It's remarkable how often investors and policy makers focus on the wrong things and are misled. When it comes to monetary policy, obsessive attention is paid to interest rates. By doing so, observers are often wrong-footed. Indeed, monetary policy is all about changes in the money supply, not interest rates.
At present, this "barking up the wrong tree" phenomenon is occurring in Japan where, among other things, the yen just hit a 40-year low.
The widely held view on the Japanese economy over the past few years is that ultra-easy monetary policies, featuring near zero interest rates, have failed to boost spending and resulted in a plethora of economic problems for banks, savers and the government.
Governor Kazuo Ueda, who was appointed to lead the Bank of Japan (BOJ) in April 2023, ended "yield curve control" (YCC) in March 2024, and has been steadily raising its policy rate ever since. He has adopted the theory that wage increases plus higher energy and import prices will ensure sustained inflation and allow Japan to finally hit its inflation target of 2%. Under this theory, the Bank of Japan's five interest rate hikes since then, from -0.1% to 1%, the highest since 1995, have been warranted.
The problem with this widespread set of beliefs is that they are almost entirely wrong. They all stem from the erroneous idea that low interest rates indicate easy money. On the contrary, in Japan's case, low interest rates have reflected low money growth, weak economic activity and near deflation over many years. Far from indicating easy money, low rates have been a symptom of tight money — as they have been for many years in, for instance, Switzerland.
A monetarist analysis explains far better what has happened to Japan. From 2000 until the onset of the Covid-19 pandemic in 2020, Japanese broad money (M2) growth averaged a measly 2.6% per year. This generated only 0.3% average nominal GDP, which was split into 0.8% per year real GDP growth and a GDP deflator of -0.5% per year. In addition, there was an annual increase of money holdings of 2.3% per year. And this was despite large-scale "QQE", Governor Kuroda's much vaunted version of QE.
During Covid, the BOJ continued with QE, but the real boost to money growth and spending came from the BOJ's "Fund Provisioning" strategy whereby interest-free (0%) loans were made to banks on condition they on-lent the money to firms. This boosted broad money growth to 9.6% at the peak, finally ending the long spell of deflation.
Exactly as any monetarist would expect, the stock market surged, real GDP recovered, and inflation soared to 4%. In short, monetary policy worked — and in an entirely predictable manner.
Source: Yahoo Finance Top News — This article was automatically imported from the source. Read full article at original source →
