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Minutes of the Monetary Policy Meeting

on July 12 and 13, 2001
(English translation prepared by the Bank's staff based on the Japanese original)

August 17, 2001
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, July 12, 2001, from 2:01 p.m. to 3:57 p.m., and on Friday, July 13, from 9:00 a.m. to 12:59 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. T. Miki
Mr. N. Nakahara
Mr. K. Ueda
Mr. T. Taya
Ms. M. Suda
Mr. S. Nakahara

Government Representatives Present
Mr. H. Fujii, Deputy Vice Minister for Policy Planning and Coordination, Ministry of Finance
Mr. H. Takenaka, Minister of State for Economic and Fiscal Policy, Cabinet Office2
Mr. Y. Kobayashi, Director General for Economic and Fiscal Management, Cabinet Office3

Reporting Staff
Mr. M. Matsushima, Executive Director
Mr. M. Masubuchi, Executive Director
Mr. S. Nagata, Executive Director
Mr. M. Shirakawa, Advisor to the Governor, Policy Planning Office
Mr. M. Amamiya, Associate Director, Policy Planning Office
Mr. I. Yamashita, Director, Financial Markets Department
Mr. H. Hayakawa, Director, Research and Statistics Department
Mr. T. Yoshida, Senior Manager, Research and Statistics Department
Mr. E. Hirano, Director, International Department

Secretariat of the Monetary Policy Meeting
Mr. I. Yokota, Director, Secretariat of the Policy Board
Mr. T. Murayama, Advisor to the Governor, Secretariat of the Policy Board
Mr. H. Onobuchi, Manager, Secretariat of the Policy Board
Mr. K. Etoh, Senior Economist, Policy Planning Office
Mr. S. Shimizu, Senior Economist, Policy Planning Office

  1. The minutes of this meeting were approved by the Policy Board at the Monetary Policy Meeting held on August 13 and 14, 2001 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. Takenaka was present on July 13.
  3. Mr. Kobayashi was present on July 12.

I. Summary of Staff Reports on Economic and Financial Developments4

A. Money Market Operations in the Intermeeting Period

Market operations in the intermeeting period were conducted in accordance with the guideline determined at the previous meeting on June 28, 2001 so that the outstanding balance of current accounts at the Bank was around 5 trillion yen.5 As a result, the uncollateralized overnight call rate was stable at 0.01-0.02 percent, except for June 29 when it rose to 0.06 percent due to month-end factors.

A new system to facilitate bidding procedures in market operations had been developed and would start operating on July 23. This system enabled the implementation of bill purchasing operations at the head office and all branches of the Bank in Japan. The new system would also be able to accept bid rates to three decimal places in competitive yield auctions (the unit for all bids would be 0.001 percent).

  1. 4Reports were made based on information available at the time of the meeting.
  2. 5The guideline was as follows:
    The Bank of Japan will conduct money market operations, aiming the outstanding balance of the current accounts at the Bank at around 5 trillion yen.
    Should there be a risk of financial market instability, e.g., a rapid surge in liquidity demand, the Bank will provide ampler liquidity irrespective of the guideline above.

B. Recent Developments in Financial Markets

Short-term interest rates in general hovered at an extremely low level, below the bottom recorded under the zero interest rate policy. Stock prices weakened, and long-term interest rates started to rise. In the foreign exchange market, the yen was on a depreciating trend. These developments in the financial markets could be attributed to factors such as the fall in U.S. stock prices, market participants' cautious view of Japan's economy, and growing expectations of implementation of an additional economic stimulus package.

Japanese stock prices weakened further, reflecting successive downward revisions of corporate profits of IT-related industries in the United States, and the increased concern about the downward pressure caused by unwinding of cross-shareholdings in Japan. The fall in IT-related stocks, such as electrical appliances, communications, services, and bank stocks pushed down the overall level of stock prices.

Long-term interest rates, mainly the longer end of the yield curve, rose and the curve became steeper. This was due to profit-taking sales by investors expecting implementation of an economic stimulus package and an associated increase in issuance of Japanese Government Bonds (JGBs). Recently, the rates were stable at around 1.3 percent.

In the foreign exchange market, the yen fluctuated in a range of 123-125 yen to the U.S. dollar until the beginning of July, but depreciated thereafter due to mounting concerns over Japan's economic outlook. Recently, the yen was moving between 125-127 yen to the U.S. dollar. As for the outlook, many market participants foresaw that developments in the market would be sensitive to economic conditions in Japan and abroad, the pace of progress in structural reforms in Japan, and developments in emerging markets.

C. Overseas Economic and Financial Developments

In the United States, although the decrease in production in IT-related industries continued to be pronounced, traditional industries were holding out, and demand in the household sector remained firm. Business confidence showed signs of bottoming out as evident in the National Association of Purchasing Management (NAPM) index for June, which showed improvement mainly in production and new orders. For the outlook, many market participants thought that momentum for economic recovery could emerge from autumn this year to the beginning of next year due to progress in inventory adjustments and permeation of effects of monetary easing and tax cut measures, but the strength of the momentum would be weak thereafter. Meanwhile, the labor market continued to ease reflecting the decrease in the number of employees mainly in manufacturers. Prices were generally stable.

In the euro area, private consumption remained firm. In the corporate sector, however, slower growth in production and new orders was in evidence mainly in Germany and France, and business sentiment continued to deteriorate. Business fixed investment in the manufacturing sector seemed to be decreasing, and the economic slowdown was gradually spreading among major countries in the area.

East Asian economies continued to decelerate. A continued decline in exports of goods to the United States and Japan, mainly in IT-related goods, was causing a downtrend in production. There were still no signs of bottoming out in these economies.

In the international financial markets, the following developments were noteworthy: stock price declines in major markets; appreciation of the U.S. dollar against many currencies; and instability in the financial markets of emerging economies.

Regarding stock prices, deterioration in corporate profits of IT-related firms not only in the United States but also in Europe and Japan was exerting negative pressure on their levels. This indicated uncertainty in the prospects for the IT sector, and it was also the majority view of market participants that the global adjustment in IT-related industries would be prolonged.

Emerging economies were becoming unstable. Yield spreads of government bonds of debtor countries such as Argentina and Turkey against U.S. Treasuries continued to expand significantly. In particular, the economic instability in Argentina was spreading to Brazil, and therefore, the possibility that the problems of one country might become a global risk warranted attention.

D. Economic and Financial Developments in Japan

1. Economic developments

Adjustments in Japan's economy were intensifying, as imports and production continued to decline reflecting the global economic slowdown and the fall in IT-related demand. However, the effects of adjustments in IT-related industries on other domestic industries were marginal for the time being. These developments were confirmed in the June Tankan (Short-Term Economic Survey of Enterprises in Japan).

Business sentiment in manufacturing industry was deteriorating considerably, whereas in nonmanufacturing industry it was either generally unchanged or declining slightly. A breakdown by industry showed that business sentiment deteriorated sharply especially in IT-related industries, such as electrical machinery, in which sentiment had greatly improved in the economic recovery phase in 2000. On the other hand, business sentiment deteriorated very little in industries related to private consumption, whose sentiment had scarcely improved in the same economic recovery phase.

Corporate profits were expected to decrease substantially in the first half of fiscal 2001, particularly in manufacturers, and then to rebound and start to increase in the second half. However, the rebound expected in the second half might be attributable to the fact that some large firms had revised upward their profit forecast for the second half to make up for the decrease in the first half while keeping their forecast for the entire 2001 fiscal year unchanged. The expected increase in corporate profits could also be interpreted as indicating that some firms continued to expect a recovery of overseas economies and IT-related demand in the second half.

Business fixed investment was likely to start decreasing, given developments in shipments of capital goods. Plans for fixed investment for fiscal 2001 reported in the June Tankan indicated firms' cautious attitude toward investment: (1) the fairly high growth in large manufacturers' investment plans merely reflected the fact that some investment plans were carried over from fiscal 2000; and (2) the upward revision in the investment plans of small and medium-sized firms was smaller than usually observed at this time of the year. However, judging from leading indicators, such as machinery orders, the year-on-year decrease in business fixed investment was not expected to be very large.

As for the employment situation, the unemployment rate for May marked a record high while the ratio of job offers to applicants remained flat after declining from the end of 2000 to March 2001. The number of new job offers as a whole started to increase slightly. In detail, while the number in the manufacturing sector followed a downward trend, that in the nonmanufacturing sector started to increase again.

Private consumption remained flat on the whole. Sales at department stores and passenger car sales were firm, while the supply of consumer goods was recently somewhat weak.

With the ongoing adjustments in economic activity, prices were likely to be subject to downward pressure from the imbalance between supply and demand in the domestic market. Moreover, considering the effects of technological innovation and the streamlining of distribution channels, various price indexes were expected to be weak for the time being.

2. The financial environment

Regarding the financial environment, it was judged that the effects of the monetary easing measures implemented in March had not fully played themselves out and were still in the process of permeating through the financial markets.

Regarding firms' fund-raising costs, the average contracted interest rates on new loans and discounts seemed to have already reached the lowest possible level, but overall, including those already contracted, there was still room for a further decline. Credit spreads for corporate bonds were generally narrowing close to the narrowest level recorded during the zero interest rate policy, and they could contract further.

Issuance of corporate bonds and CP continued to expand against the background of the decline in market interest rates and an increased willingness among investors to take credit risk. The share of corporate bonds and CP issued by firms with lower credit ratings was increasing, and the environment for issuing these instruments was improving further.

Looking at monetary aggregates, the growth rate of the monetary base was increasing recently as post offices increased their cash holdings in preparation for an expected massive withdrawal of postal savings due to mature. The year-on-year growth rate of money stock (M2+CDs) in June was 3.2 percent, higher than that of the previous month. A closer look at each component of money stock showed that cash currency and deposit money had recorded high growth, which indicated the shift of funds from postal savings as well as the strengthening preference for liquidity.

As for banks' lending, there had been signs that banks were becoming eager to increase lending to blue-chip firms but were cautious about lending to firms with lower creditworthiness. However, such polarization of banks' lending stance did not seem to be widely in evidence at present. For example, the June Tankan showed that firms' perception of their financial position and of financial institutions' lending attitude had hardly changed among firms of all sizes, and the results of other surveys also confirmed that the polarization was not widespread. Developments in banks' lending stance continued to require monitoring.

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

A. Current Economic Situation

Many members took a more cautious view than the previous month on the current state of the economy as it had become clearer that exports and production, mainly in IT-related industries, were declining substantially. One of these members described the economy as "deteriorating," and another member described it as "in a recession." A different member expressed the view that the economy was deteriorating further but the pace was not accelerating. Based on the above views, all members agreed on the basic judgment on the current economic situation that adjustments in economic activities were intensifying, which was slightly more cautious than the previous month.

Many members shared the view that, while adjustments were intensifying in production and inventory in IT-related industries, economic activity in other industries and the household sector continued to be relatively firm. A few of these members pointed out that domestic demand as a whole was not deteriorating, although production was declining. On this basis, they commented that the ongoing adjustments were mostly taking place in IT-related industries, just as high growth in exports and production in the recovery phase from 1999 had mostly taken place in IT-related industries. A few other members noted that, according to the June Tankan, it was principally in IT-related manufacturing that business conditions were seen as deteriorating and the deterioration was not widespread in other industries.

Against this view, some members said that adjustments were spreading to industries other than those related to IT. One member presented an analysis of developments in production by industry, and pointed out that a decline in production was observed not only in IT-related industries but also in others. This member continued that firms' views in the June Tankan contained too much expectation for the future and were inconsistent in certain aspects: for example, large manufacturers anticipated a significant improvement in the inventory level of finished goods and merchandise, whereas they had little expectation of improvement in the supply and demand conditions for their products. Another member remarked that the fall in construction demand and the increase in inventory adjustment pressures were becoming more clearly evident, and this was having a negative effect on the materials industries.

Many members remarked that corporate profits were deteriorating owing to a substantial decline in production. Some members commented on firms' forecasts in the June Tankan that their profits would recover in the second half of fiscal 2001. They said that this recovery was, however, subject to uncertainty because the forecasts were based on the assumption of a recovery in overseas economies in the near future or on mere wishful thinking. One of these members said that firms' profits were declining, and if this trend were to continue, they would most likely record substantial losses in the second half of fiscal 2001. A different member presented the member's analysis that manufacturers' profits were decreasing due to the reduction in output and the decline in unit profit caused by the rise in unit labor cost.

A few members pointed to the fact that, following the deterioration in corporate profits, signs showing weakness in business fixed investment were increasing. One member expressed the view that the growth in firms' cash flow that usually preceded a rise in business fixed investment was becoming sluggish, and it was unlikely that machinery orders would rebound and start increasing. Some other members argued that a substantial decline in business fixed investment could be avoided for the following reasons. First, capital stock adjustment pressures were not so strong because firms had kept their investment levels low even in the economic recovery phase of 2000, in view of the fairly low expected growth rate of the economy. Second, the achievement ratio for the forecast of machinery orders showed signs of a recovery. Third, investment by users of IT-related goods, such as investment in software, was increasing.

With respect to the influence of the deterioration in corporate activity on the household sector, a few members commented that attention should be paid to the effects of the deterioration in corporate profits on wages and employees' income because the share of labor in income distribution and unit labor cost were rising recently. On this point, a different member said that the decline in corporate profits would not lead directly to a significant cut in employees' income, due partly to restructuring efforts to date. Another member pointed out that the number of new job offers could start increasing in industries other than IT-related industries, and whether such an uptrend would continue was a matter that warranted attention.

Many members shared the view that private consumption was generally flat. One member said that it remained at normal levels.

Regarding the above economic situation, one member said that there was still some possibility that the economy would turn around before the end of 2001 given the fact that the achievement ratio seemed to be recovering for the forecast of machinery orders, the amendment and realization ratios in the production index had shown a slower decline, and the ratio of the coincident indicator to the lagging indicator for the composite indexes of business conditions had been rising after hitting bottom in February 2001. Against this view, a different member argued that the improvement in the composite indexes of business conditions was only temporary, and thus the economy should be judged as being in a recession.

With regard to prices, one member pointed out that domestic wholesale prices were weak against the background of global adjustments in IT-related industries and a deterioration in the supply-demand balance in the domestic market for materials. Another member commented that domestic wholesale prices seemed to be weakening further recently. This member added that the decline in domestic wholesale prices might accelerate from the autumn, judging from the continuous fall in the Index of Producers' Final Demand Goods and Inventory Shipment Ratio, a leading indicator. A different member also added that the fall in prices coupled with the decline in production was causing the deterioration in corporate profits.

B. Economic Outlook

Members commented on the outlook for Japan's economy that, based on the assessment that adjustments were likely to continue mainly in production, a self-sustained recovery of domestic demand could hardly be expected and the economic outlook for the second half of 2001 was highly uncertain. A few of these members expressed concern that inventory adjustments might be protracted. One member added that the deterioration of the economy would continue toward the end of September at the time of most firms' interim book closings, and developments thereafter would warrant special attention.

Many members cited the following as points that would require monitoring: (1) developments in overseas economies, especially in the United States, and the extent of global adjustments in IT-related industries; (2) to what extent adjustment pressure would affect the household sector; and (3) progress in structural reforms in Japan and its effects. One member expressed the view that it was becoming critical whether adjustments in IT-related industries could reach near-completion while the economic activity of industries other than those related to IT continued to be relatively firm.

As for the U.S. economy, many members expressed a cautious view that adjustments, mainly in IT-related industries, were continuing for a long time, pointing out that (1) the effects of interest rate cuts of 275 basis points since the start of 2001 had not emerged yet, and (2) an increasing number of IT-related firms were revising their earnings forecasts downward. One member voiced concern about the prospects for IT-related demand, given the sharp drop in new orders for computers and electronic parts in May. A different member expressed the view that it was likely that U.S. firms had accumulated excess capital stock and their employment costs had risen too high during the prolonged economic expansion, and thus many of these firms would start restricting their business fixed investment and reducing their workforce, which could negatively affect the household sector. Another member said that the interest rate cuts in the United States would support traditional industries to some extent, but it was uncertain whether a recovery in these industries alone would lead the economy to a full-fledged recovery.

A few members expressed the view that the scenario for a recovery of the U.S. economy starting from the end of 2001 to early 2002 could remain valid, taking into account the effects of the tax reduction and the fact that corporate and household confidence indexes were starting to bottom out. A different member, however, remarked that it could hardly be expected that adjustments in IT-related industries would be completed by the end of 2001. Another member also expressed the view that the U.S. economy was still on a downtrend because (1) savings, especially of households with low income, seemed to be increasing, (2) the employment situation was deteriorating, and (3) the prospects for consumer confidence were not good. This member also added that the U.S. financial sector would be significantly damaged if the economy deteriorated further.

Regarding the effects of the slowdown of the U.S. economy on the world economy, one member said that the world economy had become increasingly dependent on the U.S. economy, and the slowdown was significantly affecting economies in Asia and Europe. This member added that the U.S. economy was also susceptible to developments in overseas economies because, by value, sales outside the United States of U.S. firms' affiliates overseas were twice as large as U.S. exports. A different member expressed the view that reduced production and investment by U.S. firms in Europe had led, to some extent, to the economic slowdown in Europe, and such multinational firms' international activities were strengthening the global linkage of adjustments in IT-related industries. Another member noted that there could be effects spreading via capital markets if global adjustments in stock prices, mainly of IT-related stocks, intensified. One member remarked that some manufacturers who had been supporting the Japanese economy were becoming less competitive in international markets, and this was one of the reasons for the uncertainty in the prospects for Japan's exports.

On structural reforms in Japan, one member commented that it was difficult to judge what their effects on the economy would be since the details had not been disclosed yet. Another member agreed with this view, and added that the outline of the budget for fiscal 2002 should be closely examined. A different member stressed that Japan's decision to tackle structural reforms was welcomed overseas, and it was important to start the reforms as soon as possible, starting from ones that were relatively easy to carry out, in order not to slow the overall pace of the reforms.

Some members presented the assessment of the current economic situation in comparison with the "Outlook and Risk Assessment of the Economy and Prices" (hereafter, Outlook Report) determined in April. One member expressed the view that the possibility could not be ruled out that the economy had started to deviate downward to some extent from the standard scenario, but not to such a great extent that it had fallen into a spiral deterioration. A different member said that the downside risks in the current economic situation were within the range of the members' forecasts in the Outlook Report. Based on these views, many members agreed that downside risk to the economy was now increasing faster than it had been in April at the time of the Outlook Report.

C. Financial Developments

One member expressed the opinion that the monetary easing measures decided in March were still in the process of permeating into the financial markets, giving the following reasons. First, banks' lending rates were able to continue to fall reflecting the decline in market rates. Second, in the corporate bond and CP markets, market participants were increasingly taking advantage of falling interest rates and narrowing credit spreads. And third, despite a deterioration in their earnings, firms' perception of financial institutions' lending attitude had not changed much. However, a different member said that although some effects of monetary easing had been observed on the financial front, market participants seemed to have started to perceive the effects of the easing as having played themselves out. The member continued that banks were extending loans according to borrowers' creditworthiness, and small and medium-sized firms could face more difficulty in their financing in the future.

Many members shared the view that attention should be paid to how stock prices would affect the economy because market participants' view of Japan's economy was becoming more cautious. One of these members said that it remained highly uncertain whether global adjustment pressures in IT-related industries would subside, and stock prices were falling worldwide. A few other members commented on recent developments in the stock market in relation to structural reforms in Japan, and said that the market was not focusing on the positive side of structural reforms but was concerned about their deflationary effects and side effects. Another member noted that firms were already starting to unwind their cross-shareholdings in view of the interim book closings at the end of September, and this might push down stock prices in the future. A different member added that there was also a possibility that a fall in the stock prices of financial institutions could have an adverse effect on the book-closing results of firms with cross-shareholdings.

One member said that if stock prices rose as a result of the measures to invigorate securities markets and the Bank's liquidity provision, corporate and household sentiment would improve and households would start to increase consumption by spending their financial assets of 1,400 trillion yen, stimulating the economy. In relation to this, a few other members commented that, although tax system reforms would be one of the prerequisites for a recovery in stock prices, it was essential that expectation of a recovery in corporate profits should emerge among market participants.

Members commented on developments in U.S. stock prices. One member presented the results of technical analysis, and said that U.S. stock prices had been extremely fragile in June, but had started to recover slightly in July, albeit with some fluctuations. The member added that developments would require monitoring because they could decline between September and October.

Some members commented on the recent rise in long-term interest rates. One member expressed the view that the rise would have little effect on economic activity because long-term interest rates were generally still at a very low level, but the fact that they rose in a reaction to discussions relating to a supplementary budget showed that the market was cautious about the supply-demand balance of JGBs and the risk of an interest rate hike in the future. Another member remarked that long-term interest rates remained at a relatively low level due to (1) expectations of fiscal structural reforms, (2) the current virtual zero interest rate policy, and (3) the market's worsening view of the economy, but at the same time market participants seemed to be deeply concerned about Japan's fiscal condition.

A few members commented on the instability in emerging economies, such as Argentina and Turkey. One of these members expressed concern that if the instability spread to other economies, this could negatively affect international financial markets and the world economy.

There was active discussion of the issue concerning real interest rates. A few members noted the difficulty of accurately estimating the expected inflation rate to calculate real interest rates. One member commented that recent real interest rates, which were calculated from the actual inflation rate for simplicity, were at historically low levels and the difference between real and nominal interest rates was marginal, and therefore it was unlikely that the level of the rates was greatly hampering economic activity. This member continued that it was due to weak demand, rather than the current interest rate levels, that firms were not increasing their business fixed investment while proceeding with their balance-sheet adjustments. A different member also added that the level of real interest rates did not seem to be directly influencing firms' decision making in investment because firms generally evaluated their investment projects by comparing their fund-raising costs with cash flows from investment.

Against these views, one member said that real interest rates using a "core consumer price index," calculated by excluding the cost of housing rent and energy prices as well as perishables, had increased by 2-3 percent since 1997 and were therefore not at historically low levels. This member introduced a view of a famous economist in the United States who considered that Japan's economy was in a liquidity trap, and said that it would be appropriate to judge that real interest rates were too high relative to the equilibrium level.

Members discussed the tendency of real interest rates to converge worldwide. One member commented that, in an open economy, real interest rates would eventually converge, and thus it was unlikely that real interest rates in Japan would remain higher than in other countries in the long term. Some members including this member agreed, however, that real interest rates in each economy would move independently of each other in the short term, and this was where monetary policy could be effective.

On the basis of the above views, a few members summed up the discussion on real interest rates as follows. Japan's nominal interest rates, which were controllable by monetary policy, had declined to almost the lowest possible level, and in this situation, the issue concerning real interest rates which should be the focus of discussion was whether it was possible to change the public's expected inflation rate.

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

Members discussed the monetary policy stance for the immediate future.

Many members agreed that (1) adjustments in economic activities were intensifying, as production was declining substantially reflecting a fall in exports, (2) adjustments were mainly in IT-related industries, and those in other industries and in the household sector were marginal to date, and (3) the downside risk to the economy was increasing faster than in April 2001, at the time of the Outlook Report.

All members therefore concurred that the Bank should maintain the current guideline for market operations and closely examine economic developments at home and abroad, such as the size of the adjustment pressures in IT-related industries and the extent to which adjustments would spread to other industries and the household sector.

One of these members added that although the current economic situation suggested a need for further monetary easing, it would not be too late to make a decision after the direction of U.S. stock prices became clear. A different member said that the following would be the key points in determining monetary policy in the future: (1) the results of most firms' interim book closings at the end of September; (2) the outline of the fiscal 2002 budget; (3) discussions relating to a supplementary budget for fiscal 2001; (4) developments in stock prices in view of the interim book closings; and (5) various economic indicators, including GDP data.

Many members also discussed the economic situation under the current monetary policy.

A few members presented the view that the economy was in a situation similar to a liquidity trap, and the funds provided by the Bank were not being fully utilized. A different member continued that firms' demand for funds was weak due to their balance-sheet adjustments, and thus an abundance of funds was only being passed around in the financial markets. Some members including these members pointed out that in the current situation it was fairly difficult to raise the expected inflation rate by monetary policy alone and therefore it was necessary to stimulate demand by other means. One member commented that although the most effective way to stimulate demand was to increase fiscal expenditure, the Government placed a higher priority on fiscal structural reforms for various reasons. This member added that the effects of fiscal structural reforms on the economy and prices should be considered carefully when implementing them. Many members agreed that, in these circumstances, the scope for monetary policy action was extremely limited considering the effects, including side effects, and the feasibility of possible measures.

One member commented on the view that monetary policy was effective in combating deflation because it was a monetary phenomenon. This member explained that price development was said to be a monetary phenomenon but the quantity theory of money, MV=PQ, was merely an identity equation, and in the short term prices were determined by the balance of supply and demand. This member added that the fundamental issue was what kind of policy measures could be taken to improve that balance, and money and prices did not have such a simple relationship that increasing money would lead directly to a rise in prices.

Next, members exchanged views on monetary policy in the future.

Some members remarked that it was the central bank's duty to provide an ampler supply of funds if demand for funds increased rapidly due to such a situation as a resurgence of concerns about the stability of the financial system. These members noted that the Bank had already committed itself in this regard with its current monetary policy measures.

On these grounds, many members shared the view that the Bank would need to take additional policy measures if the downside risk to the economy increased further. Some members commented on possible easing measures such as (1) setting a higher target for the outstanding balance of current accounts at the Bank or (2) enhancing money market operations, by for example increasing outright purchases of JGBs. These members said that, since short and medium-term nominal interest rates had already declined to close to zero percent and the scope for possible monetary policy measures was limited, such measures would mostly contribute to improving business and household sentiment and the expectations of the markets. These members also added that the Bank should carefully examine the best timing for implementing additional measures and ways to minimize their side effects. One of these members stated that the recent developments in long-term interest rates suggested that the market was becoming rather nervous about the future fiscal situation and the supply and demand balance in bond markets, and thus it was essential to secure market confidence in the overall monetary policy measures.

Members also exchanged views on inflation targeting. One member defined inflation targeting as setting a numerical target for price stability in terms of the rate of increase in prices and making a commitment to achieve the target in a specified period. This member emphasized that the aim of the targeting would be to achieve price stability and not to directly push up prices. The member continued that the commitment to continue the current policy was considered to have similar effects to adopting inflation targeting. Some members including this member pointed out the problems of adopting inflation targeting--setting a target for price stability--and measures to achieve the target as follows. First, setting a specific numerical target for price stability was difficult because prices in Japan were greatly affected not just by demand-side but also by supply-side factors, such as technological innovation and deregulation. Second, it would be difficult to attain a specific numerical target for prices by means of monetary policy alone under the current circumstances where nominal interest rates were close to zero percent and firms were still undergoing substantial balance-sheet adjustment. A different member commented that it was not certain that the expected inflation rate had increased despite the Bank's commitment to continue the current policy until the consumer price index registers "stably a zero percent or an increase year on year," and this also showed the difficulty of increasing the expected inflation rate. As a result of the discussion, the majority of members agreed that it was not appropriate to adopt inflation targeting at present.

In response to this, one member reiterated the view the member had held for some time that the Bank should consider adopting inflation targeting to increase the transparency of its objective. This member remarked that a clear distinction should be made between inflation targeting, which could be supported from certain theoretical standpoints, and a policy aimed at creating a certain level of inflation.

Based on the above discussion, members concurred that the Bank should continue to carefully examine the effects, including side effects, and the feasibility of possible additional easing measures.

Many members commented on developments in the foreign exchange rate. One member remarked that while prices of export goods were on a disinflationary trend worldwide due to global competition, prices of non-tradable goods would continue to weaken as economic structural reforms progressed. This member added that it would be difficult to stabilize prices without a depreciation of the yen. A few other members stressed that it would be inappropriate to stop a depreciation of the yen if it was brought about by the market mechanism, including as a result of monetary easing. One member, however, commented that the yen would not depreciate drastically given the fundamentals of Japan's economy such as the high outstanding balance of net assets, and it was inappropriate to artificially control the foreign exchange rate of the yen. Furthermore, another member said that a central bank should not take a particular position regarding the level of exchange rates. A different member summed up the above discussion and concluded by saying that it was appropriate to accept foreign exchange rates determined by the market reflecting various factors.

IV. Remarks by Government Representatives

The representative from the Cabinet Office made the following remarks.

(1) The members of the Policy Board agreed earlier in the meeting that the deterioration in the corporate sector due to a decline in exports and production was a reflection of a strong global linkage in IT-related industries, and the Government shared this view. Given the level of penetration of IT in Japan, it was possible and important to stimulate IT-related demand further and the Government would implement the e-government projects ahead of schedule.

(2) Through discussions earlier in the meeting on real interest rates, it had become even more clear that there was only limited scope for further monetary policy actions. The Government would, however, like to ask the Bank to continue discussing issues concerning real interest rates because they were one of the important variables in determining the level of business fixed investment, and monetary authorities were responsible for real interest rates.

(3) With respect to structural reforms, the Government had to set out a highly comprehensive policy package for the "Basic Policies" and thus discussions on specific details of structural reforms had been postponed until after the Upper House election. It was possible that this had caused market participants to consider that structural reforms would take time, but the Prime Minister had recently instructed to immediately proceed with reforms by starting from ones that were relatively easy to carry out. The Government was fully aware that it was important to generate new demand for funds through structural reforms, and it would continue making efforts in this regard. The Government would like to ask the Bank to deepen the discussion on monetary policy further with a view to harmonizing monetary policy with structural reforms.

(4) The Government judged that Japan's economy was deteriorating. The economic outlook continued to be bleak, as seen in the increase in inventories and signs of weakness in business fixed investment. The Government considered it important to advance structural reforms by implementing the "Basic Policies" recently decided by the Cabinet and by compiling a budget for fiscal 2002 that reflected these policies. The Government would like to ask the Bank to conduct quantitative easing measures in a timely manner, taking into account deflationary pressure emerging during the period of adjustment.

The representative from the Ministry of Finance made the following remarks.

(1) The role of monetary policy would become increasingly important in the process of structural reform as it would underpin Japan's economy and realize price stability. The current continuous fall in prices would dampen demand, reducing firms' incentive to invest through an increase in real interest rates and causing households to postpone spending. Moreover, there were concerns that a fall in prices would (a) put downward pressure on firms' profitability, (b) hinder reduction of real debt burden, and (c) make the nonperforming-loan problem more difficult to solve.

(2) Prices continued to decline even after the introduction of monetary easing measures in March. Although there was a concern that deflationary pressure might intensify further, it was uncertain to what extent the current easing measures would produce easing effects to realize price stability and when the current fall in prices would show signs of turning around. In light of the current high level of unemployment and the continuous fall in prices, a more effective monetary easing measure would be necessary and the Government would like to ask the Bank to conduct monetary policy in a timely and preemptive manner with foresight, and not to wait to see the effects of structural reforms before implementing new monetary easing measures.

(3) The Government would like the Bank to discuss further the most effective monetary policy from a wide variety of options, taking into account the following factors. First, the effects on the economy of the Bank's conventional market operations using short-term financial assets were limited as short-term interest rates were virtually zero. Second, it was important to influence the expectations of the markets and the public strongly to dispel deflationary concern.

The chairman commented on the remarks by Government representatives as follows.

(1) The above points mentioned by the Government representatives had been continuously discussed by the Board. The Board would bear in mind the Government's remarks and continue to have thorough discussions to make appropriate monetary policy decisions.

(2) As there was hardly any room left for conventional monetary policy measures, the effects, including side effects, and the feasibility of possible monetary policy measures should be examined carefully.

(3) The Bank hoped that the Government understood the Bank was doing its utmost to explore every avenue in discussing the best monetary policy based on its view that the economic situation was severe, and would welcome constructive suggestions by the Government at Monetary Policy Meetings.

(4) The Bank would continue to make efforts to conduct appropriate monetary policy as a central bank, and at the same time strongly hoped that the Government would push ahead with its efforts to advance its concrete plans for structural reforms.

V. Votes

Based on the above discussion, the members shared the view that the current guideline for money market operations should be maintained. To reflect this view, the chairman made the following proposal.

Chairman's Policy Proposal:

The guideline for money market operations in the intermeeting period ahead would be as follows, and would be made public by the attached statement (see Attachment).

The Bank of Japan will conduct money market operations, aiming the outstanding balance of the current accounts at the Bank at around 5 trillion yen.

Should there be a risk of financial market instability, e.g., a rapid surge in liquidity demand, the Bank will provide ampler liquidity irrespective of the guideline above.

Votes for the proposal: Mr. M. Hayami, Mr. S. Fujiwara, Mr. Y. Yamaguchi, Mr. T. Miki, Mr. N. Nakahara, Mr. K. Ueda, Mr. T. Taya, Ms. M. Suda, and Mr. S. Nakahara.

Votes against the proposal: None.

VI. Discussion on the Bank's View of Recent Economic and Financial Developments

The Policy Board discussed "The Bank's View" of recent economic and financial developments, and put it to the vote. By unanimous vote, the Board decided to publish "The Bank's View" on July 16, 2001 in the Monthly Report of Recent Economic and Financial Developments (consisting of "The Bank's View" and "The Background").6

  1. 6The original full text, written in Japanese, of the Monthly Report of Recent Economic and Financial Developments was published on July 16, 2001 together with the English version of "The Bank's View." The English version of "The Background" was published on July 17, 2001.

VII. Approval of the Minutes of the Monetary Policy Meeting

The Policy Board approved unanimously the minutes of the Monetary Policy Meeting of June 14 and 15, 2001 for release on July 18, 2001.


For immediate release

July 13, 2001
Bank of Japan

At the Monetary Policy Meeting held today, the Bank of Japan decided, by unanimous vote, to maintain the following guideline for money market operations for the intermeeting period:

The Bank of Japan will conduct money market operations, aiming the outstanding balance of the current accounts at the Bank at around 5 trillion yen.

Should there be a risk of financial market instability, e.g., a rapid surge in liquidity demand, the Bank will provide ampler liquidity irrespective of the guideline above.