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At the University of Zurich on Nov. 13, BOJ Gov. Haruhiko Kuroda said he would watch the impact of low interest rates on financial institutions.
BOJ Watch

BOJ's Kuroda cites side effects of aggressive monetary easing

Four years after major policy shift, central bank chief mulls pros and cons

TATSUYA GOTO and KOSUKE TAKAMI, Nikkei staff writers | Japan

TOKYO -- More than four years after the Bank of Japan introduced its aggressive policy of quantitative and qualitative monetary easing, Gov. Haruhiko Kuroda has started discussing the side effects, such as pressure on the profit margins of financial institutions.

Kuroda once said monetary policy is not implemented for the benefit of financial institutions. But this tough stance seems to have softened. Japanese megabanks have welcomed Kuroda's shift, saying he has started to consider the financial health of the banking sector. Market attention is focusing on Kuroda's true intentions.

"Because the impact of the low interest-rate environment on financial institutions' soundness is cumulative, the BOJ will continue to pay attention to this risk as well," Kuroda said in a speech at the University of Zurich on Nov. 13. 

Kuroda cited the impact on long-term interest rates as a side effect of monetary easing. He noted that an "excessive decline" in long-term and super long-term interest rates "may give rise to concerns about the rates of return on insurance and pension products." This could have a negative impact on the economy "through a deterioration in people's sentiment," he said.

He also mentioned the "reversal rate" -- the possibility that if the central bank lowers interest rates too far, capital constraints in the banking sector tighten as a result of the decline in net interest margins. This impairs financial institutions from carrying out their intermediation function, causing the effects of monetary easing to reverse.

The summary of Kuroda's Nov. 13 speech devoted nearly one page to the side effects of monetary easing, a rare development.

At a regular news conference on Nov. 16, Nobuyuki Hirano, chairman of the Japanese Bankers Association and president and group CEO of Mitsubishi UFJ Financial Group, took out what he said was an abstract of Kuroda's Zurich speech. Hirano, who once voiced opposition to the BOJ's negative interest-rate policy, responded keenly to Kuroda's shift.

Kuroda is not the only voice to express concerns about the side effects of monetary easing.

The BOJ also mentioned such side effects in a "comprehensive assessment" of its policy released last September. But the governor's speech is an important way for the central bank to have a dialogue with investors. And the comments are a sign of a growing awareness within the BOJ of the side effects of monetary easing.

Some policy board members have also expressed concerns about the side effects of monetary easing, as shown by the summary of opinions at the Oct. 30-31 meeting released Nov. 9.

"If the bank takes an extreme measure only for the purpose of hastening to achieve the price stability target, side effects such as an accumulation of financial imbalances and an impaired functioning of financial intermediation could arise," one member argued.

Another member cautioned that the policy effects and possible side effects of purchases of risky assets, including exchange-traded funds, "should be examined from every angle."

Will Kuroda taper the BOJ's easy monetary policy for the benefit of banks? Some market watchers predict the BOJ may raise its long-term interest-rate targets, something that would be a plus for the banking sector.

Official data released Nov. 15 showed that Japan's real gross domestic product for the July-September quarter grew for the seventh straight quarter.

With the job market tightening, the BOJ could raise its long-term interest-rate target if inflation exceeds 1%, said Hideo Hayakawa, senior executive fellow at Fujitsu Research Institute.

But with Japan's inflation rate near zero and still far from the central bank's 2% target, the BOJ is not mulling adjusting monetary policy anytime soon. It could, however, consider doing so if inflation gains traction.

Ryutaro Kono, chief economist at BNP Paribas Securities (Japan), said Kuroda is trying to mitigate the side effects, to the extent possible, on the assumption it will take time to achieve the central bank's 2% inflation target. Kono reckons Kuroda has started taking into consideration banks' earnings, assuming easy monetary policy will continue for some time.

In his Zurich speech, Kuroda also said monetary policy "requires using the full range of functions of a central bank, which can broadly monitor ... the situation in financial institutions and financial markets."

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