all of the problems, is moderate inflation. The funny thing is that in my lifetime of studying economics I've never before heard economists prescribe inflation as a remedy. Real is Real To see why this might work you have to consider another old concept, the real rate of interest. The real rate is the nominal rate of interest -- the rate you see quoted in the marketplace -- adjusted for the expected rate of inflation or deflation. When the prices of goods and services are expected to rise the real rate will be less than the market interest rate. Japan's situation is the opposite. Falling prices create a real interest rate higher than market rates. Economists consider the real rate important because it is a better indicator of the true cost of borrowing money. If the quantity theory is correct, the explosion in Japan's monetary base ought to eradicate deflation, maybe even cause some -----------------------------====================------------------------------ Copyright (c) 2001, Bloomberg, L. P. Page 2 of 3 inflation, and, by extension, drop the real rate of interest. Sounds good to me. And there is already a sign that it may be working. Since the end of August there has been a slight steepening of the Japanese term structure, though this is more visible if you use the beginning of June as a comparison point. I would expect the yields on Japanese bonds to rise as the market begins to expect deflation will turn into inflation. A Reversal? The unsterilized intervention also matters because it could be a signal that policy has changed in a serious way. When a central bank intervenes to buy foreign currency, in this case the dollar, it creates commercial bank reserves. This is basically the same thing as a traditional open market operation, though with the latter the central bank buys domestic government bonds. If a central bank doesn't want foreign exchange intervention to affect the money supply it conducts a second operation. In the BOJ's case, the second operation, following the purchases of foreign assets, is to sell domestic government bonds, removing the reserves created by the intervention. The important thing is that unlike in the past, the BOJ conducted unsterilized interventions in September. That much we know. What we don't is why the BOJ is doing this. The first theory is that the BOJ has finally arrived at a point where it agrees that quantitative easing is necessary. Better hope this is the right theory. The second theory is that the BOJ, like many other central banks, flooded the banking system with liquidity after the Sept. 11 terrorist attacks on New York and the Pentagon. What's Going On? Worst of all is the third theory: The BOJ is helping weaken the yen for some kind of uniquely Japanese accounting reason. Sept. 30 was the end of the first half in Japan's accounting cycle. You can see what the BOJ is doing by visiting its web site boj.or.jp. The item called current account balances is BOJ-speak for commercial bank reserves held at the central bank. It is reported one day after the fact. When I went to the site on Monday, the reserves were 12.4 trillion yen. What makes me wonder how serious the BOJ is about the new program is that today they report the number is 10.4 trillion yen --in other words, the BOJ has let the monetary base drop by about 2 trillion yen since Oct. 1. To be honest, I don't know what this means. It's only two days. But if the BOJ is now in the process of reversing itself (yet again) by draining the extra liquidity it created in -----------------------------====================------------------------------ Copyright (c) 2001, Bloomberg, L. P. Page 3 of 3 September, then I say that central bank is hopeless. --David DeRosa through the Tokyo newsroom at dderosa@bloomberg.net or (203) 801-4340/pv/*jmw Story Illustration: To see a graph of the value of the Japanese yen against the dollar enter {JPY <Crncy> <GP> <GO>} To see books published by Bloomberg Press, including ``In Defense of Free Capital Markets,'' see {Book <GO>} News by category: NI COLUMNISTS NI DEROSA NI JAPAN NI JNECO NI ASIA NI FRX NI TOP NI FEA NI CEN NI MOF NI BOJ NI MMK NI GBN NI BON NI CT -0- (BN ) Oct/03/2001 4:01 GMT -----------------------------====================------------------------------ Copyright (c) 2001, Bloomberg, L. P. ############################ END OF STORY 1 ##############################