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Analysis
Radicalism and change beckon for central banks

Radicalism and change beckon for central banks

Abe’s win ushers in new era for Bank of Japan
Carney’s nominal GDP idea no panacea

by David Marsh

Mon 17 Dec 2012

A time of radicalism and change beckons for the now not-so-staid world of central banking.

In Japan, following the election victory of Shinzo Abe’s Liberal Democratic Party, the Bank of Japan looks likely to take on a distinctly dovish hue. The term of office of conventional inflation-fighter Masaaki Shirakawa, the incumbent, who has done far too little (according to Abe) to ward off deflation, ends in April next year – and a new era seems to be unfolding.

According to Prof. Shumpei Takemori of Keio University, a member of the OMFIF advisory board, writing in the OMFIF Monthly Bulletin for December, the front-runner to replace him is Kazumasa Iwata, president of the Japan Center for Economic Research. Well regarded in Abe’s circle, he has spoken in the past of weakening the yen by setting up a ¥50tn fund to purchase foreign bonds.

In the US, Fed chairman Ben Bernanke has embarked on a new round of aggressive monetary easing to beat the unemployment rate down to 6.5%. And Mark Carney, Governor of the Bank of Canada and designated new head of the Bank of England from 1 July, raised eyebrows by suggesting a recession-beating shake-up in the UK monetary policy regime. What’s more, he’s won the approbation of the Treasury.

Among the industrialised world’s leading central banks, only in Europe is there likely to be continued support for hard-as-nails orthodoxy. This is a consequence of the Bundesbank’s stern opposition to undue laxity, in particular, to genuinely unlimited purchases of weaker euro members’ debt by the European Central Bank, or to more euro area quantitative easing.

The result is likely to be not a stronger but a weaker euro, as the negative impact on euro members’ growth rates outweighs the potentially positive influence of relatively (slightly) higher European interest rates.

There is a good deal of déjà vu in all this, of course. The most apparently radical idea put around in the UK, the idea of a nominal GDP target as suggested by Carney last week, is not new at all but is a rehash of an old suggestion long favoured by veteran Financial Times commentator Samuel Brittan.

Carney’s suggestion is certainly no panacea. As supporters of the concept admit, one of the drawbacks to the idea is that GDP figures are subject to constant revision, sometimes years after the date, which greatly limits their usefulness as a yardstick for practical monetary policy.

The UK Treasury has earned widespread criticism from the opposition Labour party for sticking to plans for deficit reductions despite Britain’s worsening economic picture. But the UK government appears to see Carney’s proposal as a welcome opportunity to accompany relatively tight fiscal policy with a still looser monetary stance.

Any move to nominal GDP targeting would require the Bank to take bolder stimulus measures, even at the cost of higher inflation.

This would take a notch further the low interest rate policies favoured by the present governor, Mervyn King, who retires at the end of June – and has habitually poured cold water on the notion of nominal GDP targeting. While the Treasury says it has no plans to scrap the Bank’s current 2% inflation target, Chancellor of the Exchequer George Osborne’s press office briefed journalists that Carney’s comments had struck a favourable note.

Slightly disingenuously, considering Osborne has only just pulled off a coup de theatre by appointing Carney (even though he had been widely believed to have turned the offer down), the chancellor’s aides let it be known that Osborne considered his new man at the Bank of England to be ‘the central banker of his generation.’ We shall see how long the epithet sticks.

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