Friday, May 4, 2012

Philip Pilkington: Inflation-Targeting Experiment May Start in Japan… But at What Cost?

The tradeoff looks ugly. If the rumors prove to be true, the Japanese government is going to engage in fiscal austerity by raising taxes so that they may pass a law that states that any central banker who fails to achieve specific price-rises will lose his or her job. But reducing fiscal deficits in a weak and already deflation prone economy is even more deflationary; it’s hard to see how the BoJ can hit the target in the face of this headwind.
In truth, we have no idea if this policy is going to be effective in any way. And if it is effective we have no idea what sort of impact its going to have. I argued the other day that inflation targeting done in isolation may well lead to investors simply pouring into various so-called inflation hedges (gold, silver and other commodities) which, in an extreme case, may lead them to pull funds out of the government bond markets, drive up yields and thus lead to more excuses for the government to engage in austerity.
Read it at Naked Capitalism
Inflation-Targeting Experiment May Start in Japan… But at What Cost?
By Philip Pilkington

Apparently Japan is considering monetary policy that targets higher inflation rates to finally end their lost decades. This pact would be a truly interesting experiment as fiscal austerity directly reduces the supply of money while monetary policy indirectly affects demand for money through altering expectations. My hunch is that asset purchases by the Bank of Japan (BOJ) will have to be significantly greater than any reduction in government deficits in order to achieve the stated price target (if only for a short time). I think Pilkington is also on the right track with regards to the type of assets that will see price inflation. As an inflation-targeting skeptic, I’m very thankful that if some politicians are going to experiment with these policies, it won’t be the US that has to bear the significant risks.

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