Commentary: Japan's central bank talks the talk - too much

http://iht.com/articles/2006/02/13/bloomberg/sxpesek.php
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Commentary: Japan's central bank talks the talk - too much
By William Pesek Jr. Bloomberg News
MONDAY, FEBRUARY 13, 2006
Transparency, Alan Greenspan liked to say while heading the Federal Reserve, is a cornerstone of successful central banking. Efforts to demystify the U.S. central bank in the 1990s encouraged others around the globe to institute their own versions of monetary glasnost.

Yet can the process go too far? Can central banks be too, well, talkative? Yes, and the Bank of Japan is a case in point.

The Bank of Japan is itching to end its policy of holding interest rates near zero. And who can blame it? No central bank should ever become such an obvious pawn of politicians that it eliminates short-term borrowing costs. Japan's is now in a unique bind, one it understandably wants to get out of.

And so, the bank's officials can't stop talking about their desire to take yen out of the system. There is just one problem: Japan is still experiencing deflationary pressures. What the Bank of Japan really should do is just shut up.

Governor Toshihiko Fukui and his colleagues think they are being prudent by telegraphing plans to tighten credit. Yet until the consumer price index and other inflation measures turn positive and stay there for six months or even longer, they should keep their heads down and their mouths closed.

Greenspan has a similar weakness. Off the payroll for barely a week, he began arming hedge fund managers with insights into the Fed's thinking on rates. It would be better if he had kept quiet for a few months out of respect for his successor. Ever the capitalist, Greenspan is choosing fat speaking fees, according to press reports.

Few monetary decisions will be as important this year as those made in Tokyo. After 15 years of walking in place, Japan probably grew at an annual rate of almost 5 percent in the final three months of 2005. Steady growth and a trend of rising prices in major sectors like property are fueling concern at the central bank that inflation will accelerate out of control.

Declaring an end to more than seven years of falling Japanese prices prematurely may only prolong deflation. For one thing, it will undermine investors' efforts to assess inflation expectations. For another, it will damage the economy's revival.

Last week, Fukui said that consumer prices, excluding fresh food items, would "show clear gains in January and afterwards. Our judgment of core consumer prices will become increasingly important from our next policy meeting," in early March.

That is about as clear as language gets in the central banking world of winks, nods and secret handshakes: The BOJ plans to begin pumping fewer yen into the economy sooner rather than later.

Fukui was toasted as the world's best central banker by the Economist magazine in 2004 and by AsiaMoney last year. You would think he would know that monetary policy is as much about influencing perceptions as about adjusting the money supply. It is a mistake to worry too much about inflation, a problem Japan doesn't have, and not enough about falling prices, which it does - and to relay that impression to markets.

Inflation expectations must be based on data and anecdotal evidence, not on central bank comments. If Fukui's confidence that inflation is on the way proves wrong, a central bank that already has little credibility will have even less.

Core consumer prices rose 0.1 percent in both November and December from a year earlier. Yet this recovery has not even come close to proving that it can sustain price increases. Even with high oil costs, deflationary pressures unleashed by China and India may slow the process.

The bigger risk is that the Bank of Japan moves too soon, before inflation firmly takes hold. Is the bank about to make a mistake similar to one in August 2000, when it raised rates prematurely? It reversed course 10 months later, returning rates to zero. Another mistake like that could raise bond yields and undermine the economy.

This is one of the very few cases in modern history where politicians are right to jawbone a central bank, as Prime Minister Junichiro Koizumi has been doing. He wants the bank to wait until deflation is clearly in the past before altering its policies. And Koizumi is right.

For a more objective view, consider recent comments by the Asian Development Bank president, Haruhiko Kuroda. A respected economist, Kuroda's experience as chief currency official at the Japanese Ministry of Finance gives him considerable authority on the issue.

"The main objective is price stability," Kuroda said last week. "That hasn't been attained. Deflation is not yet over."

Kuroda has no ax to grind; he is merely concerned that a mistake could crimp growth not only in Japan, but throughout the region. "I think the recovery is good for Asia," he said. "The Japanese economy was a growth engine for many years, and it may become one again."

To get there, Japanese policy makers need to walk the walk of smart, forward-looking central banking. At the moment, they're only talking the talk - and doing so a bit too much for comfort.