The great Japanese monetary experiment takes shape, says ING IM’s van Niewenhuijzen
Valentijn van Nieuwenhuijzen, head of Strategy at ING Investment Management,says that while Japan’s monetary policy is turning ‘experimental’, if successful it could help the global economy.
A new real-life experiment is now unfolding in Japan, where policy makers have decided to shift gears and move to a significantly more expansionary policy mix than the past 15 years during which the country has been stuck in a deflationary environment. The new prime minister Abe has completely stepped away from the internationally popular austerity agenda by combining a new fiscal stimulus package with arm-twisting of the central bank to also push harder in reflating the Japanese economy. This resulted in an announcement by the Bank of Japan (BoJ) that it will increase its inflation target from 1% to 2% and will move to an open-ended QE program until the new inflation objective is deemed to be within reach. On top of that there was a joint statement from the government and the BoJ that emphasised their mutual cooperation in overcoming deflation and stated that regular reviews on the ‘progress in the conduct of macroeconomic policies, including monetary policy’ will take place.
Despite the fact that this amounts to some loss of independence for the central bank, and the worries that that will create in a number of policy and academic circles, the most interesting element in all this is if it will work. In a world where both the operating model of the economy and the optimal way the mechanics can fix the economic engine have become much more uncertain, a new policy experiment can provide very useful empirical evidence on the success or failure of a certain philosophy or approach. If the Japanese economy surprises to the upside in 2013 and an end to deflation comes in sight in the year thereafter than further evidence of the existence of a ‘depressed-expectations’ equilibrium emerges. This would suggest the need for more activist demand push policies to jump out of that state and probably trigger rising commitment of policy makers in Japan and possibly other parts of the world to pursue a reflationist agenda rather than an austerity one.
In our opinion that would be very supportive for global growth in the 2013-14 period and translate into surprising strength in corporate earnings and risky asset returns. For now it remains a positive risk to our more moderate base case scenario, but certainly one with a rising probability of occurring. It does not blind us for the possibility of failure of the current policy approach in Japan and the consequences for growth, reflation and financial market sentiment that would follow from that. It would certainly leave the world more confused than otherwise, because it would mean the policy elixir to eliminate deflation would still not have been found and further innovations in economic thinking will be needed to get not only Japan, but also the global economy on a path towards sustainable growth.