Minutes of the Monetary Policy Meeting

on June 25, 1998
(English translation prepared by the Bank staff based on the Japanese original)

July 31, 1998
Bank of Japan

A Monetary Policy Meeting of the Bank of Japan Policy Board was held in the Head Office of the Bank of Japan in Tokyo on Thursday, June 25, 1998, from 9:00 a.m. to 11:57 a.m. ¹

Policy Board Members Present
Mr. M. Hayami, Chairman, Governor of the Bank of Japan
Mr. S. Fujiwara, Deputy Governor of the Bank of Japan
Mr. Y. Yamaguchi, Deputy Governor of the Bank of Japan
Mr. Y. Gotoh
Mr. S. Taketomi
Mr. T. Miki
Mr. N. Nakahara
Ms. E. Shinotsuka
Mr. K. Ueda

Government Representatives Present
Mr. S. Shimpo, Director-General of the Research Bureau, Economic Planning Agency

Reporting Staff
Mr. I. Kuroda, Executive Director
Mr. M. Matsushima, Executive Director
Mr. I. Yamashita, Director, Financial Markets Department
Mr. T. Murakami, Director, International Department
Mr. S. Murayama, Director, Research and Statistics Department
Mr. H. Hayakawa, Senior Economist, Economic Research Division, Research and Statistics Department
Mr. K. Yamamoto, Chief Manager, Planning Division 1, Policy Planning Office

Secretariat of the Monetary Policy Meeting
Mr. T. Mitani, Director, Secretariat of the Policy Board
Mr. S. Watanabe, Secretariat of the Policy Board
Mr. K. Momma, Manager, Policy Planning Office

The minutes of this meeting were approved by the Policy Board at the Monetary Policy Meeting held on July 28, 1998. Those present are referred to by their titles at the time of the meeting.

I. Approval of the Minutes of the Monetary Policy Meeting Held on May 19, 1998

The Policy Board approved unanimously the minutes of the Monetary Policy Meeting held on May 19, 1998, for release on June 30.

II. Summary of Staff Reports on Economic and Financial Developments²

A. Money Market Operations in the Intermeeting Period

Market operations in the period since the previous meeting on June 12, 1998 were conducted in accordance with the guideline determined at the meeting, which was to encourage the uncollateralized overnight call rate to remain on average slightly below the official discount rate.

In the intermeeting period, the rate was under upward pressure in general, caused by factors such as concern about the business condition of a bank. The Bank therefore carried out extra operations on the last day of the previous reserve maintenance period, June 15, and continued to supply ample funds thereafter. In the last few days, the rate had trended upward and had seemed likely to rise above 0.5 percent. To stabilize the rate, the Bank had injected excess reserves in its morning operations, and had left the market with a surplus at closing to encourage an increase in central bank reserves. The weighted average of the uncollateralized overnight call rate in the reserve maintenance period from May 16 to June 15 was 0.44 percent.

The Bank's forecast of the reserve market conditions in the immediate future was that the risk continued to be tilted toward a rise in the overnight rate. This projection was based on persistent market anxiety about the condition of banks and anticipated funds shortage in the market due in part to summer bonus payments and tax payments. Accordingly, the Bank would continue to conduct operations to supply ample funds to the market.

In the intermeeting period, interest rates on term instruments gradually increased, although not as significantly as in autumn 1997, reflecting strengthened concern about credit risk.

B. Recent Developments in Foreign Exchange Markets and Overseas Economic and Financial Conditions

1. Developments in foreign exchange markets

After the previous meeting, the yen dropped further against the U.S. dollar, reaching the 146.5-147.0 yen range on June 15, the lowest level since August 1990. The yen subsequently rebounded to around 134 yen reflecting concerted intervention by the Japanese and U.S. authorities and announcement of the government's stance on the overall economic problem, including its policy for expediting the solution of the nonperforming-asset problem. The yen, however, depreciated again to around 141 yen reflecting persistent uncertainty regarding the solution of the nonperforming-asset problem and growing anxiety over the condition of a bank.

During the same period, the yen temporarily rose against the deutsche mark to the 75 yen level immediately after the coordinated Japan-U.S. intervention, but declined thereafter. East Asian currencies also reversed their declines against the U.S. dollar in mid-June, following the Japan-U.S. intervention, and had since then shown narrow fluctuations.

2. Overseas economic and financial developments

In the United States, domestic demand displayed sustained strength, particularly in household spending. Growth in production was decelerating, however, restrained by a slowdown in net exports reflecting economic adjustments in Asia. Meanwhile, prices remained stable. Stock prices were declining due partly to anticipation of lower corporate earnings amid signs of slower economic growth. The yield on 30-year government bonds was at its lowest level since they were first issued in the 1970s, partly due to a "flight to quality."

Turning to Europe, Germany remained on a moderate recovery path, and France continued to show robust economic performance. In the United Kingdom, employment and inflation indicators remained strong in general, even after the Bank of England raised its repo rate on June 4, and the markets therefore anticipated further monetary tightening.

In East Asia, economic adjustments continued. Korea and Thailand were implementing the economic adjustment programs imposed by the International Monetary Fund (IMF) generally on schedule. In Indonesia, the domestic situation remained unstable, as seen in the frequent rioting. Swift progress in adjustments in accordance with the IMF programs was therefore required.

C. Economic and Financial Developments in Japan

1. Economic developments

Economic indicators released after the previous meeting showed a further decline in the level of economic activity, such as (1) a faster decrease in imports; (2) a rapid fall in business fixed investment; and (3) modest downward revisions to previously released indicators on production and employment.

The decline in business fixed investment required particular notice. There was a possibility that this not only reflected (1) reduced household spending due to concern about the stability of the financial system that emerged at the end of 1997; and (2) decreased exports to Asia; but also (3) a rapid deterioration in firms' investment attitude, particularly in small and medium-sized firms. I would therefore be necessary to pay attention to any revisions to business fixed investment plans in the forthcoming June Tankan survey results, in order to assess the strength of the downward momentum in the economy.

2. Financial developments

Stock prices and long-term government bond yields reversed their declines following concerted foreign exchange intervention by Japan and the United States and the government's announcement of its policy for accelerating the solution of the nonperforming-asset problem. Both stock prices and yields weakened again somewhat, however, which indicated that market sentiment was still cautious, although it had shown some improvement recently. Interest rates on money market term instruments rose moderately reflecting such factors as anxiety about the condition of a bank. Thus it appeared that concern about credit and liquidity risks of financial institutions had intensified again somewhat.

With regard to monetary aggregates, the year-to-year growth in money supply had increased modestly in May after falling significantly in April. However, as the financing demand of the private sector remained weak, the general declining trend in money supply growth seemed to continue.

2Reports were made based on information available at the time of the meeting.

III. Summary of Discussions by the Policy Board on Economic and Financial Developments

The Board discussed current economic and financial conditions and the outlook based on information obtained in the intermeeting period, and deliberated on the need to revise its judgment of the overall economic and financial conditions at the previous meeting on June 12.

A member expressed the view that the decline in business fixed investment had accelerated, particularly in small and medium-sized firms, in view of (1) substantial deterioration in corporate profits, as indicated by the "Financial Statements Statistics of Corporations by Industry" of the Ministry of Finance; and (2) an extraordinarily large reduction in business fixed investment in the second half of fiscal 1997 compared to original plans, as shown in a survey on business fixed investment of manufacturing industry conducted by the Japan Finance Corporation for Small Businesses. Another member saw a strong probability that the fall in business fixed investment reflected the start of a new adjustment process of remaining excess stock. The member further expressed the view that the adjustment might continue for two to three years, spreading to the nonmanufacturing sector including the construction and real estate industries. This member further cited the ratio of business fixed investment to GDP to indicate the extent of the adjustment. The ratio declined by about 5 percentage points from approximately 20 percent to about 15 percent during the adjustment phase following the burst of the economic "bubble." The member referred to the possibility that, in the worst case, the ratio would drop further to about 10 percent, approaching the level in the United States. A different member commented that although the focus had, until then, been on the extent of the secondary spillovers from the various shocks in the Japanese economy in 1997--namely (1) deflationary aspects of fiscal consolidation; (2) a fall in private consumption reflecting concern about the stability of the financial system; and (3) a peaking out of exports due to economic instability in other Asian countries--the sizable decline in business fixed investment in the January-March quarter suggested that the initial impact of these shocks might have been greater than was originally conceived. This member also stated that while two factors, namely (1) intensified uncertainty about the future and (2) deterioration in financial intermediary functions, could have amplified the impact on the corporate business sector, the extent of each factor's contribution was unclear.

With regard to private consumption, members generally shared the view that, although the declining trend appeared to have been contained recently, the deterioration in employment and income conditions made it unlikely that a clear recovery would occur in the near future. Moreover, the members could not preclude the possibility that private consumption would weaken further.

With regard to production and inventory, one member commented that, although an increasing number of firms were squeezing production to the extent possible, especially in the raw materials industry, inventory adjustment might take longer than was projected at the previous meeting because of weak private-sector demand. Therefore, the member pointed out that the probability remained high that the economy would show a double-dipping toward the summer.

It was also pointed out that the recent considerable decline in imports reflected not only sluggish domestic demand, but also a sizable accumulation of import inventories.

In view of the above developments in final demand and production, many members took the view that the apparent weakness in business fixed investment indicated a possibility that the negative cycle in the economy might be stronger than expected, although it did not alter significantly the Board's earlier assessment of the economy. One member commented that the anticipated scenario that economic activity would generally bottom out in the July-September quarter had become uncertain due to the fact that a drop in business fixed investment had become evident while an increase in fiscal expenditure had not been confirmed. Another member expressed the opinion that, among other things, the sharp deterioration in coincident indicators from a peak of 100 in March 1997 to the 88-89 level in April 1998 offered no prospect of an economic upturn, and stated that there was a possibility of negative economic growth in fiscal 1998 and again in fiscal 1999. Thus, members generally shared the view that, in considering the economic outlook, they should be aware that there was a larger downside risk to the economy than before.

At the same time, however, members acknowledged that the comprehensive economic package of April 24 was expected to start producing effects in the early autumn and that the government and the Liberal Democratic Party were determined to establish a Comprehensive Plan for Financial Revitalization, the so-called Total Plan. Therefore, they also generally agreed that they needed to keep a close watch on future developments, including the influence of these factors on household and corporate confidence.

Some members stated that they wanted to obtain a clearer picture of the downward momentum in the economy based on the results of the Bank's June Tankan survey, which would be released soon. One pointed out that, in addition to the survey results, the financial markets' reaction to the results was also a significant factor in considering the economic outlook.

The Board then discussed financial market developments. One member pointed out that the recent movements in interest rates on term instruments and stock prices suggested a gradual rekindling of awareness about the credit and liquidity risks of financial institutions, but developments were still stable compared to November 1997.

Another member commented that the continued sluggishness in stock prices and long-term interest rates was attributable in part to the current condition of the Japanese economy. The member emphasized that it might also reflect the market's demand that the consequences of asset-price deflation be resolved as a prerequisite for offering a clear prospect for the Japanese economy. In relation to this point, another member remarked that the market did not give much credit to the first report on the Total Plan, released two days before the meeting, because it did not present important elements such as concrete schemes for introducing "bridge banks."

On foreign exchange developments, some members commented that the containment of the yen's depreciation against the U.S. dollar as a result of the concerted Japan-U.S. intervention could be evaluated favorably based on an overall judgment of various factors. Specifically, one member expressed the view that the exchange rate level realized through the intervention was consistent with most firms' expectations. The member further stated that the current exchange rate level was still bringing some direct benefits to the Japanese economy, while reducing the risk of a negative impact on Asian economies and the risk of its repercussions on Japan. Another member mentioned that the exchange rate moved between 133 yen and 146 yen per U.S. dollar during the period around the intervention, and the lower end of this range, 133 yen per U.S. dollar, happened to be equal to the purchasing power parity calculated by the Economic Planning Agency based on prices of tradable goods. Another member remarked that the yen's depreciation could normally be considered as a working of the market mechanism in response to the weak condition of the Japanese economy. The member stated, however, that when a decline in the yen tended to be accompanied by lower stock prices, the weaker yen could work, in one way or another, as a destabilizing factor for the economy.

IV. Summary of Discussions on Monetary Policy for the Immediate Future

Based on the Board's assessment of the economic and financial situation, the members discussed their basic thought on monetary policy for the immediate future.

Most of the members considered that the information obtained since the previous meeting suggested that the economy might be slightly weaker than previously thought. They, however, expressed the view that it would be appropriate to maintain the current easy monetary policy at least until the next meeting on July 16. The judgment was made for the following reasons: (1) it was necessary to deliberate further on the economic outlook taking into account information that would be released in the near future--including the results of the June Tankan survey--and the market's reaction to it; (2) it was difficult for the Bank to implement monetary policy that might prompt a recurrence of the yen's depreciation when it had only been a short while since the coordinated Japan-U.S. intervention; and (3) even if some policy action was necessary for an economic recovery, the effectiveness of monetary policy under the current circumstances could be controversial.

One member pointed out that some critical points remained highly uncertain, such as (1) the development of financial system stabilization measures and the influence of the measures on stock prices; and (2) whether the effects of the comprehensive economic package would materialize, not being offset by the weakness of the private sector. The member was of the opinion that it would be necessary to examine these points based on additional information to be available in the immediate future and, through this process, project economic developments toward the next fiscal year. Another member expressed the intention of keeping a close watch on fiscal policy, progress in the solution of the nonperforming-loan problem, the results of the June Tankan survey, and various monthly economic indicators that would be published around the end of June.

In relation to foreign exchange developments, one member considered that the yen remained vulnerable to downward pressure even after the Japan-U.S. intervention, and that monetary easing might trigger a weakening of the yen. Another member expressed the view that, considering the continuing instability in foreign exchange markets and in other Asian countries, implementation of monetary easing so soon after the intervention would not be easily justifiable.

Further, some comments were presented as to the appropriateness of employing monetary policy to boost the economy under the current situation in Japan. One member pointed out that a modest decrease in interest rates would not stimulate business fixed investment under the prevailing circumstances, and thus the effect of monetary policy would be very limited. The member argued that, for the immediate future, the Bank had no choice but to watch closely the outcomes of the various measures presented by the government. Another member remarked that, in this extraordinary situation after almost three years of extremely low interest rates, it was necessary to consider carefully whether an additional monetary easing would bring textbook effects to the economy or whether it might be accompanied by side effects.

Some members commented that improvement in corporate and household confidence was a prerequisite if public demand created by the comprehensive economic package was to lead to expanded private-sector demand. They argued that to improve confidence, it was necessary to expedite the solution of the nonperforming-asset problem and to conduct fundamental structural reform, including revision of the tax system. Another member remarked that although the details of a "permanent" tax reduction would not be revealed in the immediate future, it was important to clarify at least the direction of reform as soon as possible. There was also the observation that, even leaving aside its potential impact on confidence, promotion of structural reform was an issue of high priority. In sum, many expressed the view that fiscal policy, solution of the nonperforming-asset problem, and structural reform should play the central roles as economic policies in addressing the current condition of the Japanese economy. Some members commented that the possible role of monetary policy among such policy measures should be discussed in this context.

As a result of the above discussion, many members shared the view that it would be appropriate to adopt a wait-and-see stance at least until the next meeting, at which they would deliberate again on monetary policy based on information obtained in the intermeeting period--including the June Tankan survey results, economic indicators released at the end of the month, developments regarding the Total Plan, and the market's reaction to all of these.

One member commented that, as there was limited room for further interest rate reduction, unprecedented measures such as monetary targeting should be an option when discussing additional easing in future meetings. The member acknowledged that even such measures would be unavoidably accompanied by interest rate reductions and, therefore, were not very different from a usual interest rate cut. However, the member explained that the announcement of the Bank's commitment to easy money policy over the medium term could influence the public's expectations and thereby generate additional effects.

While many members were thus in favor of maintaining an unchanged easy policy stance, one member proposed, as in the previous meeting, a slight lowering of the overnight call rate to 0.40 percent. The proposal was made on the grounds that (1) the economy had continued to decline; and (2) there had been growing anxiety in the financial markets triggered by concerns over a bank, and it was necessary to contain the resulting upward pressure on market interest rates. The member, referring to criticisms raised at the previous meeting that minor policy changes would not only be ineffective but would run the risk of disappointing the market, claimed that major policy changes could involve larger risks at a time when the economic outlook was subject to various uncertainties, and therefore, it was more advisable to implement policy changes in small steps, such as interest rate reductions of a 0.1 percentage point.

Other members, however, remained cautious about the proposal mainly for the reason that such a subtle policy change would have little effect

Members also referred to the nonperforming-asset problem, an issue closely related to monetary policy management. As in the previous meeting, members consented to the view that the Bank should continue to do its utmost to promote the comprehensive solution of the problem. One member emphasized that it was essential to ensure that a credit contraction would not occur in the process of disposing of nonperforming assets, so that economic recovery would not be hindered.

Some members commented that in the event upward pressure strengthened on interest rates reflecting increased concern about the credit risk of financial institutions, the Bank should inject ample funds in the market to dispel such concerns, as it had done in previous cases. One emphasized that CP operations would be useful in providing the ample liquidity. This member also commented that credit line contracts should be made available as soon as possible as a measure that could alleviate the "credit crunch," and the Bank should support the emerging movement toward the necessary amendment of the Law Concerning the Restriction of Interest Rates (which sets a ceiling on interest rates).

V. Remarks by the Government Representative

Mr. Shimpo made the following remarks:

(a) Capital stock had been growing at an annual rate of 4 percent in recent years, which was more or less compatible with the potential economic growth rate of 2 percent, and this suggested that it was unlikely that the current level of capital stock was significantly excessive. The government, therefore, did not consider that any serious stock adjustment was taking place.
(b) Rather, declines in business fixed investment in the January-March quarter were in large part attributable to the "credit crunch," as suggested by the fact that the falls were mainly seen in small and medium-sized firms. Under such circumstances, there was a concern that a fiscal stimulus might not lead to an expansion in the business fixed investment of small and medium-sized firms.
(c) Both inflation and deflation could generally be considered to be a monetary phenomenon. Therefore, as a Board member pointed out, if there was an imminent risk of a deflation, it would be necessary to use monetary policy in every possible way.

VI. Votes

At the conclusion of the Board's discussions, many members supported the view that in the implementation of monetary policy for the intermeeting period ahead, the Bank should maintain the current easy monetary policy. They agreed that, in doing so, the Bank should examine closely economic and financial developments, including developments in fiscal policy and progress in solving the nonperforming-asset problem. At the same time, however, there was a proposal to implement monetary policy action toward a slight easing. Therefore, two policy proposals were put to the vote.

Mr. Nakahara made a proposal to adopt a guideline for money market operations in the intermeeting period ahead that the Bank should encourage the uncollateralized overnight call rate to be, on average, around 0.40 percent. The proposal was defeated with one vote in favor and eight against.

To reflect the majority view, the chairman formulated the following proposal.

Chairman's Policy Proposal:

The guideline for money market operations in the intermeeting period would be as follows, and publicized by the attached press release (see Attachment 1).

The Bank of Japan would encourage the uncollateralized overnight call rate to remain on average slightly below the official discount rate.

Votes for this proposal:: Mr. M. Hayami
Mr. S. Fujiwara
Mr. Y. Yamaguchi
Mr. Y. Gotoh
Mr. S. Taketomi
Mr. T. Miki
Ms. E. Shinotsuka
Mr. K. Ueda
Votes against this proposal:: Mr. N. Nakahara

Mr. Nakahara dissented because he was convinced that, in view of the rapidly deteriorating economic condition, it was necessary to indicate as clearly as possible the Bank's critical view of the condition of the economy. Further, he believed it would be appropriate to implement policy changes, albeit in small steps, with a view to encouraging faster growth in monetary aggregates.

At the end of the meeting, members agreed on the dates of Monetary Policy Meetings in July-December 1998 (see Attachment 2).

Attachment 1

For immediate release

June 25, 1998
Bank of Japan

The Bank today held a Monetary Policy Meeting, a regular meeting of the Policy Board on monetary policy.

By majority vote, the Policy Board decided to leave monetary policy unchanged.

Attachment 2