TOKYO -- The Bank of Japan's balance sheet keeps swelling, with the central bank doggedly continuing to purchase large amounts of Japanese government bonds and other financial assets in a bid to meet its 2% inflation target. The buying spree contrasts sharply with moves by the BOJ's U.S. and European counterparts, which are looking to exit their easy-money policies.
As of the end of June, the BOJ's balance sheet stood at 502 trillion yen ($4.58 trillion), almost matching the country's gross domestic product. It was the first time the figure exceeded the U.S. Federal Reserve's -- at $4.46 trillion -- since the Fed embarked on its quantitative easing push in 2008, and was close to the European Central Bank's 4.20 trillion euros ($4.96 trillion).
The Fed may decide to reduce its balance sheet as early as September, while ECB President Mario Draghi has said the bank will discuss reducing its asset purchases in the fall. If the BOJ keeps buying JGBs at a pace of around 80 trillion yen a year, it could overtake the ECB as the world's largest central bank.
The Japanese, U.S. and European central banks buy government bonds to prevent prices from falling. Large purchase of government bonds hold down interest rates, which can promote economic recovery and price increases. But now that prices are starting to climb in the U.S. and Europe, the Fed and the ECB are considering normalizing their monetary policies.
In Japan, however, the inflation rate has been hovering at around 0%, which is why the BOJ has continued its monetary easing. The BOJ has already pushed back its target for achieving its 2% inflation target to around fiscal 2019, and plans to continue its asset-buying program until then.
Its large purchases of JGBs could have harmful side effects, however. Banks, life insurers and other institutional investors have backed away from the government bond market, for example. The BOJ may find it difficult to find buyers in the future, and gyrating interest rates could deal a blow to the economy.
Rate hikes, meanwhile, would likely destabilize the central bank's financial standing. When the BOJ buys JGBs from banks, banks deposit the money they receive in their current accounts at the central bank. If rates were hiked, the BOJ's interest payment costs would go up because it would have to raise interest rates on these deposits, too. That could create an excessive debt load for the central bank, eating into its 7 trillion yen pool of capital, which still represents only a little over 1% of its balance sheet.
Totan Research President Izuru Kato said having interest rates at virtually 0% make it easier for the government to increase debt, and that the BOJ should fully explain that continuing its asset-buying program will pass the bill on to future generations.
Still, lower rates encourage capital spending and home purchases, and the weaker yen could help improve exporters' profitability. The BOJ is trying to strike a balance between these economy-stimulating effects and negative fallout from a bloated balance sheet.