Japan’s central bank chooses continuity over tradition

GOVERNORS of the Bank of Japan (BoJ) tend not to linger long in their post. Twenty-two people have headed the institution since 1914, compared with 16 at the Federal Reserve and 12 at the Bank of England. The last time a BoJ governor won a second term was 1961, when Japan’s economy was growing by over 11% and inflation was over 5%. As Richard Werner, the author of “Princes of the Yen”, a history of the central bank’s failures, points out, by tradition the job alternates every five years between a candidate backed by the finance ministry and a “true-born” BoJ insider.

This tradition will be broken by the reappointment of Haruhiko Kuroda, who was nominated for a second term on February 16th. If he completes it, he will become the longest-serving governor in the BoJ’s history.

With luck that might be long enough for him to reach the central bank’s elusive inflation target of 2%, a goal set five years ago which he had hoped to meet by 2015. Although the BoJ has bought assets lustily with freshly created money, core inflation, excluding fresh food and energy, was only 0.3% in the year to December. Mr Kuroda hopes that low unemployment will eventually force firms to raise wages and prices, which will in turn raise expectations of inflation in the future, reinforcing its momentum. The yen should also help. Although it has strengthened by about 4% this year on a trade-weighted basis, it remains much cheaper than it was in the summer of 2016.

The window for success may close rather earlier than 2023, however. The government plans to raise Japan’s consumption tax from 8% to 10% in October next year. Mr Kuroda supported the last such increase in April 2014, arguing that Japan’s public finances needed help and Japan’s recovery could withstand the blow. That proved to be a mistake. The central bank’s monetary easing failed to prevent a sharp drop in demand, partly because Japan’s private sector proved surprisingly willing to hold, rather than spend, the extra money Mr Kuroda created. But that willingness to hold safe assets (whether money or sovereign bonds) means Japan’s enormous public debt remains surprisingly easy to sustain. The government may try to offset the next tax increase by raising social spending at the same time. But the increase still poses a threat to Japan’s economic momentum.

Mr Kuroda also worries that his policy of negative interest rates, announced in January 2016, may eventually turn counterproductive. The cut in rates raised the value of long-term assets held by Japan’s banks, improving their balance-sheets. But this one-time benefit must be set against an ongoing cost: negative rates hurt the margin that banks earn between the interest rates they charge their borrowers and the lower rates they pay for their funding. Since banks have not been able to pass on negative rates in full to their depositors, their funding costs have fallen less than their loan rates. This narrower margin could erode their financial standing and eventually inhibit their lending.

There is, however, “no evidence that such a thing is happening in Japan”, Masazumi Wakatabe, an economist at Waseda University in Tokyo, told Bloomberg, a news agency, in December. The improvement in the economy has increased the creditworthiness of borrowers, obliging banks to write off fewer bad loans. And bank lending grew apace after negative rates were introduced in January 2016 (see chart), even as firms have taken advantage of low borrowing costs to issue more of their own bonds and commercial paper.

Mr Wakatabe’s view that the BoJ should not “exit” too soon from easing seems to be shared in high places. He was also nominated on February 16th to serve alongside Mr Kuroda as one of his new deputy governors. The other deputy will be Masayoshi Amamiya, a central-bank insider known as “Mr BoJ”, who has worked to implement Mr Kuroda’s policies. Many think Mr Amamiya could eventually succeed Mr Kuroda as governor. He might even be the bank’s first boss since 1989 to inherit inflation above 2%. That would be a welcome break with recent tradition.