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Minutes of the Monetary Policy Meeting

on November 27, 1998
(English translation prepared by the Bank staff based on the Japanese original)

January 22, 1999
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 Friday, November 27, 1998, from 9:00 a.m. to 12:10 p.m., and from 1:01 p.m. to 1:58 p.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 Representative Present
Mr. E. Kawade, Director-General of the Coordination 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, Research and Statistics Department
Mr. N. Inaba, Adviser, Policy Planning Office
Mr. K. Yamamoto, Adviser and Chief Manager, Planning Division 1, Policy Planning Office
Secretariat of the Monetary Policy Meeting
Mr. K. Koike, Director, Secretariat of the Policy Board
Mr. S. Hida, Manager, Secretariat of the Policy Board
Mr. H. Tanaka, Chief Manager, Planning Division 2, Policy Planning Office2
Mr. K. Momma, Manager, Policy Planning Office
Mr. T. Kurihara, Manager, Policy Planning Office

  1. The minutes of this meeting were approved by the Policy Board at the Monetary Policy Meeting held on January 19, 1999, as "a document which contains an outline of the discussion at the meeting" stipulated in Article 20, Paragraph 1 of the Bank of Japan Law of 1997. Those present are referred to by their titles at the time of the meeting.
  2. Mr. Tanaka was present from 9:00 a.m. to 9:49 a.m.

I. Approval of the Minutes of the Monetary Policy Meeting Held on October 28, 1998

The Policy Board approved unanimously the minutes of the Monetary Policy Meeting, the "Green Paper," of October 28, 1998 for release on December 2, 1998.

II. Abolition of Reserve Requirements for Foreign Exchange Banks Accompanying the Abrogation of the Foreign Exchange Bank Law

A. Staff Proposal

With the Financial System Reform Act (Law No. 107, 1998) coming into effect on December 1, 1998, (1) the Foreign Exchange Bank Law (Law No. 67, 1954) would be abolished; and (2) the Law concerning Reserve Deposit Requirement System (Law No. 135, 1957) would be amended to exclude foreign exchange banks (defined by the Foreign Exchange Bank Law) from the "designated financial institutions" prescribed under Article 2, Paragraph 1. Reflecting these legal changes, the Bank's staff proposed the following technical amendments to the Bank's internal rules and regulations.

  1. (1) To amend "Reserve Requirement Ratios" issued on October 1, 1991, by for example deleting the term "foreign exchange banks"; and to make the amendments effective from December 1, 1998, and to announce them to the public.
  2. (2) To amend as necessary any other relevant internal rules of the Bank.

B. Votes

The Policy Board discussed the staff proposal and put it to the vote. The Board unanimously approved the proposal and decided to announce the changes to be made on the same day.

III. Summary of Discussions and the Result of the Vote on the Principal Terms and Conditions on a Temporary Lending Facility to Support Firms' Financing Activities

A. Staff Proposal

In line with the policy taken at the last meeting on November 13, the Bank's staff proposed (1) that the following principal terms and conditions on a temporary lending facility to support firms' financing activities be established and (2) that these terms and conditions be announced to the public:

  1. (1) Financial institutions eligible for this lending facility include banks, long-term credit banks, branches of foreign banks in Japan, shinkin banks, the Zenshinren Bank, the Shinkumi Federation Bank (the national federation of credit cooperatives), the Rokinren Bank (the national federation of labor credit associations), and the Norinchukin Bank. Each institution would need to have concluded a loans-on-bills agreement with the Bank of Japan as of December 2, 1998 (including institutions that maintain current deposits at the Bank of Japan and have already requested to conclude loans-on-bills agreements with the Bank of Japan as of the same date prescribed above) and to apply for this lending facility, hereafter referred to as "facility user." The Resolution and Collection Bank and the Kii Deposits Management Bank would not be eligible for this lending facility.
  2. (2) Loans would be provided on December 21, 1998; January 20, 1999; February 22, 1999; and March 23, 1999.
  3. (3) The due date of all the loans in (2) would be April 15, 1999, when the full amount of each loan would be collected. The loans provided on December 21, 1998 would be rolled over three months after their provision.
  4. (4)
    1. (a) A limit on loans provided on December 21, 1998 would be set for each facility user as equivalent to half of the increase in loans of each facility user's average outstanding loans in November 1998 compared to its outstanding loans as of the end of September 1998.
    2. (b) A limit on loans provided on and after January 20, 1999 would be set for each facility user as equivalent to half of the increase in loans of each facility user's average outstanding loans in December 1998 compared to its outstanding loans as of the end of September 1998.
      If the limit in (b) was less than the limit in (a), the limit in (a) would be applied to the loans provided on and after January 20, 1999.
  5. (5) Collateral should be private corporations' debt obligations (bills including commercial paper, corporate bonds, and loans on deeds) and Japanese government bonds that are eligible as collateral for the Bank's loans on bills. In the case of 20 major banks (city banks, long-term credit banks, trust banks, and the Norinchukin Bank), however, the collateral value of private corporations' debt obligations would have to be more than 50 percent of the outstanding loans provided to them by the Bank.
  6. (6) The interest rate applied would be 0.5 percent per annum.

B. Summary of Discussions and Vote by the Policy Board

Following the staff briefing, several members supported the proposal, commenting that it was in line with the aim of this lending facility, that is, to encourage financial institutions to extend loans to firms by supporting their financing activities in consideration of the severe condition of corporate financing at present. On the other hand, one member objected to the proposal, expressing the opinion below.

By majority vote, the Board approved the proposal and decided to announce the principal terms and conditions on the lending facility on the same day.

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 the proposal:
Mr. N. Nakahara

Mr. Nakaharadissented on the following grounds. First, the Bank is responsible for the proper management of macroeconomic policy and therefore should not be involved deeply in corporate financing. Second, such operations might expand without limit once started.

IV. Summary of Staff Reports on Economic and Financial Developments3

A. Money Market Operations in the Intermeeting Period

Market operations in the period since the previous meeting on November 13 were conducted in accordance with the guideline determined at that meeting:

The Bank of Japan would encourage the uncollateralized overnight call rate to move on average around 0.25 percent.

Regardless of the above guideline for the call rate, the Bank of Japan would provide more ample funds, if judged necessary, to maintain the stability of the financial markets.

The weighted average of the uncollateralized overnight call rate in the previous reserve maintenance period from October 16 to November 15 stood at 0.22 percent. As of November 26, the day before the meeting, the weighted average in the current reserve maintenance period (November 16 to December 15) declined slightly to 0.19 percent.

Behind the slightly weak uncollateralized overnight call rate, there were some market factors which gave fund-raisers the advantage over fund-investors. One was the inflow into the markets of a large amount of funds, part of which originated from loans and grants of the Deposit Insurance Corporation (DIC)--the DIC's loans to the temporarily nationalized Long-Term Credit Bank of Japan (LTCB) and grants to North Pacific Bank (Hokuyo Bank) and the Chuo Trust and Banking Company for taking over business of Hokkaido Takushoku Bank. Another was extremely short-term investment of excess funds by financial institutions that had secured sufficient funds maturing beyond the year-end in advance. Considering these circumstances, the Bank conducted "neutral" operations from November 16, which meant that the Bank supplied funds in an amount that exactly met the markets' demand. On November 20 and 25 the Bank conducted operations to reduce reserves for the first time in the six months since May 13, 1998. Consequently, the recent uncollateralized overnight call rate recovered to the 0.2-0.25 percent level.

As for term instruments, interest rates had declined somewhat due mainly to (1) the Bank's continued active provision of funds maturing beyond the year-end (the amount outstanding of such funds supply through market operations increased to more than 14 trillion yen); and (2) the considerable progress made by Japanese financial institutions in raising foreign currency funds for the year-end.

Meanwhile, some changes took place following the decision to introduce new measures for money market operations at the previous meeting. As a result of the extension of the remaining maturity of eligible commercial paper (CP)--from up to three months to up to one year--there had been many applications for eligibility evaluation of CP with a remaining maturity of over three months. Following this expansion of eligible CP, the Bank had conducted CP repo operations for nine consecutive business days from November 16. Reflecting this, the amount outstanding of CP repo operations recorded a historical high of 6.5 trillion yen as of November 26.

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

1. Developments in foreign exchange markets

The yen moved within a narrow range of 120-122 yen against the U.S. dollar. Recently, however, the yen was following a slight downward trend reflecting (1) continued high prices in U.S. stock markets; (2) weakened expectation of a consumption tax cut in Japan; and (3) concern over the deterioration in Japan's fiscal balance which was interpreted as a yen-depressing factor by the market.

Meanwhile, the deutsche mark gradually fell against the U.S. dollar. This was partially due to the worse-than-expected Germany's economic indicators, and the suspension of negotiations between the International Monetary Fund (IMF) and Russia on financial support, making it unlikely that the two parties would reach an agreement by the end of the year.

2. Overseas economic and financial developments

Based on the perception that there remained unusual strains in the financial markets, the Board of Governors of the Federal Reserve System (FRB) decided on November 17 to reduce interest rates for the third time, following the reductions on September 29 and October 15. The target rate for federal funds was reduced to 4.75 percent from 5.0 percent, and the official discount rate was reduced to 4.50 percent from 4.75 percent.

In the United States, the economy continued to expand moderately, driven by steady growth in private consumption and housing investment. However, nondefense capital goods orders, which indicate developments in business fixed investment, decreased for the second consecutive month. In addition, net exports showed a downward trend from the beginning of 1998, causing expansion in the current account deficit. Reflecting these developments in demand, production and capacity utilization in manufacturing industry slowed conspicuously.

Financial conditions in the United States showed some improvements. Stock prices marked a new record high reflecting (1) the monetary easing by the FRB; (2) the steady household spending; (3) the announcement of an international assistance package for Brazil; and (4) a large-scale financial alliance. Prices of financial stocks showed particularly large rises this time, in additions to high-technology stocks which had contributed to the price rises in the stock markets. However, the strains in the financial markets remained on the whole. This was observed in the risk premiums on corporate bonds with low ratings which continued to be larger than in the past, and the concentration of funds to specific issues with high liquidity even among U.S. Treasury securities. In light of these conditions, the FRB remained cautious as reflected in a remark by Ms. Rivlin, vice chair of the FRB, that market participants' expectations with regard to the long-term growth rate of corporate earnings was too optimistic.

C. Economic and Financial Developments in Japan

1. Economic developments

Among the economic indicators released in the period since the previous meeting, the value of public works contracts remained high in general, although it decreased somewhat in October after jumping in September. This high level was expected to continue in the future due to an increase in orders accompanying the implementation of the comprehensive economic stimulus package. Exports surged in October due to an increase in the export of automobiles. This surge, however, was considered to be temporary, and exports were expected to maintain their moderately increasing trend. Imports continued to weaken, reflecting the sluggish domestic demand. As for private consumption-related indicators for October, sales of personal computers and some kinds of household electric appliances grew, but other sales indicators and consumer sentiment surveys showed further deterioration.

Reflecting the above developments in final demand, industrial production declined in October. It was projected that production would fall in the October-December quarter from the July-September quarter, taking indices of production forecast into account. Furthermore, both in the manufacturing and nonmanufacturing sectors, corporate profits were projected to decline in the latter half of fiscal 1998, although they had previously been expected to increase. As a result, employment and income conditions became increasingly severe: (1) the unemployment rate remained around its record high level; (2) the ratio of job offers to applications posted a new historical low in October; and (3) semiannual winter bonuses overall were very likely to fall significantly below the previous year's level.

Corporate financing conditions, which had been persistently severe, showed some improvements. Many low-rated firms and small and medium-sized ones were reported to have not yet secured adequate funds. On the other hand, most large firms were reported to have made considerable progress in their funding for the year-end due to the active CP repo operations by the Bank and the introduction of new measures for money market operations decided at the previous meeting. These large firms were actively increasing their procurement of on-hand liquidity in preparation for unexpected circumstances.

2. Financial developments

In the financial markets, the anxiety which prevailed until mid-November was somewhat settling down.

Stock prices recovered to the 15,000 yen level underpinned by the following factors: (1) the Bank's announcement of new measures for money market operations; (2) the government's decision to launch the emergency economic package; (3) the moves to rebuild the financial system, such as injection of public funds; (4) emerging expectation of a possible temporary suspension of the consumption tax; and (5) the surge in U.S. stock prices which marked new record highs. Meanwhile, long-term interest rates rose. Many market participants expressed concern about the possible worsening of the supply-demand balance of Japanese government bonds due to the increase in their issuance. However, considering the fact that long-term interest rates rose simultaneously with the rebound in stock prices, it seemed that there were some signs of a reversal in the extremely pessimistic market sentiment. Nevertheless, the markets remained unstable.

There was considerable progress in the Japanese banks' fund-raising in foreign currency maturing beyond the year-end. As a result, the turnover of swap trades on the foreign exchange markets had already turned to a decrease. In addition, due to narrowed spot-forward spreads, yen-funding costs of foreign banks returned to positive figures. Reflecting these factors, the interest rate differential between Euro-yen deposits and Japanese Treasury bills (TBs) narrowed, and also the Japan premium.

The decline in Euro-yen rates was slight. The decomposition of Euro-yen rates into one-month implied forward rates revealed a peaking-out of interest rates maturing after the year-end, while those maturing after end-March 1999 whose transaction would start four months later were rising steadily. This suggested that market participants' concern was shifting from the end of the calendar year to the end of the fiscal year (March 1999).

With the enhancement of the credit guarantee system, the amount of credit guaranteed by credit guarantee corporations increased substantially. Use of this system spread not only among small financial institutions, but also among major city banks. Furthermore, following the introduction of new measures for money market operations, the issuance of CP maturing after end-March 1999 increased, and the issuance rates of firms with highest credit ratings declined to the 0.4-0.5 percent level. This rate was significantly lower than the fund-raising cost of banks (the Euro-yen rate was at the 0.7-0.8 percent level).

  1. 3Reports were made based on information available at the time of the meeting.

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

A. The Current Economic Situation

In the Board's discussion on the current economic situation, many members shared the view that due partly to the positive effects of the various policy measures, the pace of economic deterioration was slowing, but with business and household confidence yet to recover, the current stability might be temporary.

With regard to public investment, many members remarked that they could more strongly expect fiscal support to the economy than at the time of the last meeting due to (1) the increase in public works orders from both the central and local governments since September 1998 and (2) the large budget allocated to public investment in the emergency economic package set out by the government. As for housing investment, one member commented that it might be close to hitting bottom considering the very low level of housing starts, which had already fallen as low as an annualized 1.1 million, and the slight recovery in the number of potential customers visiting firms selling prefabricated houses.

Many members pointed out that the decline in production had decelerated reflecting the above situation.

Regarding private-sector demand in general, however, many members judged that the situation remained severe with continued weakness in business and consumer confidence reflecting the further deterioration in the employment condition and corporate profits.

As for private consumption, one member mentioned steady sales in personal computers and new models of some household electric appliances as a positive factor. However members, including this member, shared the view that developments in consumption still required attention, taking into account (1) the drop in the sales of department stores, (2) weak consumer sentiment, and (3) the projected decline in semiannual winter bonuses from a year ago. Further, one member pointed out that the increasing number of corporate bankruptcies and the falling ratio of job offers to applications warranted attention because these indicators suggested the purchasing power of households.

With regard to business fixed investment, members focused on the fact that the latest profits projection of the corporate sector for the second half of fiscal 1998 fell below the actual profits in the second half of fiscal 1997 as a result of downward revision of corporate profits by many firms. Specifically, one member commented that corporate profits would be much lower than the projection reported in the Bank's September Tankan survey. Several members pointed out that the effect of the downward revision of corporate profits on corporate bankruptcies and employment should be watched closely. Further, another member expressed the view that if the recently observed reduction in basic salary in some firms spread across many other firms, this should be taken as characteristic of one stage of deflation and therefore warranting attention.

One comment on business fixed investment was that reflecting the above corporate profits situation, the number of firms that had either cancelled or postponed their business fixed investment had increased since the autumn. Another comment was that business fixed investment for fiscal 1998, on the basis of national accounts, would fall by approximately 15 percent from a year earlier.

Based on the above discussions, members generally shared the view that business fixed investment had yet to enter a recovery path, and therefore future developments in business fixed investment continued to require careful monitoring as they posed a downside risk to the economy.

Meanwhile, as for prices, several members expressed concern that there existed stronger downward pressure due to the continued expansion in the output gap owing to the sluggish demand mainly in the private sector.

B. Financial Developments

With regard to financial developments, members shared the view that the financial markets were, as was the economy, temporarily stable due to an easing of a once-heightened anxiety about a credit contraction in the markets at home and abroad, and the progress made in the procurement of year-end funds by financial institutions and firms.

In relation to that U.S. stock prices which had again posted a record high, members' interest focused on the economic and financial situation in the United States.

Since August 1998, movement of funds described as "flight to quality" and "flight to liquidity" had been observed in the U.S. financial markets, reflecting heightened anxiety over credit risk. However, such anxiety gradually lessened due partly to the three successive interest rate cuts by the FRB. Members generally shared the view that this recent development was favorable for the world economy. The majority of members, however, were of the view that strains still existed in the market because the yield spread between corporate bonds and Treasury bonds had not yet returned to the level before August 1998, even though it had considerably narrowed from the peak.

One member expressed the view on the U.S. economy that the situation was a mixture of positive and negative factors, with the favorable figures announced for housing starts and retail sales indicators, contrasting with the low capacity utilization ratio and weak employment-related indicators in manufacturing industry. Another member commented that, although the fact that the U.S. economy remained on the path of sustained growth would be a positive factor for the world economy in the immediate future, attention should be paid if, in the meantime, necessary adjustments were being postponed, because this would only mean an accumulation of adjustment pressure. The same member was of the opinion that recent stock prices seemed to have incorporated projected growth in corporate profits far exceeding that of nominal national income, and that it should be closely watched whether such high growth in profits would realize. Another member cast doubt on the sustainability of the growth in consumption, which had caused the household savings rate to register a negative figure. This member further mentioned that the relation between stock prices and corporate profits was not necessarily stable.

Based on the discussions, the members shared the view that movements in U.S. stock prices and factors behind them, such as developments in the U.S. economy, should continue to be monitored carefully.

In light of the above developments in the markets abroad, the majority of members judged that strains in the financial markets in Japan were easing gradually.

Specifically, some members pointed out factors that had possibly worked to alleviate the strains in the markets. The factors included the following: (1) the Japan premium and the Euro-yen interest rates had peaked out due to the considerable progress made by Japanese banks in procuring foreign-currency funds maturing beyond the year-end; and (2) many major banks had clearly indicated their intention to request public funds injection under the Financial Function Early Strengthening Law. However, one of the members who made the above remarks said that it should be kept in mind that the financial intermediary functions would not instantly recover even after the decision was made by the financial institutions to accept public funds. Further, several members pointed out that concern over credit risk remained strong in the markets. They said that this was because the markets' concern had shifted to the fund-raising conditions around the fiscal year-end in March 1999, although anxiety over procurement of calendar year-end funds had lessened. Moreover, one member expressed the view that, considering the redemption of corporate bonds in March 1999 amounting to approximately 3 trillion yen, the possibility of severe fund-raising conditions for firms around the fiscal year-end remained.

In relation to corporate financing, several comments were made on the effects of (1) the Bank's new measures for money market operations decided at the last meeting and (2) the government's credit guarantee system expanded on October 1, 1998.

Some members mentioned positive effects of the expansion of CP repo operations by extending the remaining maturity of eligible CP and speeding up the process of eligibility evaluation; this new measure increased the issuance of CP maturing after end-March 1999. As for the credit guarantee system, many were of the opinion that the substantial increase in the amount of guarantees approved by credit guarantee corporations was also starting to affect financing activities of firms positively. Thus many members were of the opinion that the above two measures were highly welcomed by firms and the financial markets.

One member, however, pointed out that the expansion of the credit guarantee system could increase the risk of expanding fiscal deficit. The member therefore noted that it should be kept in mind in considering the future of Japan's economy that fiscal deficit could expand. In addition, the same member commented that financial measures launched so far had aimed at bringing about favorable business conditions for funds borrowers through economic recovery. If the measures did not effectively restore the economic activity and business conditions of funds borrowers as intended, the result would only increase the cost for the fundamental restructuring of the economy as a whole because the measures would just result in non-viable borrowers surviving. The member, therefore, placed emphasis on the importance of monitoring developments carefully.

As seen in the above discussions, the majority of the members were of the view that the financial markets were temporarily stable. One member pointed out that the current stability was fragile and that this was merely supported by the market's relief resulting from the rebound in stock prices, which was brought about by foreign investors' purchases. The same member gave a harsher opinion that the situation surrounding Japan's financial markets was potentially deteriorating based on the following facts: (1) the difficulties faced by firms with BBB or lower ratings in issuing corporate bonds and (2) the strict lending attitude of U.S. and European banks vis-a-vis the Japanese institutions.

C. The Economic Outlook

On the economic outlook, many members were of the view that, with further materialization of the effects of fiscal spending and the slowly recovering stability in the financial markets, the pace of economic deterioration would decelerate toward and during the first half of 1999. Each member was, however, cautious in forecasting the economy thereafter: developments in private demand were still uncertain and thus the downside risk was not small.

The common understanding of many members was that the effects of the fiscal measures would support Japan's economic activity through at least the first half of the year 1999, considering that (1) credit crunch was expected to be alleviated due to the large-scale support from the financial side, which included provision of ample liquidity and capital; and (2) the fiscal expansion measures such as the emergency economic package and large-scale tax cuts would materialize, in addition to the comprehensive economic stimulus package.

Members discussed from various perspectives whether the above fiscal measures would lead to a self-sustained economic recovery led by the private sector.

One member commented that positive growth could be expected during the coming six months or, at the longest, twelve months, supported by the fiscal measures. In this member's view, private-sector demand could turn either to an increase or a decrease, depending on which of the following scenarios materialized: (1) an acceleration of the weakening of private-sector demand due to the current fast pace of the downward revision in corporate profits and salaries; and (2) an increase in consumption due to the strengthening of consumer confidence induced by the positive growth. Another member was of the view that the outlook of private-sector demand was highly uncertain, taking into account the large output gap and the weak business and consumer confidence.

A different member remarked that anxiety in the financial markets had lessened, enabling economic entities to think of the immediate future of their own, and that the fiscal measures provided one of some prerequisites for the economy to hit bottom. However, the member continued, considering the current situation in which firms had not yet drastically adjusted employment and capital stocks, it was not clear whether the economy could bottom out. The same member mentioned that, for financial developments, careful monitoring continued to be necessary, because strong tension remained at the level of individual firms and financial institutions although various policy effects had started to materialize at the macroeconomic level.

Several issues were pointed out by many members as important in forecasting future economic developments.

First, as for industrial structure reform, one member mentioned that for firms to be competitive in the international markets, they urgently needed to improve their efficiency and productivity, and thus profitability; and to conduct a large-scale restructuring, considering that there existed a large output gap. The member was of the opinion that, in proceeding with restructuring, firms must consider generating demand by developing new technology and products, in addition to their efforts to reduce costs which may leads to the contraction of demand. The member strongly hoped that financial institutions would strengthen their capital base through the use of public funds. Further, the member stated that financial institutions needed to conduct urgent restructuring based on their medium-term perspective to include the disposal of nonperforming loans, streamlining of businesses, and revision of salary standards.

Another member cited the fact that in the 1990s, the expansion in public demand did not lead to an expansion in private-sector demand due to the balance-sheet adjustment burden. Taking this into consideration, the member thought that realizing sustainable economic growth in the medium to long term would inevitably involve solving firms' nonperforming assets problem.

In relation to this, one member expressed the view that large-scale restructuring of financial institutions' assets would lead to restructuring of firms. The member emphasized that this adjustment process would be inevitable but very painful.

Second, in relation to the above discussion, various opinions were given on the employment problem by some members who stated that employment adjustment would be an inevitable process for Japan's private-sector economy to go under necessary adjustments. Specifically, several members commented that stock adjustments by private firms would inevitably reveal excess labor at least for a certain period of time, which would result in a severe employment condition. They mentioned that it was necessary to establish a social safety net for the unemployed. Another member remarked that firms and financial institutions had no choice but to conduct a thorough restructuring to regain market confidence. The member further noted that, on the other hand, there existed a system under which government's employment adjustment grants could be given to firms not cutting employment. The member cast doubt on whether firms' restructuring would be able to be carried through fully given the existence of such a grant system.

Third, as for fiscal conditions, several members expressed the view that the fiscal deficit would be very large due to the emergency economic package, and therefore, fiscal management in the future would be extremely difficult. One of the members holding the above view claimed that local governments were faced with a severe financial situation and that their financial resources were limited. Another member stated that, under these circumstances, when additional fiscal measures became necessary, the ways of their implementation or its framework should be carefully studied. Specifically, the member said that it was important to clarify whether the main objective of the fiscal measures would be creation of demand as was usually the case in the past, or adjustment of supply side of the economy.

Although most of the members supported the view that the economic deterioration would be averted at least for a while due to positive effects of the fiscal measures, one member claimed that the downside risk to the economy would again intensify. According to this member, (1) the output gap still continued to expand and therefore the price decline would accelerate; (2) the effects of the appreciation of the yen from the latter half of August 1998 would gradually surface; (3) anxiety existed over the U.S. economic outlook; and (4) fiscal constraint had strengthened at both the central and local government levels. Considering these points, the same member stated that the economic growth rate for fiscal 1998 would be lower than the revised projection of the government (minus 1.8 percent) and that negative growth was highly likely to continue in fiscal 1999.

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

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

The majority of members were of the opinion that (1) the economy and the financial markets in Japan were currently experiencing a temporary stability; (2) deterioration in the economy would be averted toward the first half of 1999 due to the positive effects of the fiscal measures; and (3) a recovery in private-sector demand, however, was still not foreseeable at this point.

A member added to the above points by stating that, although some improvements had been observed among economic indicators, it was too early to conclude that they were signs of an economic recovery, and in addition, the stability of the financial markets was still frail. The member suggested that the current decisive easy stance of monetary policy be continued with due consideration given to corporate financing toward the end of the calendar year and the fiscal year, while monitoring progress in the financial system revitalization as well as in tax system reforms.

As regards the new measures for money market operations to facilitate corporate financing decided at the last meeting, many members shared an opinion that the Bank should effectively utilize the measures, and their effects should be monitored and evaluated carefully. In relation to this opinion, one member added that, in providing support to corporate financing, the Bank must pay particular attention to maintaining the soundness of its assets.

On the current rise in long-term interest rates, a few members expressed their views. A member stated that it needed a careful monitoring whether the rates, regardless of the economic situation, would continue to rise reflecting anxiety over the long-term prospects of fiscal management although, in theory, interest rates do not rise in a phase of a recession. Another member pointed out that a rise in long-term interest rates accompanying an expansion in fiscal deficit could lead to the appreciation of the yen, and if that happened, its effects on the economy warrant attention.

Based on the above discussions, the majority of members agreed that the current decisive easy stance of monetary policy should be maintained in conducting the Bank's market operations.

Against the above majority opinions, one member questioned on the appropriateness of maintaining the current easy monetary policy stance. The member elaborated the doubt by indicating that the monetary easing on September 9 had yet to gain any evidence of positive effects on the economy, while having a high opinion of the new measures for money market operations to facilitate corporate financing decided at the last meeting.

By contrast, another member claimed that a further monetary easing was necessary to avoid deflation on the ground that (1) structural reform of the Japanese economy would take a long time; (2) it would be difficult for the government to take further large-scale economic stimulus measures under the current severe fiscal constraint; (3) the economy was already in a deflationary situation, and negative growth of nominal GDP must be averted; (4) there was a risk of an acceleration in price declines in the future considering the large size of the output gap; and (5) the amount of public funds that financial institutions would accept was likely to be very limited. In addition, the member expressed a concern about the possible surge in the yields on Japanese government bonds in the year 2000, which might occur if postal savings depositors would not shift the large amount of funds maturing in the year 2000 to Japanese government bonds. In view of the above, the same member made a proposal that "the Bank would encourage the uncollateralized overnight call rate to move on average around 0.15 percent, aiming at raising the annual average rate of increase in the consumer price index (all items) to zero in the medium term."

A series of discussion followed among members on the expression, "aiming at raising the annual average rate of increase in the consumer price index (all items) to zero in the medium term."

At first, a member asked whether the expression meant the introduction of the so-called "inflation targeting." The member who made the proposal claimed that the expression just represented the Bank's strong commitment to avoid deflation and was not based on the idea of inflation targeting. In the following discussion on the expression, the member stated that one of the lessons learnt from the Great Depression of the United States was to avoid continued falls in prices of goods and services. Taking into account both this lesson and the present situation in Japan, the member claimed that the Bank should emphasize the importance of avoiding deflation in interpreting the price stability, which is usually defined as "the situation neither inflationary or deflationary." The member continued that the Bank, as a central bank, should commit itself to avoid deflation and try every possible measure.

Other members, however, shared the understanding that the expression could be interpreted as the adoption of inflation targeting, and expressed their opinions.

A member, who first expressed that the member did not object to introducing inflation targeting, pointed out that the concrete and effective policy measures for inflation targeting had not been confirmed at present, and that in those circumstances, the credibility of the Bank and its policies could be impaired by such a commitment. The member also brought about the following technical questions regarding the proposal.

  1. (1) How could a situation that is neither inflationary nor deflationary be described over price indicators, "rate of increase at zero" or "an increase by a small margin"?
  2. (2) What indicators should be used in measuring prices, the consumer price index (all items) as suggested in the proposal or other alternative price indicators?
  3. (3) How long the target period could be to achieve certain results?

Some members questioned the consistency between setting a price target and reducing the uncollateralized overnight call rate by 0.1 percent. In addition, one of the above members doubted that announcing such a target could have effects on the activities of people expecting deflation.

Another member expressed an opinion that the Bank did not need to indicate a specific target figure because it had already been widely known that the Bank has responsibility for stabilizing prices, that is to avoid inflation and deflation, as stipulated in Article 2 of the Bank of Japan Law.

Another member expressed a view that, in implementing monetary policy, it was natural that a central bank has a will to avoid genuine deflation. The member was, however, of the opinion that it was not appropriate to declare such a will in the form of inflation targeting, and in addition, it was difficult to include the declaration of the will in the directive on money market operations, and the will should rather be expressed in some other forms and styles.

VII. Remarks by a Government Representative

The representative from the Economic Planning Agency made the following remarks.

The government decided on an emergency economic package on November 16, in order to ensure positive economic growth in fiscal 1999 and to place the economy back on the recovery path in fiscal 2000. In this package, the government attached primary importance to financial system stabilization measures and anti-credit crunch measures. The package included measures that were further strengthened to create jobs and those to promote housing investments, and referred to measures for managing global economic risks.

As mentioned in the package, the government asked for continued efforts of the Bank to manage monetary policy appropriately and flexibly. From such a viewpoint, the government would support the temporary lending facility for facilitating corporate financing decided in this meeting.

VIII. Votes

At the conclusion of the above discussions, the majority of members shared the view that (1) deterioration in the economic situation would be averted until the first half of the year 1999 due to the positive effects of the fiscal and monetary policy measures; and (2) the prospect of the economy in and after the second half of 1999 was, however, highly uncertain and there would remain a substantial downside risk to the economy taking into account the existence of large output gap and deflationary pressure. Based on the thought, the majority of members were of the opinion that the Bank should therefore maintain the current decisive stance on easy monetary policy as well as effectively utilize the new measures for money market operations decided at the last meeting to facilitate corporate financing, while observing the effects of the fiscal measures and financial system stabilization measures as well as developments in tax system reforms.

Meanwhile, a proposal claiming a further reduction in the target rate for money market operations was submitted in order to prevent the Japanese economy from falling into a deflationary spiral. Therefore, two policy proposals were put to the vote.

Mr. Nakahara, proposed the following as the policy directive:

The Bank would encourage the uncollateralized overnight call rate to move on average around 0.15 percent, aiming at raising the annual average rate of increase in the consumer price index (all items) to zero in the medium term. Regardless of the above guideline for the call rate, the Bank of Japan would provide more ample funds, if judged necessary, to maintain the stability of the financial markets.

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).

The Bank of Japan would encourage the uncollateralized overnight call rate to move on average around 0.25 percent.

Regardless of the above guideline for the call rate, the Bank of Japan would provide more ample funds, if judged necessary, to maintain the stability of the financial markets.

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

Mr. Nakahara dissented, claiming that a further monetary easing was necessary in order to indicate clearly the Bank's determination to avoid deflation on the ground that (1) it would take some more time for firms to adjust capital stocks and employment in excess; (2) it would be difficult for the government to take further economic stimulus measures under the current severe fiscal constraint; and (3) there was a risk of an acceleration in price declines in the future.

Ms. Shinotsuka dissented, claiming that she could not agree to continue the current easy stance of monetary policy. This was based on the thinking that (1) the current interest rate level was extremely low; and (2) the monetary easing on September 9 had yet to gain any evidence of positive effects on the economy.


Attachment

For immediate release

November 27, 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.