Comment on “Response of Asset Prices to Monetary Policy under Abenomics”


Ueda (2013) is a stimulating and provocative paper that assesses the impact of unconventional monetary policy under Abenomics. Ueda provides empirical results based on an event analysis using mainly monthly data, in comparison with the past quantitative easing policy implemented by the Bank of Japan (BOJ) and the Federal Reserve (Fed).

Following Shinzo Abe's announcement in November 2012 that he would strive to get the Bank of Japan to set a new 2% inflation target, stock prices rose very sharply, coupled with significant depreciation of the yen exchange rate. In Ueda's view, the combination of huge political pressure on the BOJ combined with incorrect perceptions of the effectiveness of LSAP2 type measures (massive purchase of government bond) by the Fed brought about marked market response to mostly LSAP2 measures in its “quantitative and qualitative easing” (QQE) announced in early April.

On Ueda's empirical findings, I find it somewhat puzzling that the effects of both LSAP2 type measures implemented by the Fed and unconventional policy measures including the Kuroda easing implemented by the BOJ on long-term interest rates are insignificant, because this is contradictory to the intention of policymakers to lower long-term interest rates. I suspect that the existence of omitted variables in the regression model affects the outcome. One of the omitted variables could be the supply side of government bonds, namely changes in debt management policy.

In Japan, the average maturity of newly issued bond was lengthened from 5 to 8 years over the period from 1999 to 2012. The lengthening of the maturity of the supply of debt could offset the BOJ's intended decline of long-term interest rates. In the USA, the average length of the maturity of outstanding debt outside the Fed was shortened from 70 months to 50 months over the period from 2001 to 2008, but it started to be lengthened sharply to more than 60 months after 2008. The cause of the “conundrum of long-term interest rates” observed in 2004–2005 can be due to the shortening maturity of outstanding Treasury debt. In order to secure the effectiveness of QQE to lower long-term interest rates, it seems desirable that an agreement between the BOJ Governor and the Finance Minister not to change the maturity structure of newly issued bonds be concluded.

Ueda mentions several factors which caused asset price volatility since April 2013. I interpret the increased volatility of Japanese government bond (JGB) prices after the announcement of the QQE as a natural market response. When the market perceived that the long-term interest rates had reached the floor, they immediately sold their JGBs by recognizing the future losses. This is similar to the case of the “VaR” shock in June to August 2003, when long-term rates suddenly jumped from 0.4% to 1.6%.

In addition, net purchase of long-term government bonds by the BOJ is scheduled to be ¥50 trillion, while newly issued bonds amount to ¥44 trillion in FY 2013. As a result, it is necessary for private bond holders to sell ¥6 trillion worth of bonds in net terms. The best time for selling JGB's was the day when the long-term interest rates reached their floor. This implies a forced portfolio rebalancing to reduce the JBGs holdings.

Another cause of the increased volatility of JGB prices is the lack of forward guidance regarding the policy interest rate by the BOJ. The QQE shifted the operation target variable from short-term interest rate to the monetary base. While there is clear and strict forward guidance regarding quantity, there exists no forward guidance for the policy interest rate. This is unfortunate. Thanks to the fact that an interest rate (0.1%) is attached to excess reserves, it is possible to separate the decision making for the policy rate from the quantity target, despite the large excess reserves held by financial institutions.

In December 1933 Keynes (1982) wrote an open letter to President Roosevelt which recommended increasing government expenditure (“wise spending”) and reducing the long-term interest rate by market operations (“cheap money or credit”). Clearly, Keynes rejected the quantity theory of money, while he advised Roosevelt to adopt some common policy of exchange rate stabilization with Great Britain aimed at stable price levels.

Milton Friedman once noted that helicopter money means either a temporary tax cut financed by a permanent increase of the monetary base or the issuing of central bank checks which are sent to individuals. Ueda regards exchange traded funds (ETFs) purchase by the BOJ as being equivalent to a helicopter drop of money. There seems to remain slight slippage between ETF purchases and the issuing of BOJ checks, although I agree with him that the central bank is not entitled to use taxpayers' money by incurring losses. The ETF purchase could turn into asset price targeting, instead of inflation targeting, while the central bank will be easily exposed to political pressure to raise stock prices.

If the BOJ wants to further enlarge the size of FTF purchases, it is necessary to ensure that the profits and losses arising from the massive purchases of various assets are attributable to the government. This type of agreement was actually concluded between the Treasury and the Bank of England before the Bank of England embarked on the large-scale purchase of gilts in 2009.