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Statement by Masaru Hayami, Governor of the Bank of Japan, Concerning the Bank's Semiannual Report on Currency and Monetary Control

before the Committee on Financial Affairs, House of Representatives, on September 21, 2001

November 30, 2001
Bank of Japan

Contents

INTRODUCTION1

In June 2001, the Bank submitted to the Diet its Semiannual Report on Currency and Monetary Control for the second half of fiscal 2000. I appreciate this opportunity to present a review of the Bank's recent conduct of monetary policy.

The Bank has been taking drastic monetary easing measures unprecedented in the history of central banking at home and abroad in a timely manner, with a firm determination to prevent a continuous decline in prices and to provide a basis for sustainable economic growth. Following the terrorist attacks in the United States, the Bank has taken expeditious action, including the provision of extremely ample liquidity in order to ensure smooth funds settlement and proper functioning of financial markets.

Today, I would like to make some remarks on the Bank's view of the recent developments in domestic and overseas economies and the conduct of monetary policy.

  1. Governor Hayami made an identical statement before the Committee on Financial Affairs, House of Councillors, on October 16, 2001.

I. Developments in Domestic and Overseas Economies and the Additional Easing Measures Decided in August 2001

Japan's exports fell sharply and production declined substantially reflecting the slump in IT-related industries worldwide since autumn 2000 and the sharp slowdown in overseas economies.

The slowdown in overseas economies has been intensifying. In the United States and East Asia, adjustments in economic activity have been intensifying further, and in Europe, an economic slowdown has gradually become distinct. Against this background, Japan's exports and production continued to decline substantially, and corporate profits and business fixed investment, which had been on an uptrend, started to decrease. The state of Japan's economy is becoming more severe recently as observed in the fact that adjustments in the corporate sector are beginning to have a negative impact on employment and income conditions. Prices have been following a gradual declining trend reflecting technological innovation, the streamlining of distribution channels, and the influence of the increase in low-priced imports, as well as the fall in demand.

In light of the deterioration in the economy, in March 2001 the Bank changed the procedures for money market operations, the main operating target for money market operations, from an interest rate (the uncollateralized overnight call rate) to the quantity of liquidity (the outstanding balance of current accounts at the Bank). On this basis, the Bank decided to take drastic monetary easing measures by increasing the outstanding balance of current accounts at the Bank from around 4 trillion yen to around 5 trillion yen. Furthermore, the Bank announced that it would continue the new procedures for money market operations until the consumer price index registers stably zero percent or an increase year on year.

In August 2001, in order to further strengthen monetary support for the economic recovery under the new procedures, the Bank changed the guideline for money market operations, increasing the outstanding balance of current accounts held at the Bank from around 5 trillion yen to around 6 trillion yen and its outright purchase of long-term government bonds in order to smoothly provide ample liquidity.

II. Terrorist Attacks in the United States and Actions Taken by the Bank

The terrorist attacks in the United States on September 11 were shocking and tragic. After the incidents, the Bank immediately set up the Emergency Management Headquarters. I as the Governor of the Bank released a statement on the following morning (September 12) before the opening of the Tokyo market, in order to make clear the Bank's firm commitment that it would make every effort in order to ensure smooth funds settlement and the stability of financial markets. In response to a surge in demand for liquidity, the Bank provided as much as 2 trillion yen to the market in a timely manner on the day (September 12), so that the outstanding balance of current accounts at the Bank rose to over 8 trillion yen.

In financial markets at home and abroad, major disruption in transactions and settlements has so far been successfully avoided, reflecting ample liquidity provision by the Bank of Japan and other major central banks as well as appropriate responses by market participants.

However, it is still necessary to carefully monitor the effects of the incidents on global financial markets and economic activity. Should any event hamper smooth funds settlement or the functioning of financial markets, it could interrupt the permeation of the effects of the drastic monetary easing measures taken so far.

Against this background, I as the chairman of the Policy Board proposed that the two-day session of the Monetary Policy Meeting originally scheduled for September 18 and 19 be shortened to one day, September 18, to make a swift decision on monetary policy measures, and the Policy Board agreed. The Bank decided to take the following three measures in order to secure proper functioning of financialmarkets and to enhance the effective permeation of monetary easing.

First, for the time being, the Bank will provide as much liquidity as the market needs in a timely manner, without setting a specific target for the outstanding balance of current accounts at the Bank.

Second, the official discount rate was reduced by 0.15 percentage points to 0.10 percent. Under the current policy framework, the official discount rate is the rate applied to the "Lombard-type" lending facility which was introduced in March 2001, where the Bank automatically extends loans at borrowers' request as long as certain conditions, such as eligible collateral, clearly pre-specified by the Bank, are met.

Third, as a temporary measure to prepare for the interim book closings for most Japanese firms at the end of September, the Bank increased the maximum number of days for the use of the Lombard-type lending facility.

CONCLUSION

As I explained earlier, the Bank has been making every effort in conducting monetary policy in a timely and flexible manner in the difficult situation of deterioration of economies worldwide and the terrorist attacks in the United States.

If there is a perception that the Bank is allowing prices to fall, it is a total misunderstanding. I would like to emphasize this point.

The effects of monetary easing have not permeated smoothly to financial institutions' behavior and economic activity, even though the Bank has provided ample liquidity to the financial market. In such a situation, it is difficult for monetary easing alone to prevent prices from declining.

It is essential to encourage positive economic activity that will take advantage of the current extremely easy financial environment and to boost private demand, in order to make the monetary easing measures fully effective so that Japan'seconomy returns to a stable and sustainable growth path. To this end, it is necessary to restore the sound functioning of the financial system through disposalof nonperforming loans, to enhance the functioning of capital markets by tax measures, and to review the content of fiscal expenditure with a view to boostingprivate demand effectively. Particularly, monetary easing measures cannot be fully effective in a situation where the problem of nonperforming loans, or, looking at it another way, the problem of firms' excessive debts, remains unsolved.

The Bank will continue to make every effort as a central bank to prevent a continuous fall in prices and to provide a basis for the stable and sustainable growth of Japan's economy, including efforts to resolve the problems arising from nonperforming loans. I strongly hope, too, that structural reforms will make steady progress in the financial system as well as in the economy and industry.