Q+A-How is BOJ’s QE different from last time, will it work?

By Leika Kihara and Rie Ishiguro

TOKYO, Oct 29 (BestGrowthStock) – The Bank of Japan has said it is
prepared to top up its new 5 trillion yen asset buying scheme,
its latest effort to sustain economic growth and prevent the
yen’s strength from derailing a fragile recovery.

The planned injection of funds into assets ranging from
government debt to corporate bonds, exchange-traded funds to
property investment trusts, marks a new chapter in Japan’s
battle with deflation, effectively ushering in a form of
quantitative easing.

Below are some questions and answers about the scheme.

HOW IS THIS DIFFERENT FROM QE-1, WILL IT WORK BETTER?

During its five-year quantitative easing campaign that
ended in March 2006, the BOJ dropped its interest rate target
and replaced it with the amount of reserves financial
institutions parked at the central bank. Policy easing was done
by raising the target and flooding markets with extra cash.

While it met the liquidity targets, hoarding of cash by
lenders that were struggling with bad debts, meant the funds
were not flowing back into the economy. Consequently, the
massive effort boosted the central bank’s balance sheet by 40
trillion yen ($493.6 billion) but did little to revive growth
or defeat deflation.

Now, the BOJ resists calls for a repeat and has kept
interest rates as a benchmark.

It also rejects the quantitative easing label while it
tries to be more creative and selective in deciding how much
money it should spend and on what.

The BOJ argues such a targeted approach works better.

For example, its government bond purchases specifically aim
at pushing down one- to two-year yields towards 0.1 percent,
the BOJ’s benchmark, from their current level of 0.125 percent
and 0.135 percent respectively.

The new asset buying plan also extends to corporate bonds
with the lowest investment grade rating, which the central bank
hopes will encourage investors to take on more risk and make it
easier for lower-rated companies to raise money and grow.

And there is the difference in scale.

The quantitative easing early this decade boosted the BOJ’s
balance sheet by about a third. Now it has barely changed and
the 5 trillion yen ($62 billion) figure pales in comparison
both with Tokyo’s past efforts and the hundreds of billions of
dollars being considered by the Fed.

But that is also a problem. Analysts doubt 500 billion yen
initially earmarked for corporate bond purchases and 3.5
trillion for government debt can have much impact on Japan’s $5
trillion economy.

WHAT HAS CHANGED SINCE BOJ’S DEBT BUYING DURING THE CRISIS?

The BOJ had been buying corporate bonds and commercial
paper after they froze up during the global credit crunch. Back
then the aim was to create some liquidity and revive trading.

Now, the BOJ wants to reduce risk premiums so that
companies with lower credit ratings will have better access to
cash.

However, economists point out that credit conditions have
loosened substantially and now investment-grade borrowers have
no trouble raising cash, so the new initiative may have little
impact.

HOW DOES IT COMPARE TO THE FED’S ASSET BUYING?

The BOJ will buy a much broader range of instruments than
the Federal Reserve, which restricts buying to government bonds
and mortgage-related securities, out of concern about exposing
the Fed to greater risk.

But the much smaller scale of the BOJ’s asset purchases,
means the risks for BOJ are also much smaller.

Japan’s central bank plans to spend 5 trillion yen by the
end of next year, while markets estimate that the Fed may boost
its balance sheet by extra $500 billion to $1.5 trillion over
five months.

While the BOJ’s balance sheet has barely increased since
the global financial crisis, the Fed’s has expanded 45 percent
in the past two years.

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For a graphic on Fed, BOJ balance sheets:

— http://link.reuters.com/ved62q
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WILL THE BOJ KEEP BUYING MORE AND WHY?

The BOJ is ready to buy more assets if economic conditions
deteriorate, possibly as a result of a sharp rise in the yen or
a prolonged downturn in the U.S. economy.

The BOJ also says that since it has pegged interest rates
to the floor, the size of the pool of funds earmarked for such
purchases will be effectively a gauge of its policy stance.

The BOJ has little room to buy more ETFs and REITs since
these markets are relatively small. But it may buy more
government bonds via the new scheme to more forcefully flatten
the yield curve.

The new scheme allows the BOJ to circumvent a self-imposed
ceiling that caps the balance of its bond holdings at the value
of banknotes in circulation.
($1=81.03 Yen)
(Editing by Tomasz Janowski)

Q+A-How is BOJ’s QE different from last time, will it work?