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Minutes of the Monetary Policy Meeting

on May 19 and 20, 2004
(English translation prepared by the Bank's staff based on the Japanese original)

June 30, 2004
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 Wednesday, May 19, 2004, from 2:00 p.m. to 3:56 p.m., and on Thursday, May 20, from 9:00 a.m. to 11:59 a.m.1

Policy Board Members Present Mr. T. Fukui, Chairman, Governor of the Bank of Japan
Mr. T. Muto, Deputy Governor of the Bank of Japan
Mr. K. Iwata, Deputy Governor of the Bank of Japan
Mr. K. Ueda
Mr. T. Taya
Ms. M. Suda
Mr. S. Nakahara
Mr. H. Haru
Mr. T. Fukuma

Government Representatives Present Mr. H. Tsuda, Deputy Vice Minister for Policy Planning and Coordination, Ministry of Finance
Mr. T. Omori, Deputy Director General for Economic and Fiscal Management, Cabinet Office
Reporting Staff Mr. E. Hirano, Executive Director (Assistant Governor)
Mr. M. Shirakawa, Executive Director
Mr. A. Yamamoto, Executive Director
Mr. Y. Maehara, Adviser to the Governor, Policy Planning Office
Mr. H. Yamaguchi, Adviser to the Governor, Policy Planning Office
Mr. S. Uchida, Senior Economist, Policy Planning Office
Mr. H. Nakaso, Director-General, Financial Markets Department
Mr. H. Hayakawa, Director-General, Research and Statistics Department
Mr. K. Momma, Deputy Director-General, Research and Statistics Department
Mr. A. Horii, Director-General, International Department
Secretariat of the Monetary Policy Meeting Mr. K. Akiyama, Director-General, Secretariat of the Policy Board
Mr. T. Takei, Adviser to the Governor, Secretariat of the Policy Board
Mr. K. Murakami, Deputy Director, Secretariat of the Policy Board
Mr. T. Kato, 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 June 25, 2004 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.

I. Summary of Staff Reports on Economic and Financial Developments2

A. Money Market Operations in the Intermeeting Period

The Bank conducted market operations in accordance with the guideline decided at the previous meeting on April 28, 2004.3 The outstanding balance of current accounts at the Bank moved at around the 31-34 trillion yen level. As a result of the market operations, the weighted average of the uncollateralized overnight call rate was 0.001 percent.

B. Recent Developments in Financial Markets

Money market rates were generally stable at low levels against the background of the Bank's provision of ample liquidity.

Japanese stock prices declined sharply reflecting large-scale profit-taking sales due to growing market perception that U.S. interest rates would rise. The Nikkei 225 Stock Average was moving in the range of 10,500-11,000 yen.

Long-term interest rates were at around 1.5 percent, generally unchanged from the level at the time of the previous meeting, because Japanese stock prices had declined although long-term interest rates in the United States had risen. The yield differentials between Japanese government bonds and corporate bonds in the secondary market were stable on the whole.

The yen had depreciated against the U.S. dollar mainly due to growing market perception that U.S. interest rates would rise and to selling of Japanese stocks by foreign investors. The yen was recently being traded in the range of 112-115 yen to the U.S. dollar.

C. Overseas Economic and Financial Developments

The U.S. economy continued to show balanced growth. According to the advance estimate, real GDP continued to increase steadily, by 4.2 percent on an annualized quarter-on-quarter basis, during the January-March quarter of 2004. Production was on an uptrend, with private consumption and business fixed investment increasing steadily. The improvement in the employment situation had become clearer. Regarding prices, energy prices and producer price indexes for crude materials and intermediate materials were rising significantly, and the consumer price index (CPI) for all items less food and energy was increasing modestly.

In the euro area, although business confidence was starting to show some positive signs due partly to the halt in the appreciation of the euro, improvement in corporate activity was currently at a pause, reflecting the stagnant recovery in production. Household spending remained sluggish. The momentum for economic recovery therefore remained weak. The economy in the United Kingdom was showing steady growth.

Economic recovery remained strong in East Asian economies. In China, both domestic and external demand continued to expand strongly, and public authorities had taken measures to contain overheating of investment. In the NIEs and ASEAN countries, exports and production were on an uptrend, especially in IT-related goods. The rate of year-on-year increase in consumer prices in these countries was rising moderately, partly due to the rise in food prices.

In U.S. and European financial markets, long-term interest rates rose due to heightening of market expectations that the Federal Open Market Committee (FOMC) would raise its target for the federal funds rate earlier than had been expected. Stock prices fell, reflecting the heightening of geopolitical risks and high crude oil prices in addition to growing market expectations of an earlier-than-expected rise in the federal funds rate. The yield differentials between government bonds and corporate bonds, and the volatility of stock prices were, however, at low levels, and therefore investors' level of risk aversion remained stable to date.

In financial markets in many emerging economies, stock prices and foreign exchange rates fell and the yield differentials between their sovereign bonds and U.S. Treasuries widened, due partly to uncertainty about political developments and heightening of geopolitical risks, in addition to the rise in interest rates in the United States and Europe.

D. Economic and Financial Developments in Japan

1. Economic developments

Exports continued to increase substantially, by 4.1 percent on a quarter-on-quarter basis, in the January-March quarter of 2004, following the large increase of 6.4 percent in the previous quarter, reflecting the expansion of overseas economies, particularly in the United States and East Asia. By region, exports to East Asia continued to increase sharply. Exports to the United States also rose, as in the October-December quarter of 2003, and those to the European Union (EU) exhibited high growth. By goods, exports of IT-related goods and of capital goods and parts, including semiconductor fabrication machines and equipment, continued to increase. Exports of intermediate goods, such as chemicals and iron and steel, also rose considerably.

Imports continued to increase, particularly those of IT-related goods and capital goods and parts, reflecting further progress in international division of the production process mainly within the East Asian region.

Business fixed investment continued its path of recovery. It continued to increase on a real GDP basis in the January-March quarter after the high growth in the previous quarter. Shipments of capital goods (excluding transport equipment), particularly semiconductor fabrication machines and equipment, had been increasing, although the pace had slowed in the January-March quarter. Machinery orders (private demand, excluding shipbuilding and orders from electric power companies), a leading indicator of business fixed investment, were on a rising trend on average, although they had dropped in the January-March quarter after the upsurge in the previous quarter. Forecast figures for the April-June quarter showed a steady increase in machinery orders from manufacturing firms. The recovery in business fixed investment was expected to continue, particularly for manufacturing firms, given the increases in domestic and external demand as well as in corporate profits and also developments in production.

A halt in the decline in wages had not yet been confirmed clearly. However, indicators related to labor market conditions, such as the unemployment rate and the ratio of job offers to applicants, had been improving. The number of employees in the Labour Force Survey had been slightly above the previous year's level. The rate of year-on-year decline in the number of regular employees in the Monthly Labour Survey had been diminishing. The decline in household income as a whole was gradually coming to a halt.

Private consumption on a real GDP basis showed relatively high growth in the January-March quarter as in the previous quarter. Sales indicators had been relatively firm on the whole, although individual indicators were mixed. Indicators for consumer sentiment had been on a recovery trend as a whole.

Reflecting these developments, growth in production on a quarter-on-quarter basis slowed to 0.5 percent in the January-March quarter, after an upsurge of 3.9 percent in the previous quarter. As for the outlook, however, the pace of increase in production was likely to accelerate again, on the basis of production forecast indices for April and May, information obtained from corporate interviews, and the recovery in domestic and external demand. Inventories were flat or slightly down on the whole, although an intended accumulation of inventories was seen in goods such as electronic parts. Developments in the inventory cycle indicated that production was likely to continue growing.

With regard to prices, domestic corporate goods prices had been rising, due to the strengthening of commodity prices at home and abroad and to the improvement in supply and demand conditions. Prices of petroleum products, nonferrous metals, and iron- and steel-related products rose markedly, reflecting the strengthening of commodity prices at home and abroad. For these types of products, the effects on intermediate goods prices of the rise in materials prices were becoming noticeable. Domestic corporate goods prices were likely to continue increasing for the time being, partly due to the rise in crude oil prices and the depreciation of the yen. The year-on-year rate of change in consumer prices (excluding fresh food) had been close to zero percent, with temporary factors exerting upward pressure on prices. Consumer prices were projected to continue falling slightly on a year-on-year basis, as the output gap still remained, although it was gradually narrowing.

2. Financial environment

While firms continued to reduce their debts, the pace of decline in credit demand in the private sector was becoming somewhat moderate, since corporate activity had started to recover, as seen in the increase in business fixed investment. The lending attitude of private banks continued to be slightly more accommodative on the whole, although they remained cautious about extending loans to firms with high credit risks. The lending attitude of financial institutions as perceived by firms and the financial positions of firms continued to improve.

The issuing environment for CP and corporate bonds was favorable on the whole and credit spreads were declining slightly. The amount outstanding of CP and corporate bonds issued continued to be above the previous year's level.

The growth rate of banknotes in circulation was on a downtrend, due mainly to decreasing anxieties about the financial system. The year-on-year growth rate of the monetary base was at the 6.0-7.0 percent level. That of the money stock (M2+CDs) rose somewhat and was at the 1.5-2.0 percent level.

  1. 2Reports were made based on information available at the time of the meeting.
  2. 3The guideline was as follows:
    The Bank of Japan will conduct money market operations, aiming at the outstanding balance of current accounts held at the Bank at around 30 to 35 trillion yen.
    Should there be a risk of financial market instability, such as a surge in liquidity demand, the Bank will provide more liquidity irrespective of the above target.

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

A. Economic Developments

On the state of Japan's economy, members agreed that the underlying trend remained basically unchanged from the previous meeting, and that the economy continued to recover gradually and domestic demand was becoming firmer. Many members said that this assessment was supported by the fact that the decline in the growth rate of real GDP for the January-March quarter of 2004 had been smaller than expected after the large increase in the previous quarter and that domestic demand had contributed greatly to the growth of real GDP.

As for the outlook, members agreed that the economy was expected to gain further momentum gradually, as it continued to recover moderately for the time being. Many members said that more careful monitoring was required of developments in overseas economies and financial markets, which were pointed out as one of the factors that could make the economy deviate either above or below the Bank's outlook for fiscal 2004 in the Outlook for Economic Activity and Prices released in April 2004.

With regard to overseas economies, many members agreed that the world economy continued to expand as a whole, particularly the economies of the United States and China. As for the outlook, these members said that it was likely that the U.S. economy would continue to show balanced growth, and East Asian economies, particularly the Chinese economy, would continue their high growth.

Many members said that it was increasingly likely that the U.S. economy would continue to show balanced growth, given that the recovery in the employment situation had been confirmed by various indicators such as nonfarm payroll employment and the employment index compiled by the Institute for Supply Management (ISM). However, these members added that particular attention should be paid to the effects on corporate profits of the rise in unit labor cost, due to the recovery in the employment situation, and the rise in crude materials prices, including crude oil prices, as well as to the effects of the rise in crude oil prices on private consumption. These members also pointed out that the pace of increase in prices was becoming slightly faster due partly to the rise in crude oil prices.

With regard to Asian economies, many members agreed that the Chinese economy would continue to grow relatively fast due to the continued uptrend in private consumption and the significant growth in fixed asset investment. Some members said that it was necessary to watch closely whether the Chinese economy achieved a soft landing through measures to contain its overheating. One member expressed the view that the Chinese economy could be expected to make a soft landing, as the public authorities had taken measures fairly early and their effects had started to appear, for example in the decline in commodity prices. A few members commented on the faster pace of increase in consumer prices caused mainly by the rise in food prices and on the rise in asset prices.

Many members noted risk factors stemming from developments in overseas economies: for example, growing expectations that the FOMC would raise the target for the federal funds rate; possible implementation of further measures to contain overheating of the Chinese economy; geopolitical risks and high crude oil prices; and unstable developments in overseas financial markets due to these factors. These members said that although it was not necessary to change the Bank's view of overseas economies at present, it was becoming increasingly important to pay closer attention to them. Some members added that, as there were signs that the course of the economy and prices was starting to change in some countries, it would be necessary to watch carefully how the current situation of worldwide monetary easing and low interest rates and the associated international funds flow would change.

Some members said that closer monitoring was required of the effects of high crude oil prices on Japan's economy and prices, considering Japan's high degree of dependence on imports for energy.

With regard to Japan's economy, a few members said that exports, particularly of IT-related goods, continued to increase substantially, reflecting the expansion of overseas economies. These members said that exports were expected to remain on an uptrend for the time being, although risk factors stemming from overseas economies were cause for concern.

Turning to domestic demand, it had been reconfirmed that business fixed investment was basically strong, particularly at manufacturing firms. Some members said that, despite somewhat weak figures for machinery orders, a leading indicator of business fixed investment, the underlying trend of business fixed investment remained unchanged. These members added that this assessment was based on the following: the increase in business fixed investment in GDP statistics and shipments of capital goods for the January-March quarter of 2004 had only slowed slightly after the high growth in the previous quarter; corporate profits were high; and business fixed investment plans reported in the March Tankan (Short-Term Economic Survey of Enterprises in Japan), developments in investment related to construction, and the outlook for production were strong. One member expected business fixed investment to continue recovering, as firms' expected economic growth rate had risen according to the Annual Survey of Corporate Behavior (2003) conducted by the Cabinet Office.

With regard to the household sector, some members said that private consumption was currently showing some positive movements and consumer sentiment was also improving, as seen for example in the recovery in the Consumer Confidence Index. A few members expressed the view that private consumption figures in the GDP statistics for the January-March quarter might be slightly stronger than had been expected from various sales indicators.

Regarding the employment situation, some members pointed out that the ratio of job offers to applicants and the number of employees were on an uptrend, the number of those involuntarily unemployed was on a downtrend, and the unemployment rate was declining. However, these members said that a halt in the decline in wages had not yet been confirmed as they continued to decline year on year.

Some members raised the following possibilities as explanations for the firmness of private consumption relative to the employment situation and household income. First, the propensity to consume might have been rising due to an increase, as a proportion of the total population, in elderly people who were withdrawing their savings for consumption. Second, consumers might have become more willing to spend due to the improvement in sentiment resulting from the prevalent view that employment adjustments were coming to an end. And third, consumption might have been affected by income which was not reflected in household income data, such as retirement benefits and pension benefits. One member said that households' disposable income should be assessed more accurately.

Some members expressed the view that an increase in household income was indispensable for a full-fledged recovery of private consumption, and that it was likely to take more time before it could be confirmed that private consumption showed a firm recovery supported by improvement in the employment situation and household income.

One member said that housing investment had been sluggish but this might be changing slightly, as the decline in land prices in central Tokyo was coming to a halt.

Many members said that, although the pace of increase in production had slowed in the January-March quarter of 2004 after the upsurge in the previous quarter, production was expected to continue increasing at a fairly fast pace in the April-June quarter, given the developments in domestic and external demand. A few members expressed the view that developments in the inventory cycle indicated that production was likely to continue growing, as inventories had been virtually flat on the whole, although an intended accumulation of inventories was seen in goods such as electronic parts.

With regard to prices, many members commented on domestic corporate goods prices that the impact of the rise in upstream prices was spreading to prices of intermediate goods to a greater extent than had been expected. These members noted that domestic corporate goods prices had recorded a relatively large increase of 0.6 percent from the level three months earlier, with the pace of increase in intermediate goods in particular accelerating further, reflecting the rise in international and domestic commodity prices, particularly crude oil prices, and the improvement in supply and demand conditions. These members added that, although the impact of the rise in upstream prices on final goods prices was limited at present, it would be important to watch carefully whether the trend in prices, including developments in consumer prices, changed, since the output gap was narrowing steadily. One member said that the output gap affected the trend in prices, and that it was important to bear in mind that the output gap was likely to narrow significantly in fiscal 2004, given the large increase in real GDP for the January-March quarter.

As for consumer prices, some members said that there was no need to change the basic assessment that the output gap, although narrowing, was still exerting downward pressure on prices, and that the impact of the rise in upstream prices was being absorbed to some extent by the corporate sector through the decline in unit labor cost. However, these members expressed the view that it was necessary to carefully monitor the effects of future developments in crude oil prices and the depreciation of the yen on prices for the following reasons. First, the pace of increase in prices could accelerate once they started to rise, as seen in the recent rise in upstream prices increasingly spreading to intermediate goods prices. And second, in the case of crude oil-related consumer goods, it was difficult for the corporate sector to absorb the impact of the rise in crude oil prices because most such goods, gasoline for example, did not require much processing. On this point, some members expressed the view that it was important to examine carefully both economic and price developments because the rise in crude oil prices might affect not only prices but also economic activity. Some members said that it was necessary to be aware of the possibility that the sensitivity of prices to the output gap might be different from the past.

B. Financial Developments

Many members commented on developments in overseas financial markets and their effects on Japanese financial markets.

With regard to overseas financial markets, many members said that, reflecting growing expectations that the FOMC would raise the target for the federal funds rate earlier than had been expected, interest rates rose and stock prices declined in many countries and regions, and the yield differentials between sovereign bonds of emerging economies and U.S. Treasuries expanded. Some members expressed the view that so far market participants were making position adjustments without causing any major disruptions in the market, supported by the Federal Reserve's response to the situation. These members added that future developments in the markets required monitoring.

Many members pointed out that Japanese financial markets were being influenced to some extent by such developments in overseas financial markets. Japanese stock prices had recorded relatively large declines due partly to profit-taking sales by foreign investors, and the yen was depreciating against the U.S. dollar. One member said that further large declines in Japanese stock prices were unlikely, judging from the economic situation and the results of surveys conducted on investors which showed that they remained bullish on the outlook for Japanese stock prices. The member added that it was necessary to pay attention to the effects of stock price developments on corporate and consumer sentiment.

Many members said that conditions in the money market continued to be extremely accommodative due to the Bank's provision of ample liquidity. Long-term interest rates in Japan were virtually unchanged, although they were on an uptrend overseas, and corporate financing conditions were becoming more accommodative overall. Thus, the financial environment also remained easy. Some members said that, with the continuing recovery of the economy and the rise in crude oil prices the outlook for prices might change gradually, and market participants might become more aware of the tendency of long-term interest rates in Japan and those overseas to move together, and therefore financial market developments should be monitored closely.

One member said that some developments in corporate financing reflected the economic recovery. For example, the rate of year-on-year decline in bank lending was diminishing and the amount outstanding of corporate bonds was increasing.

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

On the monetary policy stance for the immediate future, members agreed that, based on the assessment of the current economic and financial situation, it was appropriate to maintain the current guideline for money market operations with the target range of "around 30 to 35 trillion yen" for the outstanding balance of current accounts at the Bank.

Some members said that so far financial markets had been stable and the corporate financing environment had been accommodative. As for the outlook, however, attention should be paid to the effects of changes in the economy and prices and developments in overseas financial markets on Japanese financial markets.

Many members said that the Bank was conducting monetary policy in accordance with the commitment based on the CPI, which was clarified in October 2003, and the Bank should always make this clear from the viewpoint of appropriate communication with market participants. Some members said that it was becoming more important for the Bank to communicate its thinking to the public in an appropriate manner to avoid unnecessary speculation regarding its conduct of monetary policy from the viewpoint of promoting stable formation of prices in financial markets. Some members said that at some point the Bank might need to discuss matters relating to monetary policy in the medium to long term and make public the results of the discussions, but it was still too soon in the current situation. One member added that at present it was most important that the Bank continue the current monetary policy aiming at ensuring continuation of the ongoing economic recovery and overcoming deflation swiftly.

One member commented on the decline in the growth rate of the monetary base. The member said that this was due partly to an increase in the amount of banknotes returning to the Bank reflecting a further decrease in anxieties about the financial system, and therefore, could be regarded as merely reflecting the improvement in the financial environment.

IV. Remarks by Government Representatives

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

  1. (1) The Japanese economy continued recovering steadily. The real GDP growth rate for fiscal 2003 was 3.2 percent, according to the preliminary estimates released on May 18, 2004. However, deflation persisted. The largest issue that the economy faced remained overcoming the continuing deflation, and the government considered that the role of monetary policy remained vital.
  2. (2) The Bank had clarified its commitment to continuing the quantitative easing policy and was determined to firmly maintain it. The government considered it appropriate that the Bank continue such a stance in order to ensure continuation of the recent economic recovery.
  3. (3) The government would like the Bank to continue conducting monetary policy flexibly and to deliberate what kind of new measures the Bank could take to prevent unnecessary disruption in the markets.

The representative from the Cabinet Office made the following remarks.

  1. (1) The Japanese economy continued recovering steadily with improvement in the corporate sector spreading. Attention should be paid, however, to the effects on the world economy of, for example, developments in crude oil prices. As for price developments, moderate deflation was continuing.
  2. (2) The most important task for Japan's economy was to overcome deflation swiftly and achieve a self-sustained economic recovery led by domestic demand. To this end, the government would compile "Basic Policies for Economic and Fiscal Management and Structural Reform 2004" by around early June in order to extend the achievement of reforms to date, complete the intensive adjustment period, and prioritize the strengthening of the economic and social bases to realize renewed growth of the economy.
  3. (3) In order to overcome deflation, while making policy efforts such as acceleration and expansion of structural reforms, it was important to increase the supply of money through structural reforms by the government toward the creation of a more robust financial system and efforts by the Bank to strengthen the transmission mechanism of monetary policy. The Bank was determined to firmly maintain the quantitative easing policy. In this regard, the government would like the Bank to conduct money market operations appropriately and flexibly through, for example, the use of operational tools that were more effective, giving due consideration to the recent developments in the monetary base and the money stock, continuing to communicate closely with the government, and taking into account developments in financial markets. In "Structural Reform and Medium-Term Economic and Fiscal Perspectives--FY 2003 Revision," approved by the Cabinet in January 2004, the government had indicated that it expected that the economy would achieve a growth path of around 2 percent or higher in nominal terms from fiscal 2006. Based on these projections, the government would like the Bank to examine the basic framework for the conduct of monetary policy and to implement more effective monetary policy, in order to ensure that deflation would be overcome after the intensive adjustment period.

V. Votes

Based on the above discussions, members considered that it was appropriate to maintain the current guideline for money market operations with the target for the outstanding balance of current accounts at the Bank at around 30 to 35 trillion yen.

To reflect this view, the chairman formulated the following proposal and put it to the vote.

The Chairman's Policy Proposal on the Guideline for Market Operations:

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

The Bank of Japan will conduct money market operations, aiming at the outstanding balance of current accounts held at the Bank at around 30 to 35 trillion yen.

Should there be a risk of financial market instability, such as a surge in liquidity demand, the Bank will provide more liquidity irrespective of the above target.

Votes for the proposal: Mr. T. Fukui, Mr. T. Muto, Mr. K. Iwata, Mr. K. Ueda, Mr. T. Taya, Ms. M. Suda, Mr. S. Nakahara, Mr. H. Haru, and Mr. T. Fukuma.
Votes against the proposal: None.

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

Members discussed "The Bank's View" in the Monthly Report of Recent Economic and Financial Developments (consisting of "The Bank's View" and "The Background"), and put it to the vote.

The Policy Board approved, by unanimous vote, "The Bank's View" for publication on May 20, 2004, and decided to publish the whole report on May 21, 2004.4

  1. 4The English version of the whole report was published on May 24, 2004.

VII. Approval of the Minutes of the Monetary Policy Meeting

The Policy Board approved unanimously the minutes of the Monetary Policy Meeting of April 8 and 9, 2004 for release on May 25, 2004.


Attachment
May 20, 2004
Bank of Japan

At the Monetary Policy Meeting held today, the Bank of Japan decided, by unanimous vote, to set the following guideline for money market operations for the intermeeting period:
The Bank of Japan will conduct money market operations, aiming at the outstanding balance of current accounts held at the Bank at around 30 to 35 trillion yen.

Should there be a risk of financial market instability, such as a surge in liquidity demand, the Bank will provide more liquidity irrespective of the above target.