Wednesday, January 11, 2012

Head of Japan's central bank says 'structural reforms needed'

In a Bloomberg article, the Governor of the central bank of Japan observed that monetary policy is just a way to buy time so that needed structural reforms can be made.  Speaking from first hand experience of 20+ years of monetary policy being used to buy time, he also observed that buying time gets increasingly expensive.

Regular readers know that adoption and implementation of the FDR Framework is the necessary structural reform to fix the financial system and to jumpstart the economy.

The FDR Framework is able to achieve both of these outcomes because it allows the invisible hand of the market to once again operate properly.

Bank of Japan Governor Masaaki Shirakawa said there are limits to what monetary policy can achieve and governments must implement “necessary” reforms to aid the global economy. 
“Providing liquidity as ‘a lender of last resort’ is, in essence, a policy to ‘buy time,’”
Shirakawa said in a speech late yesterday at the London School of Economics. “It is essential that the necessary structural reforms take place while time is being bought, as the time that we can buy becomes progressively more expensive.” 
As Europe’s debt crisis prolongs the global economy’s recovery from the financial crisis and recession, central banks have followed cutting interest rates to record lows with measures such as bond purchases to boost demand. 
Shirakawa said that while there’s a risk of “diminishing returns” as loose policy is extended, that doesn’t reduce the need for central banks to act.... 
Shirakawa quoted Bank of England Governor Mervyn King, who attended the event, saying he agreed with King’s comment that there is “a limit to what monetary policy can hope to achieve.”... 
“Needless to say, bubbles are not caused by low interest rates alone,” he said. “However, when the expectation prevails that low rates will continue for a long period of time, it is likely to encourage leverage and maturity mismatching between the assets and liabilities of financial institutions.” 
Shirakawa said that the greater the leverage and maturity mismatches are, the more exposed an economy is to a possible unwinding. “The bursting of bubbles is the materialization of such fragility,” he said, adding that the cost of such events is “unbearably enormous.”
Actually, the cost becomes unbearably enormous when policies are adopted to buy time without the needed structural reform being undertaken.

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