Japan's Economy and Monetary Policy

August 24, 2012 Bank of Japan Japan's Economy and Monetary Policy Speech at a Meeting with Business Leaders in Osaka Masaaki Shirakawa Governor of ...
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August 24, 2012

Bank of Japan

Japan's Economy and Monetary Policy Speech at a Meeting with Business Leaders in Osaka

Masaaki Shirakawa Governor of the Bank of Japan

Introduction It is a great honor to have this opportunity to address such a distinguished gathering of business leaders in Osaka today.

I would like to start by expressing my deep gratitude to

you for your cooperation with our branches in Osaka, Kobe, and Kyoto.

The last time I spoke here was in late October 2011.

At that time, we were right in the

middle of a period of intensifying strains caused by the European debt problem, and I pointed out that we had to pay close attention to future developments.

Looking back at

developments since then, unfortunately these concerns came to pass. Overseas economies started to decelerate, mainly due to the direct and indirect effects of the European debt problem.

Even today they have not yet emerged from this deceleration phase.

Against

this backdrop, today I will first discuss developments in global financial markets and overseas economies, focusing on the European debt problem. I will then explain recent developments in Japan's economy and the Bank's conduct of monetary policy.

I.

European Debt Problem and Developments in Global Financial Markets and Overseas Economies

Let me start with the European debt problem.

Looking back on last autumn, it was a time

of rising tension in global financial markets.

People were concerned that the fiscal

problems in Europe would not be contained within the countries that had already received support from the EU and IMF, namely, Greece, Portugal, and Ireland, but instead would spread to the larger southern European economies of Spain and Italy.

Yields on

government bonds rose sharply in those economies, or in other words, bond prices fell substantially.

The assets of financial institutions with large holdings of European

government bonds deteriorated (Chart 1).

As market confidence in these institutions had

declined, they were exposed to rising funding costs and also began to find it difficult to procure funds (Chart 2). As a result, European financial institutions became more cautious about providing loans to firms, which exerted downward pressure on the real economy. The slowdown in the real economy created an adverse feedback loop by further worsening fiscal conditions, which in turn adversely affected financial institutions' business through rises in government bond yields (Chart 3).

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Global financial markets appeared to regain some stability from the turn of this year through to spring, thanks to a number of policy measures including the European Central Bank (ECB)'s conduct of two longer-term refinancing operations (LTROs) with a maturity of 36 months, which provided virtually unlimited liquidity in the euro area. After that, however, nervousness returned to global financial markets, caused by uncertainties about the Greek re-election as well as concerns about Spain's financial system.

While Spanish

government bond yields, the most-watched indicator in financial markets lately, declined from their peak of more than 7 percent, they are still around 6.0-6.5 percent, far above the average growth rate of nominal GDP since 2010, which is around 1.0 percent.

Since the

debt problem in Europe first emerged in spring 2010, we have been on a merry-go-round in which deteriorating market sentiment is followed by temporary measures by authorities to alleviate market strains and a subsequent recovery in market sentiment, before the cycle repeats itself again.

To resolve this problem, a comprehensive approach must be taken in

which each country makes an effort to achieve fiscal consolidation, structural reform, and financial system stabilization and reinforcement. At the same time, Europe as a whole must proceed with fiscal union and financial integration commensurate with its existing monetary union.

European authorities share a broad sense that it is important to proceed

steadily with these initiatives, but these are such essential and difficult tasks that will define the future of Europe's economy, society, and politics. For that very reason, resolving these issues will surely take a long time.

We need to face the reality that the global economy has

no choice but to live with the risks inherent to the European debt problem for some time to come.

Despite these difficulties in Europe, extreme risk scenarios have not come to pass.

This is

because the money markets -- core markets for the financial system in which financial institutions lend to and borrow from one another -- have remained broadly stable.

The

sense of security created by the existence of central banks' frameworks for enhancing liquidity provision -- such as the ECB's provision of ample euro liquidity and the coordinated U.S. dollar fund-supplying action by six central banks including the Bank of Japan -- has played a pivotal role in maintaining stability in the money markets.

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At the same time, we must dispassionately realize that the liquidity provision by central banks can only provide a temporary reprieve -- a measure to "buy time" or "mitigate the pain" so to speak.

Ultimately, the most important thing is that policy authorities in Europe

make steady progress in furthering fiscal and economic structural reforms as well as maintaining and strengthening the soundness of financial systems.

Through a number of

international fora, the Bank of Japan has been urging these authorities to make such progress.

This is because the European debt problem has already had an impact on

economies outside the euro zone, including Japan, in a number of ways, and depending on future developments, it might have an even bigger impact.

Let me elaborate on the various

ways that the problem is affecting other economies.

The first and foremost is the effect on trade. The slowdown of the European economy has had the direct effect on economies outside the euro zone of reducing exports to Europe. the same time, it has also had an indirect effect on them.

At

More specifically, as economies

with close trade ties with Europe have slowed due to the European debt problem, this has had a knock-on effect on countries exporting to these economies, because their exports have declined as a result.

In this regard, the Chinese economy, which became an engine for

global economic recovery after the Lehman shock in 2008, has been slowing down since last autumn as a result of monetary tightening and a decline in exports to Europe, which account for almost 20 percent of China's total exports.

While Europe accounts for only 10

percent of total exports for Japan, the knock-on effect of the slowdown in China is significant (Charts 4 and 5).

The second is the effect on business sentiment.

If companies think that economic

sluggishness in Europe will be prolonged, or if they have strong concerns about a worst-case scenario regarding the European debt problem coming to pass, they could postpone making capital investments and so forth, even if the actual risks do not materialize. Lately, manufacturing firms around the globe have become somewhat cautious, which may be an example of how the problems in Europe are affecting business sentiment.

The third is the effect on financial markets.

Amid continued nervousness in global

financial markets, global investors have become increasingly risk averse, which

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consequently creates more demand for relatively safe assets such as U.S. Treasury bonds, German government bonds, and Japanese government bonds. also creates more demand for the U.S. dollar and the yen.

In terms of currencies, it

While declines in long-term

yields in advanced economies are reinforcing monetary accommodation, on the foreign exchange front, the chronic upward pressure on the yen is placing downward pressure on Japan's economy (Charts 6 and 7).

Last but not least is the effect on the financial system, which has been well-contained so far. Japan's financial system has been the most stable of the advanced economies, reflecting powerful monetary easing by the Bank of Japan (Chart 2).

Nonetheless, as we saw

following the Lehman shock, financial markets in respective countries are increasingly interconnected and we cannot rule out the possibility of negative effects from one financial system spilling over to another through a number of different channels.

The Bank of Japan

continues to give particular attention to developments in global financial markets, and will do its utmost to ensure the stability of Japan's financial system while cooperating closely with other central banks.

II. Recent Developments and Outlook for Japan's Economy I would now like to outline the state of Japan's economy and prices, based on this discussion of the effects of the European debt problem.

Following a sharp downturn after the Great East Japan Earthquake in March 2011, Japan's economy recovered at a pace much faster than anticipated, thanks to the strenuous efforts of all involved. However, after autumn 2011, when the debt situation in Europe deteriorated, economic activity in Japan became broadly flat, partly due to the impact of the slowdown in overseas economies and appreciation of the yen.

Overseas economies have not yet

emerged from a deceleration phase, and overseas demand is somewhat weak. demand,

by contrast,

has

been

firmer

than

expected,

mainly

Domestic

supported

by

reconstruction-related demand, and our assessment is that Japan's overall economic activity has started picking up moderately (Chart 8).

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Looking at each demand component separately, in terms of domestic demand, public investment has clearly continued to increase. Business fixed investment has been on a moderate increasing trend with improvement in corporate profits, as evidenced by recent surveys.

Private consumption has continued to increase moderately, supported partly by

the effects of measures to stimulate demand for automobiles. Housing investment has generally been picking up.

The recent firmness in Japan's domestic demand stands out

among the advanced economies (Chart 9).

On the other hand, the pick-up in exports has

moderated, due to a decline in exports to Europe, and the recent reading on industrial production, which is heavily influenced by export activities, has been relatively weak.

As for the outlook of Japan's economy, it is expected to return to a moderate recovery path as domestic demand remains firm and overseas economies emerge from the deceleration phase.

The Bank's growth rate projections for fiscal 2012 and 2013 are 2.2 percent and 1.7

percent, respectively.

Under such circumstances, the negative output gap is expected to

narrow gradually, exerting upward pressure on prices.

The year-on-year rate of change in

the consumer price index (CPI) is expected to remain at around 0 percent for the time being mainly due to the fall back in crude oil prices.

Looking somewhat further ahead, the rate

is expected to gradually rise to a range of above 0.5 percent and less than 1 percent toward fiscal 2013 as the aggregate supply and demand balance improves.

Thereafter, it will

likely be not too long before it reaches the Bank's "price stability goal in the medium to long term" of 1 percent for the time being (Chart 10).

In terms of the price environment, it

is worth noting that supply and demand conditions in the labor market have improved moderately and wages have stopped declining.

Furthermore, the inflow of low-priced

imported goods is not as prevalent as before, partly reflecting a pick-up in wages in China (Chart 11).

The key factor when considering the outlook for Japan's economy is whether overseas economies emerge from the deceleration phase and overseas demand starts to recover while domestic demand remains firm, thus maintaining momentum in economic activity.

On this point, let me summarize the forces that are sustaining the firmness in domestic demand. The first is the effects of policy measures such as subsidies for purchasing

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environmentally-friendly cars. The second is reconstruction-related demand in a broad sense.

This includes not only public investment but also demand for replacement of

automobiles, and demand for reconstruction or repair of facilities and housing damaged by the earthquake or tsunami.

All such demand is gradually gaining momentum.

Furthermore, firms are now building disaster prevention centers or business continuity centers as backup sites following their experiences of the earthquake.

They are also

shifting business resources onto energy and environment-related businesses, including launching projects to build mega solar power plants.

The third force sustaining the

firmness in domestic demand is an improvement in business sentiment as corporate profits have improved and wages and income have subsequently stopped declining. The fourth relates to how firms are increasingly succeeding in discovering potential demand, such as by creating new business to meet demand associated with population aging.

Fifth,

although the yen's appreciation puts downward pressure on exports, it also raises real purchasing power. As for the outlook for domestic demand, while we should be mindful of the negative effects from the ending of subsidies for the purchase of environmentally-friendly cars, underlying factors, such as broadening reconstruction-related demand, improving corporate profits and employee income, and firmer consumption by the elderly will continue, to some extent, to underpin the sustainable recovery of the domestic economy.

As for overseas demand -- an area of concern --, a wide range of uncertainty remains, including with respect to when such demand will recover. As I mentioned earlier, the European debt problem has already had a significant impact on overseas economies including Japan. While such an impact has been taken into account in our outlook for economic activity and prices, we must remain highly vigilant to the risk of the European debt problem possibly deteriorating further and leading to turmoil in global financial markets, triggering an even graver deterioration of the global economy. Regarding the Chinese economy, there are some signs of improvement in domestic demand, such as increased investment in infrastructure and a pick-up in sales of real estate. Nevertheless, amid sluggishness in exports to Europe, particular attention should be paid to whether China's deceleration will continue for longer than expected. As for the U.S. economy, we expect that it will continue its moderate recovery, supported by accommodative financial

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conditions. However, the momentum for recovery needs to be monitored carefully, as balance sheet adjustment, although making gradual progress, still weighs on the economy and a high degree of uncertainty remains with respect to future fiscal policy.

III. The Bank's Conduct of Monetary Policy Finally, let me talk about the Bank's conduct of monetary policy, based on the above assessment of economic activity and prices.

The Bank recognizes that Japan's economy faces the critical challenge of overcoming deflation and returning to a sustainable growth path with price stability.

Based on that

recognition, the Bank clearly stated that it will proceed with powerful monetary easing in a continuous manner with the aim of achieving the goal of 1 percent inflation -- in terms of the year-on-year rate of increase in the CPI -- until it judges the 1 percent goal to be in sight.

In pursuing monetary easing, the Bank has been purchasing financial assets under the "Asset Purchase Program" (hereafter the Program).

This program is aimed at encouraging

a decline in longer-term market interest rates and a reduction in risk premiums through the purchase of a wide range of financial assets, including Japanese government bonds.

The

Bank expanded the total amount of the Program in February and April 2012, so that by the end of June 2013, the total size of the Program will reach about 70 trillion yen. The current size of the Program is about 57.8 trillion yen (Chart 12).

At every Monetary Policy Meeting, attention tends to focus on whether the total size of the Program will be increased.

At present, however, the Bank is in the process of increasing

the size of the Program by another 12 trillion yen. Put differently, the effects of monetary easing will strengthen in a continuous manner with every passing day as this process continues. In terms of transmission of its powerful monetary easing, lending rates of financial institutions have been falling to fresh new lows.

Interest rates paid by firms

remain at considerably low levels compared to their profitability (Chart 13).

Firms'

judgments on financial institutions' lending attitudes and financial positions have improved to levels higher than the average from the year 2000 onward (Chart 14). This is true for small enterprises as well.

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The effects of monetary easing will be realized through accommodative financial conditions leading to increases in investments and outlays by firms.

A rise in inflation expectations,

which is often discussed as one aim of monetary easing, can only be realized once an increase in spending has generated higher prices. The transmission of monetary easing always starts from the reduction of interest rates in general.

As such, accommodative

financial conditions provide a strong supporting base for Japan's economy to overcome deflation and achieve sustainable growth with price stability.

The major problem facing

Japan's economy is, however, that firms do not see investment in the domestic economy as a profitable option.

In fact, among Japanese listed companies, the proportion of firms

without net external borrowings -- firms whose cash, deposits, and cash equivalents exceed their interest-bearing debt -- has risen from the 25 to 30 percent range in the early 2000s to more than 40 percent recently (Chart 15).

What is necessary at this juncture is to

formulate a two-pronged strategy of capturing overseas demand and cultivating domestic demand, as I explained in detail at this gathering last year. 1

In order to do so, we need two

things: drastic deregulation at the macro level and the creation of business models based on differentiated strategies at the level of individual firms.

Looking at the situation in Switzerland, while the Swiss franc has appreciated more than the yen over the last 10 years, Switzerland's exports have outperformed Japan's (Chart 16).

In

other words, the real challenge for Japan's economy is to raise its growth potential, and the challenge of overcoming deflation can only be achieved through a combination of forces: first, having a wide range of economic agents exert efforts to strengthen the economy's growth potential; and second, providing support from the financial side.

Based on this

recognition, the Bank has embarked on an unprecedented measure for a central bank: that is, the establishment of the "Fund-Provisioning Measure to Support Strengthening the Foundations for Economic Growth."2 1

Please see Masaaki Shirakawa, "The Outlook and Challenges for Japan's Economy" (Speech at a Meeting with Business Leaders in Osaka), October 31, 2011. http://www.boj.or.jp/en/announcements/press/koen_2011/ko111031a.htm/ 2 Under this measure, the Bank provides long-term funds at low rates to financial institutions carrying out lending or investment in support of strengthening the foundations for Japan's economic growth. In June 2011, the Bank introduced a special scheme, as part of its overall support measures, which established a new line of credit for equity investments and asset-based lending (ABL), which,

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The Bank of Japan will do its utmost to ensure the stability of Japan's financial system, while giving particular attention to developments in global financial markets. At the same time, the Bank, while examining carefully risk factors concerning domestic and overseas demand, continues to conduct monetary policy in an appropriate manner with the aim of overcoming deflation and achieving sustainable growth with price stability.

Thank you very much.

unlike traditional lending, uses assets that are closely tied to firms' businesses -- such as their inventories, equipment, and machines, as well as accounts receivables -- as collateral. The most significant advantage of ABL is that it creates ways for firms without real estate collateral and personal assets to gain access to loans. For example, start-up firms tend to have a high ratio of accounts receivables to total assets. They will be able to raise funds for business expansion and exploration of new business opportunities more smoothly if they can make use of their accounts receivables as collateral. In addition, the Bank established special rules for small-lot investments and loans -- those less than 10 million yen -- as well as special rules for U.S. dollar lending arrangements. At present, the total size of the measure stands at 5.5 trillion yen. The Bank anticipates that the private sector's efforts to strengthen growth potential will make progress steadily, with such measures serving as a catalyst.

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Japan's Economy and Monetary Policy Speech at a Meeting with Business Leaders in Osaka

August 24 24, 2012 Masaaki Shiraka Shirakawaa Governor of the Bank of Japan

Chart 1

Long-Term Government Bond Yields in Europe 40

%

9 8

35 Greece

7

30

Portugal

25

Ireland

% Spain

Italy

France

Germany

6 5

20 4

15

3

10

2

5

1

0

0

1 2 3 4 5 6 7 8 9 10 11 12 1 2 3 4 5 6 7 8 CY 2011

2012

1 2 3 4 5 6 7 8 9 10 11 12 1 2 3 4 5 6 7 8 CY 2011 2012

Note: Yields shown are on 10-year government bonds, except for Ireland, for which 9-year government bond yields are used. Source: Bloomberg.

1

Chart 2

Financial Conditions in Major Countries Degree of Strain in Funding Markets 1 5.0

%

6.0

Intensifying

4.5

3.5

U.S. dollar

30 3.0

Yen

%

5.5

Euro area

5.0

Euro

4.0

Credit Spreads for Corporate Bonds 2

United States

4.5

Japan

4.0

Easing g

Increasing credit risk

Decreasing credit risk

35 3.5

2.5

3.0

2.0

2.5 20 2.0

1.5

1.5

1.0

1.0

05 0.5

05 0.5

0.0

0.0

1 4 7 10 1 4 7 10 1 4 7 10 1 4 7 10 1 4 7 CY2008 2009 2010 2011 2012

1 4 7 10 1 4 7 10 1 4 7 10 1 4 7 10 1 4 7 CY2008 2009 2010 2011 2012

Notes: 1. The degree of strain in funding markets is 3-month Libor minus 3-month overnight index swap (OIS) rates. Government bonds for the euro area are those issued by Germany. 2. The spreads for corporate bonds (rated AA) are the yields for corporate bonds minus those for government bonds. Source: Bloomberg.

2

Chart 3

Adverse Feedback Loop among Fiscal Fi l C Conditions, di i the h Fi Financial i lS System, and d the h R Reall E Economy 1. Increase in fiscal burden due to capital injections to banks and loan guarantees

Fiscal i l conditions

1. Decline in prices of government bonds held by banks and a subsequent decrease in their capital, reflecting fiscal deterioration

Financial system

2. Economic recession due to reduced government spending and tax increase

3. Decrease in fiscal revenue due to economic recession

2. Economic recession due to more cautious lending stances

3 Deterioration in banks' 3. banks profitability and balance sheets due to a delay in debt repayment reflecting economic recession

Real economy

3

Chart 4

Trade Relations among Japan, Japan Europe, Europe and East Asia Share of Japan's exports East Asia: 53%

Share of Japan's exports EU: 12%

Japan

East Asia EU

China

Share of China's exports EU: 19%

NIEs

Share of NIEs' NIEs exports EU: 10%

ASEAN4

Share of ASEAN4's ASEAN4 s exports EU: 10% (East Asia's intra-regional trade ratio: 40%)

Note: Figures are for 2011. The NIEs consist of Korea, Taiwan, Hong Kong, and Singapore. ASEAN4 refers to Thailand, Indonesia, Malaysia, and the Philippines. Sources: Ministry of Finance; IMF; HAVER.

4

Chart 5

Japan'ss Real Exports by Region Japan United States

EU

120

120

100

100

80

80

60

60

40 CY 07

08

09

10

11

12

40 CY 07

China 160

140

140

120

120

100

100

80

80 08

09

10

09

10

11

12

NIEs /ASEAN4

160

60 CY 07

08

11

12

60 CY 07

ASEAN4

08

NIEs

09

10

11

Note: Figures are seasonally adjusted and CY2007=100. Figures in angular brackets indicate the share of exports from Japan to each destination in 2011. Source: Ministry of Finance; Bank of Japan.

12

5

Chart 6

Exchange Rates Real Effective Exchange Rates

Nominal Exchange Rates 180

yen/Korean won

yen/U.S. /U S dollar, d ll yen/euro /

0.25

160

60

CY2000 100 reversed CY2000=100, d

70 0 20 0.20

140

80 90

120 0.15 100 80

110

Yen's depreciation

60

100

0.10 120

Yen

Depreciation 40 Yen's appreciation

20

0.05 130

Yen/U.S. dollar (left scale) Yen/euro (left scale) Yen/Korean / won (right ( i h scale) l )

U.S. dollar Euro

140

K Korean won

A Appreciation i i

0 0.00 150 CY 90 CY 90 92 94 96 98 00 02 04 06 08 10 12

92

94

96

98

00

02

04

06

08

10

Note: The real effective exchange rate is an indicator of a country's overall international competitiveness, calculated as follows. First, each of the exchange rates of the country's currency against other currencies (i.e., nominal exchange rates) is deflated by the price indices of those countries to calculate the real exchange rate. Then, the weighted average of the real exchange rates is calculated using the annual value of the country's trade with its counterparties as its weights. Sources: Bloomberg; BIS.

12

6

Chart 7

Nominal Effective Exchange Rates 60

CY2000=100, reversed

70 80 90 100 110 120 Depreciation 130

Yen U.S. dollar Euro Swiss franc Korean won

140 150 160 CY 00

A Appreciation i i

01

02

03

04

05

06

07

08

09

10

11

12

Note: The nominal effective exchange rate is an indicator that measures the overall value of individual currencies. It is derived by calculating the weighted average of each currency's exchange rate against other currencies using the annual value of each country's trade with its counterparties as its weights. Source: BIS.

7

Chart 8

Recent Developments in Japan Japan'ss Economy Real Exports

Value of Public Works Contracted

s.a., CY2007=100

120

s.a., ann., tril. yen

15

110

14

100

13

90 12

80

11

70 60 CY 07

08

09

10

11

12

Industrial Production METI Projection

100

08

09

10

11

12

Private Consumption and Business Fixed Investment

s a CY2007 s.a., CY2007=100 100

110

10 CY 07

s a CY2007 s.a., CY2007=100 100

107 105

Domestic shipments and imports of capital goods (excluding transport equipment, right scale)

103

90 80

s a CY2007=100 s.a., CY2007 100

Synthetic consumption index (real, left scale)

110 100 90

101

80

99

70

70

97

60

60 CY 07

95

50

08

09

10

11

12

CY 07

08

09

10

11

12

Sources: Ministry of Economy, Trade and Industry; East Japan Construction Surety, etc.; Cabinet Office; Bank of Japan.

8

Chart 9

Contribution of Overseas and Domestic Demand to Growth Rate Japan

United States

ann., q/q % chg.

10

10

5

5

0

0

Overseas demand Domestic demand Real GDP

-5 -10 CY 10 10

11

ann., q/q % chg.

12

-10 CY 10

-10 CY 10 10

ann q/q % chg ann., chg.

11

12

United Kingdom Overseas demand Domestic demand Real GDP

5

0 -5

Overseas demand Domestic demand Real GDP

-5

Euro Area

5

ann., q/q % chg.

0

Overseas demand Domestic demand R l GDP Real 11

Sources: Cabinet Office; BEA; Eurostat; ONS.

-5

12

-10 CY 10

11

12

9

Chart 10

Output Gap and Consumer Price Index The year-on-year year on year rate of change in the CPI is correlated to the output gap which leads several quarters. quarters Output Gap and Time-Difference Correlation of Consumer Price Index

Output Gap and Consumer Price Index 10

%

y/y / % chg. h

4

1.0

3

0.9

time-difference i diff correlation l i coefficient ffi i

Output gap (left scale) 8 CPI (all items less fresh food, right scale) 6

CPI leading

Output gap leading

0.8

2 4

0.7

1

2 0

0

-2

1 -1

-4

06 0.6 0.5 0.4 0.3

-2 -6

0.2

-3

-8 -10 CY 91

-4 93

95

97

99

01

03

05

07

09

0.1 0.0

11

-10

-8

-6

-4

-2

0

2

4

6 quarters

Note: Time difference is calculated using data since 1990/Q1. The white circle indicates the peak of the correlation coefficients. The output gap is estimated by the Research and Statistics Department, Bank of Japan. Sources: Ministry of Internal Affairs and Communications; Cabinet Office, etc.

10

Chart 11

Environment v o e Surrounding Su ou d g Prices ces y/y % chg.

4

Ratio of Job Offers to Applicants and Nominal Wages

Consumer Price Index times

CPI (all items less fresh food)

1.5

2

y/y % chg. 6 Ratio of job offers to applicants (left scale) 4 Nominal wages (right scale) 2

1.0

0

0 -2

0.5

-2

-4

-4 CY 91

93

95

97

99

01

03

05

07

09

11

0.00 0 CY 91

10 thous. thous yuan 110

4

105

3

100

2 1 0 CY 00 01 02 03 04 05 06 07 08 09 10 11

95

97

99

01

03

05

07

09

11

Import Price Index for Consumer Goods (Contractual Currency Basis)

Development in Wages in China 5

-6 6 93

CY2010=100 Other goods (plastic daily necessities, furniture, toys, bags, shoes, etc.) Clothes

95 90 85 80 CY 00 01 02 03 04 05 06 07 08 09 10 11 12

Sources: Ministry of Internal Affairs and Communications; Ministry of Health, Labor and Welfare; Ministry of Economy, Trade and Industry; National Bureau of Statistics of China; Bank of Japan.

11

Chart 12

Monetary Policy Maximum Amount and Actual Amount of Increase in the Size of the Asset Purchase Program 80

tril. yen

Started in Oct. 2010

Mar. 2011

Aug. 2011

Oct. 2012

Feb. 2012

Apr. 2012

Jul. 2012

Latest amount amo nt

About

About

About

About

About

About

About

About

35

40

50

55

65

70

70

57.8

JGBs

1.5

2.0

4.0

9.0

19.0

29.0

29.0

15.0

T-Bills

2.0

3.0

4.5

4.5

4.5

4.5

9.5

5.3

CP

0.5

2.0

2.1

2.1

2.1

2.1

2.1

1.7

Corporate bonds

0.5

2.0

2.9

2.9

2.9

2.9

2.9

2.6

ETFs

0.45

0.9

1.4

1.4

1.4

1.6

1.6

1.3

J-REITs

0.05

0.1

0.11

0.11

0.11

0.12

0.12

0.09

Fixed-rate operation

30.0

30.0

35.0

35.0

35.0

30.0

25.0

31.7

tril.yen Jul.2012 Apr.2012 70 tril.yen (end-Jun.2013) Feb.2012 y 65 tril.yen (end-Dec.2012)

70

Removed the minimum bidding yield for outright purchases of T-Bills and CP

50

Mar.2011 40 tril.yen Started in (end-Jun. Oct 2010 2012) Oct.2010 35 tril.yen (end-Dec. 2011)

Pursuing powerful monetary easing in a continuous manner

30

Maximum amount of the Asset Purchase Program Actual amount of increase in the size of the Asset Purchase Program

20 10 12 2 4 CY2010 2011

6

Jun.2013 70 tril.yen

8 10 12 2 4 2012

Total size

Dec.2012 65 tril.yen

Oct.2011 55 tril.yen (end-Dec.2012) Aug 2011 Aug.2011 50 tril.yen (end-Dec.2012)

60

40

Breakdown of the Asset Purchase Program

6

Schedule

8 10 12 2 4 2013

Intended End-Dec. End-Jun. End-Dec. End-Dec. End-Dec. End-Jun. End-Jun. time of 2012 2012 2012 2012 2013 2013 completion 2011

6

Notes: 1. Dates in parentheses indicate the intended timescale for completing the increase. 2. Latest figures of the amount outstanding are as of August 20, 2012.

12

Chart 13

Corporate Financial Conditions Domestic Banks' Average Contracted Interest Rates 1.8

ROA and Paid Interest Rate of Japanese Firms

% 8

1.7

s.a., % ROA (operating profits/total assets)

7

L Long-term 1.6

Paid interest rate (interest expense/interestbearing debt)

6

Short-term

1.5

5

1.4 4

1.3 3

1.2

2

1.1

1

1.0 0.9 CY 0 7

08

09

10

11

12

0 CY 85

Note: Average contracted interest rates are the six-month backward moving averages on new loans. Sources: Ministry of Finance; Bank of Japan.

87

89

91

93

95

97

99

01

03

05

07

09

11

13

Chart 14

Financial Positions of Firms and Lending Attitudes of Financial Institutions Financial Positions of Firms

D.I., % points 30 Large 20 enterprises1 10 0 -10 -20 -30 CY 00 02

D.I., % points 10 Small 0 enterprises i 1 -10 -20 -30 -40 -50 CY 00 02

Small enterprises1 04

06

08

10

12

Micro businesses2 04

06

08

10

12

Notes: 1. The D.I. for the left-hand chart represents the proportion of responding enterprises that answered "easy" minus the proportion of those that answered "tight." The D.I. D I for the right right-hand hand chart indicates the proportion of responding small enterprises that answered "easy" easy minus the proportion of those that answered "tight," and the proportion of micro businesses that answered "easier" minus the proportion of those that answered "tighter." 2. Dotted lines indicate averages for 2000 onward.

Lending Attitudes of Financial Institutions as Perceived by Firms D I % points D.I., Small enterprises1 30

D I % points D.I., Large 20 enterprises1 10 30

50

0

-10

10

Small enterprises1

-10 -20 CY 00

02

04

06

Micro businesses2

-30

08

10

-50 CY 00

12

02

04

06

08

10

12

Notes: 1. The D.I. for the left-hand chart represents the proportion of responding enterprises that answered "accommodative" minus the proportion of those that answered "severe." The D.I. for the right-hand chart indicates the proportion of responding small enterprises that answered "accommodative" minus the proportion of those that answered "severe," and the proportion of micro businesses that answered "more accommodative" minus the proportion of those that answered "more severe." 2. Dotted lines indicate averages for 2000 onward. Sources: Japan Finance Corporation; Bank of Japan.

14

Chart 15

Proportion of Firms without Net External Borrowings

% 45

40

35

30

25

20

15 CY 95

96

97

98

99

00

01

02

03

04

05

06

07

08

09

10

11

Notes: 1. Firms without net external borrowings are ones whose cash, deposits, and cash equivalents exceed their interest-bearing debt. Cash equivalents are short-term assets such as CP, CD, and bond investment trusts. 2. The 1,260 sample firms (excluding financial institutions) are those listed on the First or Second Section of the Tokyo Stock Exchange, with March year-ends, and whose data can be obtained consecutively from fiscal 1995 onward. Source: Nikkei Financial QUEST.

15

Chart 16

Exchange Rates and Exports of Switzerland and Japan Nominal Effective Exchange Rate 70

Value of Exports

CY2000=100, reversed 350

CY2000=100

80

Japan

300

90

Switzerland 250

100 110

200

120 150

130 Depreciation

140

Yen 100

Swiss franc 150 160 170 CY 00

01

Appreciation

50

02

0 CY 00

03

04

05

06

07

08

Note: Value of Exports is calculated on a U.S. dollar basis. Sources: Cabinet Office; Eurostat; Bloomberg; BIS.

09

10

11

12

01

02

03

04

05

06

07

08

09

10

11

12

16