Semiannual Report on Currency and Monetary Control (Summary)
First Half of Fiscal 2006
The semiannual report, whisch includes this summary, was submitted to the Diet in December 2006.
Bank of Japan
Economic Developments
1. Japan's economy expanded moderately in the first half of fiscal 2006 (April-September 2006).
While public investment was on a downtrend, exports continued to increase against the background of the expansion of overseas economies. Business fixed investment also continued to increase, reflecting high corporate profits. Household income continued rising moderately, and in this situation private consumption was on an increasing trend. With the rise in demand both at home and abroad, production also continued to increase.
2. Domestic corporate goods prices continued to increase, reflecting the rise in international commodity prices and the improvement in supply and demand conditions, and the year-on-year rate of increase accelerated gradually. The year-on-year rate of change in the consumer price index (CPI; excluding fresh food) was on a positive trend as the conditions of excess supply had been dispersed and the output gap continued to be positive.
Financial Developments
3. In the money market, the uncollateralized overnight call rate was at effectively zero percent before the Monetary Policy Meeting (MPM) in July, when the guideline for money market operations was changed, and was at around 0.25 percent thereafter. Interest rates on term instruments rose toward the middle of July, but on the whole remained more or less unchanged after the MPM in July.
Long-term interest rates were in a range of around 1.75-2 percent until early August, albeit with some fluctuations reflecting developments in Japanese stock prices and U.S. interest rates. They declined thereafter, mainly due to a fall in U.S. long-term interest rates and the rebasing of the CPI, which caused a larger-than-expected negative divergence in its year-on-year rate of change from the old series.
Stock prices were firm around the beginning of the first half of fiscal 2006 due to the improvement in business sentiment and profits as well as the rise in U.S. and European stock prices. From early May to mid-June, the Nikkei 225 Stock Average declined to the 14,000-14,500 yen level due to a reassessment of portfolio risks by market participants globally, but rebounded thereafter, reflecting favorable earnings reports for the April-June quarter of 2006, and slightly exceeded 16,000 yen at the end of September.
The yen appreciated against the U.S. dollar toward the middle of May to the 109-110 yen level reflecting speculation by market participants with respect to external imbalances and monetary policy in the United States. It depreciated moderately thereafter as market participants were increasingly sensitive to interest rate differentials between Japanese and overseas markets, and from July onward it was in the range of 114-118 yen.
4. The amount outstanding of lending by private banks (after adjustment for special items) continued to increase. The amount outstanding of CP and corporate bonds issued exceeded the previous year's level until May, but from June it was generally around the previous year's level. The lending attitude of private banks continued to be accommodative. Firms' demand for credit started to rise because outlays for business operations and fixed investment continued to increase as the economy continued to recover steadily.
5. The monetary base (currency in circulation plus current accounts at the Bank) fell sharply from a year earlier due to a decline in the outstanding balance of current accounts at the Bank.
The year-on-year growth rate of the money stock (M2+CDs) was in the range of 0-2 percent.
Monetary Policy Meetings (MPMs)
6. Seven MPMs were held in the first half of fiscal 2006.
At MPMs during April-June 2006, members of the Policy Board agreed that"Japan's economy continues to recover steadily" and adopted this expression as their overall assessment of the economy in"The Bank's View" in the Monthly Report of Recent Economic and Financial Developments. They revised their assessment to"Japan's economy is expanding moderately" at the MPM in July, mainly because the conditions of excess supply had been dispersed and the output gap seemed to have become positive. Members maintained the same assessment at the MPMs in August and September.
7. With regard to the conduct of monetary policy, given the above economic and financial developments, members decided at MPMs in April through June to set the guideline for money market operations as follows:"The Bank of Japan will encourage the uncollateralized overnight call rate to remain at effectively zero percent."
At the MPM in July, members concurred that the stimulus from monetary policy had been gradually amplified as economic activity and prices improved steadily in line with the projection presented in the Outlook for Economic Activity and Prices released in April. Given that maintaining the zero interest rate environment in that situation might result in large swings in economic activity and prices in the future, members judged that it would be appropriate to adjust the level of the policy interest rate at the MPM so that a desirable course of economic activity and prices would be maintained. Accordingly, members decided to set the following guideline for money market operations for the intermeeting period:"The Bank of Japan will encourage the uncollateralized overnight call rate to remain at around 0.25 percent."
At the MPMs in August and September, members maintained the guideline for money market operations decided in July.
The Bank's Balance Sheet
8. As of the end of September 2006, the size of the Bank's balance sheet had decreased by 20.7 percent from the previous year to 117.5 trillion yen.