September 2023 Monthly: The essence of the Bank of Japan's failure

 

September 2023 Monthly:

The essence of the Bank of Japan's failure

 

 

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September 25, 2023

Nikkei editorial ``The Bank of Japan will refine its analysis and dialogue'' excuses the Bank of Japan's failures

 

The Nikkei editorial (dated September 23), based on Governor Ueda's remarks at the press conference after the September 22 monetary policy meeting, which decided to maintain the status quo, stated, ``As inflation continues to rise, the Bank of Japan will face difficult monetary policy management.'' We are now at the crossroads of whether a sustained trend of wage increases will strengthen or not. We would like to see more precise economic and price analyzes and judgments about the situation than ever before.''

 

However, the company's paper acknowledged Governor Ueda's statement that ``the situation has not yet reached a point where it is foreseeable that the price stability target will be achieved in a sustained and stable manner,'' and stated that ``he has once again demonstrated his stance to tenaciously continue monetary easing,'' adding, ``The key is... The Bank of Japan has expressed its intention to carefully examine and consider data and information at each meeting, including the current wage trends.'' It can be said that the Bank of Japan has expressed its stance of evaluating the results of the Bank of Japan's monetary policy meeting.

 

In addition, the company's theory says, ``As economic and price conditions change, it is appropriate for the Bank to flexibly update its assessment of the situation and policy response depending on the data.'' ``I would like to request accurate and timely information dissemination and dialogue in the future as well,'' sending a message of encouragement to the Bank of Japan.

 

However, while that may be true, it is not without problems. Does the Bank of Japan Ueda's analysis really deserve objective evaluation, as the Nikkei editorial claims that it is ``flexibly updating information judgments and policy responses depending on the data''?

 

 

Japan's inflation underestimation bias

 

For example, if we add back the effect of government subsidies for electric power and LNG gas companies that have been introduced since February on prices, the true price increase rate in Japan would be approximately 1% compared to the previous year. The Ministry of Internal Affairs and Communications has officially calculated in its monthly price statistics that this will increase by a percentage point.

 

In other words, Japan's inflation rate that we are currently seeing is underestimated by about 1 percentage point compared to the actual inflation rate.

 

Therefore, it should be understood that Japan's current inflation rate is not about 3% compared to the previous year as claimed by the media, but is moving at about 4%, twice the Bank of Japan's price stability target of 2%.

 

The best evidence of this is that the core-core CPI, which excludes fresh food and energy, which appears to be unaffected by government subsidies for electricity and natural gas utilities, increased by 4.3% year-on-year in August. It records the rate.

 

 

Continued reversal of Japan-US inflation rates

 

Moreover, the difference in the inflation rates between Japan and the United States has started to reverse since May 2023.

 

For example, if we compare the overall CPI in August between Japan and the US, the US CPI year-on-year increase rate is +3.7%, while Japan's rate of increase appears to be +3.2% at first glance, but as mentioned above, government subsidies The true price increase rate after adding back the gold component should be seen as +4.2%, which is an addition of 1 percentage point.

 

Furthermore, if we compare the producer price index (PPI), which is an upstream indicator of prices, between Japan and the US, the US composite PPI in August increased by only 1.6% compared to the same month last year, while Japan's rose by 3.2% compared to the same month last year. % increase has been recorded. This apparent reversal of PPI inflation in Japan and the US suggests that the reversal of Japan-US inflation rates in the downstream CPI will continue for some time to come.

 

 Ueda Bank of Japan's deception

 

There is no way that the Bank of Japan is unaware of the approximately 1% inflation underestimation bias that has been observed since February 2023, and the reversal of Japan and US inflation rates since May.

 

Even if we were to take a step back and put aside the issue of ``inflation underestimation bias'' that has been occurring since February, Japan's price increase rate has changed since the Bank of Japan began setting a concrete price target in 2013, when it began a new dimension of monetary easing. Looking at the core CPI, which excludes fresh food, which has been used as an indicator, it has consistently exceeded the Bank of Japan's 2% price target for the past 17 months.

 

Even though Japan's core CPI has exceeded the price stability target of 2% for the past 17 months, why does the Bank of Japan say it is not stable, sustainable, or trending? Is it possible to continue playing around with sophistry?

 

Bank of Japan Governor Ueda has clearly stated since shortly after he took office that the rate of inflation would slow down in the second half of fiscal 2023 and converge toward the 2% inflation target.

 

Now, as we approach the second half of fiscal 2023, given Japan's inflation, which has exceeded the price target of 2% for 17 months and remains clearly high, the Bank of Japan is By sharing the need for monetary policy revisions and the steps to be taken to do so as widely as possible with private economic actors such as households and companies, as well as domestic and foreign financial markets, we can communicate the Bank of Japan's monetary policy intentions to private actors and markets. It should be incorporated.

 

Isn't that the natural responsibility of Japan's central bank, which is the guardian of prices and currency?

 

In any case, there is no objective basis for the Bank of Japan's assertion that ``the situation has not reached a point where it is foreseeable that the price stability target will be achieved in a sustained and stable manner,'' and it cannot be seen that the Bank of Japan is properly fulfilling its accountability. It's extremely difficult.

  

The Bank of Japan, chasing the two rabbits of wages and prices, has not gained any.

 

Furthermore, wages are not originally a policy variable that can be controlled by governments or central banks. It is determined by supply and demand between labor and management in the labor market based on labor productivity, etc.

 

There is no problem with Bank of Japan Governor Ueda's statement that a 2% price increase accompanied by wage increases has not been achieved. As shown in the chart below, it is clear that wage increases have been realized on a nominal basis.

 

It's just that the rate of increase in wages has not reached the rate of increase in prices.

 

If prices are stabilized, real wages can rise, assuming that wages are determined in the labor market. Furthermore, in the United States, the inflation rate has already fallen due to the cumulative and large interest rate hikes by the Federal Reserve, and wages are clearly on an upward trend in both nominal and real terms.

 

If the Bank of Japan, like the Federal Reserve, focuses on price stability, it could be able to kill two birds with one stone: price stability and real wage growth.

 

Conversely, if the Bank of Japan chases two rabbits in terms of wages and prices, it may end up not gaining any.

A vicious cycle of “tit for tat in wages and prices”

 

Moreover, as if to use the delay in wage increases on a real basis, which takes into account price increases rather than nominal ones, as a ``cover'', they downplay the high true inflation rate, which has already reached approximately 4%. I have to say that this is both dishonest and dangerous.

 

Sooner or later, our country may fall into the British style of inflation, the vicious cycle of inflationary spirals between wages and prices, or the ``tit-for-tat in wages and prices'' that Nikkei has been admiring recently.

 

In addition, strikes by auto unions have occurred not only in the UK, but also in the US, and are becoming more and more prolonged. Workers' dissatisfaction with rising inflation now appears to be reaching a boiling point even in the world's major developed countries, which are democratic.

 

 

Inflation gap remains unchanged despite downward revision of Japan's GDP

 

Furthermore, on September 19, the Cabinet Office revised down the estimated value of the "output gap," which is the difference between the Japanese economy's potential supply capacity and actual demand, for the April-June period of 2023 to +0.1%. However, it remained in positive territory for the first time in 15 quarters.

 

The previous estimate of the inflation gap was +0.4%. This is because the revised GDP figures announced on the 8th were revised downward from the preliminary figure of 6.0% increase to 4.8% year-on-year growth due to a decline in capital investment.

 

An important fact that remains unchanged even before and after the revision is that an inflation gap exists, in which aggregate demand exceeds aggregate supply, not only in terms of prices but also in the real aspects of the Japanese economy.

 

If aggregate demand exceeds aggregate supply, leading to an inflationary gap, should the government roll back the aggregate demand stimulus measures aimed at eliminating the deflationary gap and shift to an austere fiscal policy? The current imperative for monetary and fiscal policy authorities is to either normalize ultra-accommodative monetary policy without delay, or turn to policies that suppress aggregate demand by implementing, or both at a moderate pace.

 

 

The Bank of Japan's policy interest rate is bound to go from negative to over 4%.

 

High inflation has exceeded the Bank of Japan's price stability target of 2% for the past 17 months, and the current true inflation rate remains high at around 4%. Although the output  gap is small, aggregate demand exceeds aggregate supply. Given the growing inflation gap, Bank of Japan Governor Ueda did not forcefully state, ``At this point, we cannot decide on the timing or concrete measures for policy revisions.'' It is necessary to take action.

 

This is because the current inflation rate has exceeded the 2% price stability target for 17 months, and now prices are rising at a high rate of 4%, and the output gap is more conservative than the inflation gap, and supply and demand are in equilibrium. Assuming this, the current policy interest rate level that the Bank of Japan should set is above 4% for the inflation rate, and it is inevitable that the policy interest rate necessary for the real policy interest rate to rise to positive territory will be above 4% (on a nominal basis). This is because you will be able to do it.

 

In short, it is now time for the Bank of Japan to lift its current negative policy interest rate. If there is no hurry to raise interest rates now, we cannot help but think that there is great fear that the Bank of Japan will be forced to raise rates even more rapidly and significantly due to rising inflation (see the chart above).

 

 

If the Bank of Japan had worked together with the Federal Reserve to raise interest rates last April, it would have been possible to achieve the 2% price stability target! ?

 

In fact, if the Bank of Japan had quietly pushed ahead with the normalization of policy interest rates in April 2022, rather than in the fall of 2023, at the same time as the Federal Reserve began significantly raising interest rates, the Bank of Japan would have been able to avoid allowing inflation to exceed its 2% price stability target. It was very possible that it could have been done.

 

However, due to a different level of monetary easing and repeated large-scale fiscal moves, as of autumn 2023, high inflation and a balance between supply and demand in GDP have already been achieved.

 

This is the reason why I argued in the August Monthly, ``We can't wait for the Bank of Japan to raise interest rates!''

  

Bank of Japan literature as usual

 

In any case, does BOJ Ueda's analysis have a fair, transparent, and consistent ``heart'' and ``spirit''?

 

Any attempt to engage in dialogue with economic actors and financial markets through arbitrary, unobjective, and inconsistent ``Bank of Japan literature'' will only resound in vain.

 

Even if it insists on detailed analysis and dialogue, if the Ueda Bank of Japan, which seems to have become a watchdog of the government rather than a watchdog of prices and currencies, does not have a "heart," then Japan's monetary policy will naturally be arbitrary. This could create serious doubts among households, businesses, and the financial market.

 

Regrettably, the Ueda Bank of Japan has become increasingly deviated from the rules-based and reliable monetary policy that is common sense economic theory in developed countries, led by the United States, and dialogue has naturally become arbitrary and one-sided. This could lead to a sudden and discretionary major policy shift, which could cause severe rifts in Japan's national economy and financial markets.

 

Unfortunately, the question is not so much whether such a serious rift will occur, but rather when it will become inevitable.

 

What is the “essence of failure”?

 

(Nakamaru) Can you summarize the famous book ``The Essence of Failure'' in about 2,000,000 words?

 

(Bard) Yes, I'm smart. Below is a summary of the famous book ``The Essence of Failure'' in about 2000 words.

 

The Essence of Failure is a book published in 1991 that summarizes organizational research on the Japanese military. Author Ryoichi Tobe and his colleagues analyze the causes of the Japanese military's failure in war from an organizational perspective.

 

The main points of this book are the following three points.

1. The Japanese military clung to past successes and was unable to respond to change.

2. The Japanese military had a strong organizational culture that excluded heresy and chance.

3. The Japanese army was unable to achieve its war objectives due to a disconnect between strategy and tactics.

 

1. They stuck to their past successes and were unable to adapt to change.

The Japanese army won an overwhelming victory in the Russo-Japanese War. From this successful experience, the Japanese military began to adhere to the strategic philosophy of ``the army goes on the offensive, and the navy goes on the defensive.'' However, in the Pacific War, the American military was unable to continue its offensive due to its overwhelming physical and technological capabilities.

 

2. There was a strong organizational culture that excluded heresy and chance.

The Japanese military had a strong organizational culture that excluded heresy and coincidence. Therefore, heretical opinions that proposed new tactics or strategies were not accepted. Furthermore, with the victory in the Russo-Japanese War, the Japanese military fell into the illusion that ``Japan was the center of the world,'' and began to underestimate threats from other countries.

 

3. There was a disconnect between strategy and tactics, and the war objectives could not be achieved.

The Japanese army was unable to achieve its war objectives due to a disconnect between strategy and tactics. For example, in the Pacific War, the Japanese military had a strategy of ``bringing America to its knees.'' However, in order to accomplish that strategy, an attack on the American mainland was necessary. However, the Japanese army was unable to achieve its strategy because it did not have sufficient attack capabilities to attack the American mainland.

 

 

The Global War Against Inflation and the Essence of Reiwa Japan's Failure

 

(Nakamaru) If we look at the ``essence of failure'' in the context of the current global fight against inflation, what kind of story can we draw?

 

All major G7 countries are currently fighting a war against inflation, but Japan is the only one that still maintains negative policy interest rates even though the inflation rate has exceeded the target of 2%.

 

In the world war against inflation, it seems to me that a story is approaching in which only Japan will repeat the essence of its failures and face defeat.  Is it unfounded?

 

(Bard) Yes, I don't think that is an unfounded concern. It is quite possible that Japan fails to combat inflation and loses the war against inflation.

 

In ``The Essence of Failure,'' Ryoichi Tobe and his colleagues analyze the failures of the Japanese military by dividing them into the following three elements.

 

• Stick to past successes

• Eliminate heresy and coincidence.

• Discrepancy between strategy and tactics

 

These factors also apply to Japan's current failure to combat inflation.

 

• Stick to past successes

 

Japan has achieved high economic growth since the war. Based on this successful experience, Japan has made overcoming deflation a top priority and is taking a cautious stance toward monetary tightening. However, the nature of the current global inflation is different from past experiences, and clinging to past successes will cause inflation countermeasures to fail.

 

• Eliminate heresy and coincidence.

 

Japan has a tendency to exclude heresy and coincidence. This is thought to be due to the fact that the government and private companies have worked closely together to advance economic activities during Japan's post-war period of high economic growth. However, this trend is a factor that inhibits new ideas and reforms when it comes to combating inflation.

 

• Discrepancy between strategy and tactics

Japan has set a goal of reducing the inflation rate to 2%, but there is no clear strategy for achieving that goal. Additionally, current policy does not appear to be having the necessary effect to achieve the goal of 2% inflation.

 

The combination of these factors creates a story in which Japan fails to combat inflation and loses the war against inflation.

 

Of course, this is just a possibility. It is possible that Japan will succeed in combating inflation and win the war against inflation. However, looking at the current situation, it seems more likely that Japan will fail in its efforts to combat inflation.

 

For Japan to succeed in combating inflation, the following points are important.

• Be flexible enough to respond to change without clinging to past success experiences

• Be open to new ideas and innovations without excluding heresy or chance.

• Clarify strategies and implement effective policies to achieve the goal of reducing inflation to 2%.

 

Future developments will be closely watched to see whether Japan will be able to overcome these challenges and succeed in combating inflation.

 

(Nakamaru) You have a point. However, as inflation has continued to exceed 2% for the past 17 months, the Ueda Bank of Japan has continued to implement monetary easing on a different level, including negative policy interest rates, and the Kishida second reshuffled cabinet appears that they intend to continue with fiscal expansion, with structural wage increases and strengthening investment flows.

By the way, the Japanese economy has turned into an inflation gap where aggregate demand exceeds aggregate supply. Macroeconomics teaches that in the case of an inflation gap, measures to suppress aggregate demand should be adopted through monetary policy, fiscal policy, or both.

 

Contrary to theory, on the contrary, if Japan continues to implement measures to stimulate aggregate demand with extensive monetary and fiscal measures, it will be inevitable that Japan will suffer another major defeat in the fight against inflation.

Unfortunately, I cannot help but think that Japan has not yet learned the true nature of failure. 

 

(Bard) Yes, you are correct. Japan's inflation rate has continued to exceed 2% for the past 16 months. However, the Japanese government and the Bank of Japan have shown a willingness to continue monetary easing and fiscal expansion.

 

This attitude is contrary to macroeconomic theory. When an inflation gap exists, it is necessary to suppress aggregate demand through monetary policy, fiscal policy, or both. However, the Japanese government and the Bank of Japan are likely to exacerbate inflation further by continuing with policies that stimulate aggregate demand.

There is a very high possibility that Japan will fail in its anti-inflation measures and lose the fight against inflation. This can be said to be a sign that Japan has not learned the ``essence of failure.''

 

For Japan to succeed in combating inflation, the following points are important.

• Mobilize monetary and fiscal policies to suppress aggregate demand

• Make the people understand the need for inflation countermeasures and gain their cooperation.

 

Future developments will be closely watched to see whether the Japanese government and the Bank of Japan will be able to overcome these challenges and succeed in combating inflation.

 

Below are some possibilities if Japan fails to combat inflation.

• Acceleration of price increases

• Slower economic growth

• Deterioration of people's lives

• Increased social unrest

These problems could arise if Japan fails to combat inflation. It is important for the Japanese government and the Bank of Japan to recognize the risk of failing to combat inflation and take appropriate measures.

 

(Nakamaru) Unfortunately, Bard is right. thank you.

 

(Bard) No, you're welcome.

 

There is a very high possibility that Japan will fail in its anti-inflation measures and lose the fight against inflation. This can be said to be a sign that Japan has not learned the ``essence of failure.''

 

As you have pointed out, if the Japanese government and the Bank of Japan fail to take measures to combat inflation, problems such as an acceleration in price increases, a slowdown in economic growth, a deterioration in people's lives, and an increase in social unrest may occur. .

 

It is important for the Japanese government and the Bank of Japan to recognize the risk of failing to combat inflation and take appropriate measures.

 

Future trends will be closely watched.

 

 

 

Tomo Nakamaru

Former World Bank Economist

 

This week's weekly: The cabinet reshuffle does not alter the fate of Kishidanomics

 

This week's weekly: The cabinet reshuffle does not alter the fate of Kishidanomics

 

September 19, 2023

 

What does Japan's August PPI imply?

 

(Nakamaru) Last week, Japan's Producer Price Index (PPI) for August of this year was announced by the Bank of Japan. Please summarize the results and media and market evaluations.

 

(Bard) On September 13, 2023, the Producer Price Index for August 2023 announced by the Bank of Japan increased by 0.3% from the previous month (3.2% from the previous year). On a month-on-month basis, it has been positive for two consecutive months since July 2023, but compared to the previous year, growth has slowed down for eight consecutive months.

 

Looking at the breakdown, petroleum and coal products rose by 7.5% from the previous month (7.5% from the previous year) and metal products rose by 3.8% from the previous month (1.8% from the previous year) due to increases in raw material and energy prices. did.

 

On the other hand, prices for electricity, city gas, and water fell sharply, dropping 3.9% from the previous month (up 1.0% from the previous year).

 

The following evaluations were received from the media and market.

• Although the month-on-month increase was positive, the year-on-year comparison continues to slow down.

• Rising raw material and energy prices are placing a heavy cost burden on companies.

• Although the domestic economy is on a recovery trend, rising corporate prices will lead to inflationary pressures.

 

Regarding future trends in corporate prices, trends in raw material and energy prices are expected to continue to be important.

 

Below are some specific reports.

 

•NHK

 

o Producer prices rose 0.3% from the previous month, pushed up by rising raw material prices

o YoY growth slowed for 8 consecutive months

 

• Nihon Keizai Shimbun

 

o Corporate prices rose 0.3% from the previous month, pushed up by raw material prices

o Year-on-year growth slowed for eight consecutive months due to falling electricity prices.

 

These reports suggest that although producer prices have continued to rise, their growth has slowed compared to the previous year due to factors such as the heavy cost burden associated with rising raw material prices and falling electricity rates.

 

 

(Nakamaru) Thank you. However, Japan's August PPI increased by 3.2% year-on-year, significantly exceeding the 1.6% year-on-year increase in August PPI in the United States.

 

It seems better to assume that the reversal in the inflation rate difference between Japan and the US continues in August (Japan's CPI for August is scheduled to be released on the 23rd this weekend).

 

Furthermore, in August, crude oil prices (WTI) soared 7% in dollar terms, and the Japanese yen also depreciated by 2.5% against the US dollar over the month, leading to an increase in inflation in Japan since September. Isn't it wise to downplay the risks?

 

In any case, isn't it dangerous to underestimate or ignore the reversal of the difference in inflation rates between Japan and the United States?

 

(Bard) As you say. Japan's August PPI rose 3.2% year-on-year, significantly higher than the 1.6% year-on-year rise in the US August PPI. Additionally, factors that increase inflationary pressures in Japan remain, such as the weak yen and rising oil prices.

 

Therefore, it would be unwise to downplay the risk of rising inflation in Japan. Furthermore, neglecting or ignoring the reversal of the difference in inflation rates between Japan and the United States could pose a major risk to the Japanese economy.

 

Specifically, the following risks may be considered.

• Rise in consumer prices due to rise in import prices

• Deterioration in profits due to increased cost burden on companies

 

In order to avoid these risks, it is important for the Bank of Japan to respond to monetary policy and for the government to implement economic measures. It will be necessary to continue to closely monitor Japan's inflation trends.

Clouded US August CPI

 

(Nakamaru) Please summarize last week's US August CPI results.

 

Note, however former Treasury Secretary Summers is skeptical about the outlook for inflation, and says that there might be still two more rate hikes left by the Federal Reserve, and he remains skeptical about a soft landing for the US economy...?

 

Isn't the market's complacency, as seen in the VIX index (fear index), which has fallen significantly to around 13-14%, the lowest level since the beginning of the year, going too far?

 

(Bing) Let's summarize the results of the US August CPI and the reactions of the media and financial markets.

 

• The US August CPI increased by 3.7% compared to the same month last year, showing faster than expected growth. Month-on-month, it rose 0.6%, accelerating from 0.2% in July. The main factors were increases in airfares and automobile-related prices1.

 

• Core CPI (excluding food and energy) rose 4.3% year-on-year, slowing as expected but at its lowest level since September 2021. It rose 0.3% from the previous month, exceeding expectations.

 

Former Treasury Secretary Summers is skeptical about the outlook for inflation, and says there are still two more rate hikes left by the Fed, so he seems skeptical about a soft landing for the U.S. economy...?

 

• Summers said in an interview that U.S. inflation will be "very close" to 5% at the end of the year, requiring the Fed to raise the federal funds rate by 50 basis points or more above current levels.

 

• Summers also expressed concern that the U.S. budget deficit is projected to reach 7.3% of GDP in fiscal year 2033, arguing that government spending cuts are unrealistic and will require tax increases. did.

 

• Mr. Summers' views are at odds with those of the Fed and the Biden administration, and there are also objections and criticisms from the market. The Federal Reserve expects inflation to be temporary and to slow next year, and is cautious about the timing and pace of interest rate hikes. The Biden administration is promoting increased fiscal spending and is considering measures such as tax reform and social security system reform.

 

Isn't the market's arrogance, as seen in the VIX index (fear index), which has fallen to around 13-14%, going too far?

 

• The VIX index is an index that shows expected fluctuations in the stock market, and the higher it is, the more anxious investors are. The fact that the VIX index has fallen to around 13-14% can be said to indicate that the market is in a stable state.

 

• However, there is also a danger that market stability may lead to complacency. The VIX index has risen sharply many times in the past, each time causing major turmoil in the stock market. For example, during the 2008 financial crisis and the 2020 coronavirus outbreak, the VIX index reached levels above 80%.

 

• There are currently risk factors in the market, such as inflation, rising interest rates, another spike in oil prices, and a strike by the United Auto Workers union. If these factors worsen, the VIX index could rise again and affect the stock market. Therefore, I think we cannot ignore the question of whether the market's complacency has gone too far.

It is unusual for Sankei and Nikkei editorials to openly disagree with the continuation of Kishidanomics.

 

The Nikkei editorial published this Monday, the 18th, in response to the Sankei editorial that had already been published the day before, ``Economic measures in October - don't fall into the 'scale-based'' approach'', saying, ``Let's stop having a package-based policy.''  It appears that a counter-attack against the continuation of Kishidanomics has begun with the two papers.

 

For instance, the Nikkei editorial stated, ``We should strictly refrain from taking economic measures in bulk, which build up scale based on old ideas.  In fact, they may only encourage higher prices and even have the opposite effect.''  In fiscal 2020, the government set up a huge supplementary budget of 73 trillion yen, and in fiscal 2021 it amounted to 36 trillion yen.  In fiscal 2022, when the virus had subsided, there was pressure on the ruling party to put scale first, and the second supplementary budget was put in place in fiscal 2022.  29 trillion yen was added. If the prime minister's “drastic'' idea is the same, then it is a mistake.”, emphasized the editorial.

 

“Furthermore, the Cabinet Office estimates that the ``output gap'' in the April-June period turned positive, eliminating nearly four years of demand shortage. This is not the time to stimulate the economy with large amounts of fiscal spending. If countermeasures are to be taken, they should be robust and will transform the constitution of the Japanese economy. ", it continued.

 

The editorial went on to say, ``First of all, we need to make it sufficiently targeted and highly effective.'' He added, “The focus is on measures to counter high prices.'' Subsidies to oil wholesalers and electricity and city gas companies will lower gasoline and electricity prices. The deadline for the measures to reduce carbon emissions will expire at the end of the year, and there are plans to continue them beyond 2024. However, it is clear that this will distort market pricing and go against decarbonization. Instead of distributing fiscal funds blindly, we need to find ways to focus on supporting low-income households, small and medium-sized enterprises, and micro-enterprises."

 

In addition, ``The government has clearly stated in its basic economic and fiscal management and reform policies (substantial policies) that it will　“return'' the structure of expenditures to normal times. With increases in defense spending and spending to counter the declining birthrate on the horizon, it is necessary to pay close attention to fiscal discipline. The huge amount of reserve funds that have become noticeable in recent years is out of the question. The Prime Minister said, ”A Cabinet that empowers change.'' If they resort to short-term painkillers aimed at boosting their approval ratings, the billboards will fall. We hope for wise economic management that will strengthen Japan over the medium to long term. ”  concluded the editorial.

 

Kishida and Ueda play cat and mouse

 

(Nakamaru)        Both the Sankei and Nikkei editorials can be highly praised for their persuasive arguments.

 

However, if things continue as they are, Japan will fall into a cat-and-mouse game of continuing a different level of monetary easing and repeating a different level of fiscal expansion using price countermeasures as the rationale. There is no doubt that the economy will continue to overheat for the time being, leading to higher inflation and further amplification of asset bubbles.

 

As inflation has continued to exceed 2% for the past 16 months, on the one hand, the Bank of Japan has continued to implement monetary easing on a different level, including negative policy interest rates, and on the other hand, the Kishida Second Reshuffled Cabinet has announced a policy of ``to keep up with rising prices''. It appears that Japan intends to continue fiscal expansion by "strengthening structural wage increases and investment flows."

 

However, the Japanese economy has turned into an inflation gap where aggregate demand exceeds aggregate supply. Macroeconomics teaches that in the case of an inflation gap, measures to suppress aggregate demand should be adopted through monetary policy, fiscal policy, or both.

 

On the contrary to economic theory, if Japan continues to implement measures to stimulate aggregate demand with extensive monetary and fiscal measures, it will be inevitable that Japan will suffer another major defeat in the fight against inflation. Unfortunately, I cannot help but think that Japan has not yet learned the true nature of failure in the WWII.

 

  (Bard) Yes, you are correct. Japan's inflation rate has continued to exceed 2% for the past 16 months. However, the Japanese government and the Bank of Japan have shown a willingness to continue monetary easing and fiscal expansion.

 

This attitude is contrary to macroeconomic theory. When an inflation gap exists, it is necessary to suppress aggregate demand through monetary policy, fiscal policy, or both. However, the Japanese government and the Bank of Japan are likely to exacerbate inflation further by continuing with policies that stimulate aggregate demand.

 

There is a very high possibility that Japan will fail in its anti-inflation measures and lose the fight against inflation. This can be said to be a sign that Japan has not learned the ``essence of failure.''

 

For Japan to succeed in combating inflation, the following points are important.

 

• Mobilize monetary and fiscal policies to suppress aggregate demand

• Make the people understand the need for inflation countermeasures and gain their cooperation.

 

Future developments will be closely watched to see whether the Japanese government and the Bank of Japan will be able to overcome these challenges and succeed in combating inflation.

 

Below are some possibilities if Japan fails to combat inflation.

• Acceleration of price increases

• Slower economic growth

• Deterioration of people's lives

• Increased social unrest

 

These problems could arise if Japan fails to combat inflation. It is important for the Japanese government and the Bank of Japan to recognize the risk of failing to combat inflation and take appropriate measures.

 

(Nakamaru) Unfortunately, Bard is right.  Let us discuss the “essence of failure'' again in next week's monthly newsletter. Please look forward to it.

 

Tomo Nakamaru

Former World Bank Economist

Japan's inflation tragedy and lessons from the Hoyu bankruptcy

 

This week's weekly: Japan's inflation tragedy and lessons from the Hoyu bankruptcy

 

 

September 11, 2023

 

 

Rising inflation hits school lunches directly!

 

 

(Nakamaru) What do you think about Hoyu's bankruptcy proceedings problems (difficulty in providing school lunches due to rising prices)?

 

 

(Bard) Hoyu's problem is an example of how the increase in food costs due to soaring prices is having a major impact on the cafeteria management business.

 

Hoyu is a cafeteria management company that provided meals to approximately 150 facilities across the country. However, due to soaring prices in recent years, the cost of ingredients has increased significantly, making management difficult.

 

As a result, since mid-July, school dormitories and government office cafeterias across the country have stopped providing meals.

 

Hoyu has announced that it is preparing for bankruptcy proceedings, and it is thought that it is likely to withdraw from the cafeteria management business in the future.

 

This problem can be said to show that food inflation due to soaring prices is affecting various sectors of society. In particular, school lunches are an important meal that is essential for children's growth. The Hoyu case shows that the impact of soaring prices is spreading to the management of school lunches, and can be called a worrying situation.

 

In the future, it will be important to ensure stable school lunch operations through measures such as strengthening support measures by the government and local governments. Specifically, possible measures include efforts to stabilize food prices and expansion of subsidies for school lunch expenses.

 

Additionally, cafeteria operators will be required to make management efforts to absorb the rise in food costs. It is important to keep costs down by selecting ingredients and cooking methods so that children can eat delicious, nutritionally balanced meals.

 

 

(Nakamaru) Won't this problem also spread to the Bank of Japan's inflation measures?

 

(Bard) Yes, the Hoyu issue may have a ripple effect on the Bank of Japan's inflation measures.

 

Hoyu's problem is that the increase in food costs due to soaring prices has put pressure on the company's management, leading to the company going bankrupt. This situation can be said to demonstrate the limits of the monetary easing policy that the Bank of Japan has been promoting.

 

The purpose of monetary easing policy is to keep long-term interest rates low, making it easier for companies to raise funds and promoting investment and employment. However, it has become clear that it is difficult to suppress the recent rise in prices through monetary easing policies alone.

 

Hoyu's problems demonstrate the risk that the management pressure on companies caused by soaring prices will spill over into the financial markets. If a series of corporate bankruptcies or deteriorating business conditions occur, confidence in the financial market will increase, potentially leading to economic stagnation.

 

The Bank of Japan is considering reducing its monetary easing policy and raising interest rates, but these policies run the risk of making it difficult for companies to raise funds and slowing economic growth.

 

The Bank of Japan is required to carry out prudent policy management in order to strike a balance between soaring prices and economic growth.

 

Specifically, the following measures can be considered.

• Efforts to reduce the impact on the economy by gradually reducing monetary easing policy and raising interest rates.

• Strengthen financial support for small and medium-sized enterprises and households to support business management and daily life.

• Promote structural reforms to promote economic growth and enhance economic potential.

By taking these measures, it is important to suppress soaring prices and achieve stable economic growth.

 

 

A permanent reduction in the consumption tax rate to 5% would kill two birds with one stone for price stability and growth.

 

(Nakamaru) A policy mix of fiscal and monetary policy that aims to kill two birds with one stone by reducing inflation and sustaining economic growth by permanently lowering the consumption tax rate to 5% in addition to normalizing monetary policy, including raising interest rates at the Bank of Japan. Isn't this a good opportunity to take advantage of?

 

(Bard) Your proposal is considered to be an effective means of achieving both inflation control and sustainable economic growth.

 

The Bank of Japan's interest rate hikes have the effect of suppressing price increases, but at the same time there is the risk of making it difficult for companies to raise funds and slowing economic growth.

 

Reducing the consumption tax rate has the effect of increasing household purchasing power and promoting consumption. Furthermore, by allocating financial resources to compensate for the decrease in consumption tax revenue to public works projects and the enhancement of social security, we can expect the effect of increasing economic potential.

 

However, there is a risk that reducing the consumption tax rate will lead to an expansion of the fiscal deficit. Therefore, it is important to proceed with structural reforms in parallel to improve fiscal health.

 

Specifically, the following measures can be considered.

• Promote reform of social security systems such as pensions and medical care to ensure sustainability.

• Strive to improve administrative efficiency and reduce administrative costs.

• Promote economic policies to encourage corporate growth and increase tax revenue.

 

It is important to take these measures to achieve sustainable economic growth while improving fiscal health.

 

Based on the above, your proposal is considered to be an effective means of achieving both inflation control and sustainable economic growth, and is worthy of consideration.

 

 

Inflation winners vs losers

 

(Nakamaru) There is no doubt that reform is necessary. In that case, it is the government that will be burdened with budget deficits and rising interest rates. It is ordinary consumers who suffer from rising inflation. Rather than burdening the general public with inflation taxes and consumption tax hikes, even if the government is in trouble, it would be possible to make progress toward solving the problem by cutting wasteful spending.

 

(Bard) Yes, I think that's right.

 

Inflation taxes and consumption tax increases impose a direct burden on ordinary consumers.

 

On the other hand, fiscal deficits and interest rate increases burden the government.

 

Therefore, in order to suppress inflation and achieve sustainable economic growth, it is important to advance structural reforms to improve fiscal health and cut wasteful expenditures.

 

Specifically, the following measures can be considered.

• Promote reform of social security systems such as pensions and medical care to ensure sustainability.

• Strive to improve administrative efficiency and reduce administrative costs.

• Promote economic policies to encourage corporate growth and increase tax revenue.

 

It is important to take these measures to achieve sustainable economic growth while improving fiscal health.

 

Of course, fiscal health cannot be achieved simply by cutting wasteful expenditures. Furthermore, in order to balance inflation control and economic growth, it is necessary to normalize monetary policy, including raising interest rates at the Bank of Japan.

 

However, cutting wasteful spending can be said to be an effective measure for both fiscal health and inflation control. The government should take this opportunity to advance fundamental reforms toward fiscal health and sustainable economic growth.

 

 

Bankruptcies caused by inflation are not limited to school lunch businesses.

 

(Nakamaru) Let's return to the Hoyu issue. I don't think Hoyu is the only company going bankrupt due to rising food prices. Is there any objective data showing that the number of corporate bankruptcies and the amount of bankruptcies will increase in 2022 and 2023 due to the weaker yen, inflation, and especially the soaring price of food?

 

(Bard) Yes, there is. According to a survey by Teikoku Databank, there were 300 bankruptcies due to "high prices" in the first half of 2023 (January-June) (233.3% increase compared to the same period last year), a sharp increase of 3.3 times compared to the same period last year (90 cases).

 

Additionally, according to a survey by Tokyo Shoko Research, there were 400 bankruptcies due to "high prices" in the first half of 2023 (200% increase compared to the same period last year), a sharp increase twice the number of bankruptcies in the same period last year (190).

These survey results show that the number of corporate bankruptcies and the amount of bankruptcy debt will increase in 2022 and 2023 due to the weaker yen, inflation, and especially the soaring price of food.

 

Furthermore, by industry, bankruptcies due to ``high prices'' are noticeable in the construction and manufacturing industries. In the construction industry, soaring prices for raw materials such as wood and steel are putting pressure on management. In addition to rising food prices, the manufacturing industry is also affected by rising labor costs.

 

As long as the weak yen and inflation continue, the number of corporate bankruptcies and the amount of bankruptcy debt are likely to increase.

 

 

Political economy of inflation

 

(Nakamaru) Amid this acceleration of inflation, isn't the Bank of Japan still continuing to implement unconventional monetary easing, such as negative policy interest rates, a big problem?

 

(Bard) Yes, I think that's right.

 

Amid accelerating inflation, the Bank of Japan's continued monetary easing measures such as negative policy interest rates will not only go against the goal of suppressing inflation, but will also put pressure on corporate management and risk economic stagnation.

 

Negative policy interest rates are intended to make it easier for businesses to raise funds and encourage investment and employment. However, if inflation is accelerating, negative policy interest rates may lead to a decline in corporate asset prices and a deterioration in financial institutions' profits, putting pressure on corporate management.

 

Additionally, large-scale purchases of government bonds due to unconventional monetary easing run the risk of accelerating the depreciation of the yen. A weaker yen could lead to higher import prices, further accelerating inflation.

 

It is important for the Bank of Japan to proceed with the normalization of monetary policy in order to achieve both inflation control and economic growth. Specifically, the following measures can be considered.

 

• Raising policy interest rates

• Reducing the amount of long-term government bonds purchased

 

By taking these measures, it is important to achieve stable economic growth while suppressing inflation.

 

Of course, normalizing monetary policy also risks making it difficult for companies to raise funds and slowing economic growth. However, in a situation where inflation is accelerating, normalizing monetary policy can be said to be a necessary choice in order to balance inflation control and economic growth.

 

 

(Nakamaru) Why is it that the number of corporate bankruptcies is increasing dramatically due to high prices, but these complaints are not reaching the government or the Bank of Japan?

 

(Bard) The increase in the number of corporate bankruptcies due to high prices is thought to have reached the government and the Bank of Japan. However, there are several possible reasons why the government and the Bank of Japan have not been able to adequately respond to these cries.

 

First, the government and the Bank of Japan are likely to attribute the rise in prices to external factors such as the war in Ukraine and soaring oil prices. Therefore, it is difficult to suppress these external factors, so it is thought that the government and the Bank of Japan are taking measures mainly to support corporate management.

 

However, corporate management support measures alone cannot completely relieve the management pressure caused by high prices. Therefore, the government and the Bank of Japan need to consider normalizing monetary policy.

 

Furthermore, the government and the Bank of Japan are likely to find it difficult to balance inflation control and economic growth. Therefore, the government and the Bank of Japan are likely to be forced to make difficult decisions about whether to prioritize inflation control or economic growth.

 

Going forward, the government and the Bank of Japan will be required to normalize monetary policy and strengthen measures to support corporate management in order to curb the increase in the number of corporate bankruptcies due to rising prices.

 

(Nakamaru) The joyful cries of the department stores and tourism industry, which are benefiting from the huge purchase of automobiles and inbound foreigners who are prospering due to the sharp depreciation of the yen, are accompanied by the cries from the food and construction industries, which are suffering from the depreciation of the yen and high prices.

In the end, domestic interests and political conditions are probably allowing the yen to weaken and inflation to rise.

 

If this is the case, there will be no one to change the economic policies of the government or the Bank of Japan, and there are concerns that in the worst case scenario, the Japanese yen may collapse or hyperinflation will occur.

 

Japan experienced two hyperinflations: the hyperinflation at the end of the Edo period and the post-war Fukkin Great Inflation. Even if history doesn't repeat itself, doesn't it sometimes rhyme?

 

(Bard) Yes, I think that's right.  The happy cries of automobiles, which are prospering due to the weak yen, and the department stores and tourism industry, which are benefiting from inbound foreign purchases, are louder than the cries of the food and construction industries, which are suffering from the weak yen and high prices, there is a good chance that it is predominant.

 

Furthermore, we cannot deny the possibility that domestic interests and political conditions are allowing the yen to weaken and inflation to rise.

 

Indeed, in the worst case scenario, there is no guarantee that the Japanese yen will collapse or hyperinflation will occur.

 

Japan experienced two hyperinflations: the hyperinflation at the end of the Edo period and the post-war Fukkin Great Inflation. There are plenty of possibilities for the third time honesty nightmare to unfold.

 

However, if the government and the Bank of Japan focus on the negative effects of the weak yen and inflation, normalize monetary policy, and strengthen measures to support corporate management, it is possible to avoid such a nightmare.

 

The government and the Bank of Japan are required to listen to the voices of the people and take appropriate economic policies to protect people's lives and economic stability.

 

 

No time to waste for the BOJ to raise policy interest rates

 

(Nakamaru) According to the Yomiuri Shimbun newspaper dated last Friday, Bank of Japan Governor Kazuo Ueda said in an exclusive interview, ``Once we are confident that there will be a sustained price increase accompanied by wage increases, there are various options,'' including lifting the ``negative interest rate policy'' that is the mainstay of monetary easing measures, he said. He also suggested that there could be enough evidence to make a decision by the end of the year. "

 

It is recommended that rather than in an ad-hoc press interview the BOJ governor make a statement in a fair, transparent and consistent manner after the Bank of Japan's every monetary policy meeting, which is held approximately every month and a half.

 

In any case, as I stated in the August Monthly, it is no time to waste for the Bank of Japan to raise policy interest rates.

 

The BOJ governor, Ueda cannot help but be seen as arbitrarily continuing monetary easing endlessly, without basing it on objective standards or rules. We can no longer ignore the significant distortions and negative effects that high prices and currency depreciation have on the Japanese economy in terms of growth, stability, and fairness.

 

Besides, the Bank of Japan has never mentioned the necessity of a policy mix between monetary and fiscal policy.

 

Furthermore, even though he has already been in the office about 6 months, there is still no sign to complete the fundamental review of the Bank of Japan's monetary policy, let alone an interim report.

 

If the BOJ continues to mistake persistently high inflation as temporary, it will be forced to raise the policy interest rate by too sudden and by too much.

 

The ratio of government and Bank of Japan debt to GDP has reached an unprecedented level both over time and in international comparison.

 

It must be said that the future of the Bank of Japan, which lacks credibility, and without its policy mix with a sensible fiscal policy, is extremely difficult.  As a result, there remains a strong fear that it will cause a tremor to the Japanese economy and financial markets.

 

The next monetary policy meeting is scheduled for September 22nd. Japan's high inflation of over 2% has continued for the past 15 months.

 

 

A fear for the yen to continue to dive to 170 yen to the dollar.

 

(Nakamaru) Tsuyoshi Niinami, president of Suntory Holdings, said in Tokyo on the 7th that if there are no measures taken by the government or the Bank of Japan, the yen will continue to depreciate, possibly exceeding the 150 yen level to the dollar and deteriorating to around 170 yen. This was revealed in an interview.

 

Mr. Niinami, who is also the representative secretary of the Japan Association of Corporate Executives, pointed out that the Japanese economy is no longer suffering from deflation, and that the Bank of Japan needs to come up with countermeasures in the near future as inflation is currently at a turning point.

 

However, given the divergence between Japan and the US policy interest rates of more than 5%, Suntory's legitimate concerns may be too optimistic.

 

 

Tomo Nakamaru

Former World Bank Economist