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By Leika Kihara and Rie Ishiguro
TOKYO, March 2 (Reuters) - Japan’s Finance Minister Naoto Kan has expressed a desire to target inflation as part of a volley of comments aimed at pushing the central bank for more action to drag the economy out of grinding deflation.
The government wants the central bank to do more to lift prices, which have been falling off and on for almost a decade.
Among the most vocal cabinet critics of the Bank of Japan, Kan said this week he wants the country out of deflation by the end of 2010, much earlier than what the central bank or most analysts see as feasible. <^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^
For a graphic of Japanese consumer prices, click on:
Here are some questions and answers on Japan’s inflation target debate:
Kan hasn’t explicitly said he thinks the Bank of Japan should adopt an inflation target. But he has given that impression by saying several times that prices rising at an annual rate of around 1 percent is desirable.
With Japan’s narrowest measure of consumer prices currently falling at a record pace because of weak consumer demand, the chance of eradicating deflation by year-end is virtually zero.
Kan seems to accept that such a target is a reach by saying he was “reflecting some hope” of that goal.
So what Kan may be seeking is simply more urgency from the Bank of Japan to deal with deflation, which can be debilitating for an economy because consumers tend to hold off their spending in expectation of yet lower prices.
He has protested that taking two to three years to pull out of deflation, as the BOJ has forecast, is just too long. Tactically, the government is raising the temperature again for the BOJ to ensure it gets its message loud and clear.
Boosting demand is key in pushing up prices, but with Japan’s public debt set to reach 200 percent of gross domestic product, the government has little room for additional fiscal stimulus.
That puts the onus on the BOJ.
It needs to appear proactive about the fragile economy to soothe voters’ concerns ahead of an upper house election expected in July.
Support for Prime Minister Yukio Hatoyama’s government has dropped below 40 percent in some recent surveys due to voter ire over funding scandals and doubts about his leadership.
The rhetoric also probably relates to the budget. With a record $1 trillion budget for 2010/11 under debate in parliament, the government couldn’t talk about additional spending even if it wanted to.
Kan wants 1 percent inflation to achieve the government’s long-term economic growth strategy drafted in December last year.
The government aims to achieve average nominal GDP growth of over 3 percent and real GDP growth of more than 2 percent in the 10 years until fiscal 2020/21. For this to happen, Japan needs 1 percent inflation.
The level is also in line with the BOJ’s definition of price stability and so will likely meet less resistance from the central bank compared with a much higher target.
It is opposed to an inflation target. The BOJ believes it already has a loose target in place. It defines long-term price stability as consumer price inflation at or below 2 percent, with the midpoints of most board members around 1 percent.
But it’s more a forecast than a target as the BOJ isn’t held accountable for achieving it. The BOJ wants to keep it that way.
The last thing it wants is to be forced into setting an inflation target and the commitment to take whatever steps available to achieve it, such as buying more government bonds from the market, or even directly purchasing them from the government to finance fiscal spending.
The government, consisting the Democrats and two small coalition members, isn’t united on what it wants. Outspoken banking minister Shizuka Kamei, head of a junior coalition partner and a proponent of big spending, doesn’t think inflation targetting would work. He wants the BOJ to underwrite debt, a view not necessarily shared by other cabinet members. Such action is also illegal under current Japanese fiscal law.
The chance of the BOJ adopting an inflation target is very slim. But to appease the government, it may ease policy further to show it is dealing with deflation.
A move in April may be possible. The BOJ reviews its long-term economic and price forecasts on April 30. A revision to the forecasts will give it justification to shift policy.
Pressure for action will continue into June, when the government maps out a long-term fiscal discipline target and as the upper house election, expected in July, draws closer.
The most likely next step for the BOJ will be to expand its fund-supply operation adopted in December in reaction to the last round of government pressure, or to increase its government bond purchases. [ID:nTOE62100J]
An explicit inflation target, which some central banks elsewhere have adopted, makes a central bank fully accountble. It would be much easier for the government to call for changes in monetary policy if the BOJ adopted an inflation target.
But setting a target without the means to achieve it wouldn’t be effective and could even put the BOJ’s credibility at risk.
If the BOJ takes drastic action, such as buying more government bonds, it may briefly push down the longer end of the yield curve. But yields may shoot up if the move is seen by markets as a sign the BOJ is losing its grip on monetary policy. (Additional reporting by Linda Sieg; Editing by Neil Fullick)