Macroeconomic variables of an economy are an important concern for the government and the central bank of a country. In the case of Japan, the central bank of Japan plays a crucial role to give the economy a direction cooperating with the government of the country. The study of changes and determination of the monetary and fiscal policy in the country is one of the biggest responsibilities of the bank of Japan. The objective of this study is to shed a light on the recent changes made by the Bank of Japan in the field of monetary policies and settings. The discussion includes the repercussions that have rippled across different sections of the economy due to the changes made by the central bank. The discussion also includes the action of the government to mitigate the problems created by the Bank of Japan.
Key macroeconomic challenges faced by the economy
One of the basic facts regarding the operation of an economy is the fact that any decisions made by the government impact different sectors of the economy differently. The central bank or the government with their policy cannot make conditions favourable for all the economic agents (Ishikawa, Wang, and Nakazawa, 2018). Therefore, the main challenge for the Bank of Japan is maintaining a balance so that each of the economic agents gains something from the policies contributing profoundly towards the national product of the country.
The bank of Japan has recently tweaked a few of the pre-existing policy setups in order to reach a few of the goals of the government. First and the foremost goal that was set by the bank of Japan two years ago was the reduction in the inflation rate of the country. The inflation rate in the country has been fluctuating heavily prior to that. This not only hampered the investment inflow into the economy of Japan but it also has affected the capital markets within the country. The trend that can be seen in figure 1 shows a fluctuating stock market of Japan. Okabe (2016) noted that two of the main causes of the fluctuations in the capital market is the fluctuating inflation and inflexible interest rate to stimulate the activities of the capital market of Japan.
Figure 1: the changes in the Nikkei over the years
(Source: Yoshino and Taghizadeh-Hesary, 2015)
However, the challenges have been faced by the government and the central bank of Japan in communicating the endeavours with the markets and the agents. While the policies have made a section of the industry such as the banking and insurance industry better off, it has to create disturbance in other sectors such as manufacturing. This absence of parity between the motive of the bank of Japan and the individual interest of the players in the capital market have created disharmony in the economy (Tachibanaki, 2016). Thus, the main challenge for the bank of Japan is to put into place a harmony among different sectors of the economy through uniform and consistent investment pattern.
Another challenge faced by the economy is the communication between the central bank of Japan and the industries of the market. Many of the experts of the market have complained that the communication of the Bank of Japan has been inadequate over the years that can work against the goal of the central bank (Sato, 2016). Curbing the high inflation level with a flexible interest rate can be harmful to some of the industries of the economy. These industries include retail, manufacturing and many more. In addition to that unemployment may also rise with the prospected policies of the Bank of Japan. For example, the flexible interest rate can go low reducing the investment demand in the economy of Japan. Consequently, aggregate demand in the economy may reduce leading to a reduction in the labour requirement in most of the organisations of the economy. Edgington (2018) noted that this problem can further amplify in the future due to the existing policies of the government that has negatively impacted the investment inflow into the economy of Japan. Therefore, it is a big challenge for the government to balance between the inflation and the interest rate of the economy so that fair amount of consumer spending can be maintained in the economy (Matsumoto, 2018). Furthermore, the complex policy stances of the government may also disturb the decision making of the companies of the market. This, in turn, may lead to stagnancy in the activity of the economy.
Causes of the problem
There is a number of causes of the problem which is there in the economy of Japan. First and the foremost source of the problem are the unchanged government policies that were used for the last 2 years. The interest rates were pegged at a certain value and hence the economy had no scope to expand. Apart from that the low-interest rates in the economy also led to a lack of investment in the economy (Wong and Loi, 2016). The lack of investment in the economy, in turn, created low aggregate demand that caused the problem. Another important cause of the problem is the inability of the central bank of Japan to understand the underlying problems of a pegged interest rate over the years. The needs of the corporate sectors and different industries of the market are also not incorporated in the decision making of the government and the central bank. Tsutsui and Mazzotta (2015) noted that contractionary policies of the government have been detrimental for the growth of the economy for a long period of time. These have failed in generating enough demand in the market.
A major cause of the problem is also the credit crunch that has resulted in the economy of Japan in the past 2 years due to a tight monetary policy. The main aim of the government and the central bank of the country were to keep the inflation level high so that the exchange value of the Japanese currency remains the same. Umeda and Kawamoto (2018) noted that one of the biggest reasons for that strategy is the fact Japan has a huge external debt. According to the figures of 2017, the external debt of the country stands at 3.24 Trillion USD which is a significant portion of the national GDP of Japan. Therefore, the major concern for the government was to maintain the same level of external debt that was only possible if the exchange rate of the country compared to the USD is pegged at the same value. The depreciation of the Japanese currency relative to the US dollar will increase the external debt of the country and hence the overall expenditure of the government would have increased. Qiu (2015) highlighted that, one of the best ways to keep the exchange rate of a country the same is the controlling the interest rate of the economy. The fixed interest rate would provide more stability in the capital market of the country leading to an increased demand for the Japanese currency (Otsu and Shibayama, 2018). This major objective or the goal of the government compelled the central bank and the government of Japan to have a strict and tight monetary policy that in turn reduced the aggregate demand in the economy of Japan.
Impact on the society and economy
As the actions of the government and the situation of the market directly influence the demand for the goods and the services in the aggregate market, it impacts the aggregate demand. Low interest does not intrigue investors of the market to invest in the capital market. An investment which is a major comported of the aggregate demand also halted in the economy of Japan leading to stagnancy in terms of GDP growth.
Figure 2: The GDP growth rate of Japan over the years
(Source: Yang, 2017)
The figure above clearly depicts the stagnant GDP growth rate of the economy over the past few years. Xing (2016) highlighted that the economy of Japan had a great potential due to the advancement in technology and the enhancement of other sectors. Japan also had the potential to become one of the largest destinations for the foreign investment, however, low interest in the economy and the lack of concentration of the government on the investment inflow impacted the overall economy of Japan.
Furthermore, one of the biggest impacts of the changes in the policy of the Bank of Japan and the actions of the government over the past few years is the dampened aggregated demand. The aggregate demand is an important macroeconomic measure that checks and determines the economic activity of the economy. The aggregate demand also predicts the overall GDP of the country as well (Krichene, Inoue and Fujiwara, 2017). The low-interest rate and hence the low inflation in the market created a type of recession in the economy of Japan. Although the government tried to keep maintain the aggregate demand in the market by increasing the expenditure each year since 2009, it failed in generating a healthy aggregate demand in the market. In terms of economics, the major change can be seen in the AD curve. In this case, the AD curve shifted to the left due to the imposition of the tight monetary policy and hence the price and the output remained low. The aggregate output and the overall price level of the economy are determined by the intersection of the AD and the AS curve of the market (Kim and Kwon, 2017). The supply side of the economy is not affected by the changes in the policies of the central bank of Japan in the short run. Therefore the price reduced and the real GDP reduced from the potential leading to a low GDP growth of the economy of Japan.
The actions of the bank of Japan also have its influence over social life as well. Savings in the economy of Japan fell to 21% of the GDP that is the record low level of GDP in the last 10 years. The saving rate has reduced from 40% in the year 2001 (Imagawa, Ono and Sasai, 2015). The capital accumulation is directly related to the saving rate of the nation and hence capital accumulation got hampered. Now the capital accumulation directly influenced the productivity and the employment rate of the economy. Joblessness has increased over the years leading to a rising crime rate. The government did not have a plan for the capital investment in the infrastructure that could have provided a lot of jobs to the citizens of the country. The policies of the government are also in line with the temporary recessionary phases that have been seen in the economy of Japan in the last few years. Apart from that, the preferences of the students in acquiring skills have also deteriorated as the opportunity within the economy is low. Takahashi (2015) noted that, long-term impacts such as the changes in the needs and the preferences of the students. The average skills of the labours of the market have reduced leading to an overall reduction in the wages of the labours.
Action undertaken by the government corresponding to the problem
Government and the central bank have undertaken a policy that impacted the operation of different companies of the economy. Now the government and the central bank of Japan is the one who has had to undertake another policy to correct the negative impacts of the initial policies of the central bank of Japan. One of the first actions that were taken by the central bank of Japan was the introduction of flexibility in the interest rates of the economy. Investment demand is a function of the interest rates in the market. With the increasing interest rate the rate of return increases and hence the demand for investment increases. With the withdrawal of restriction over the interest rate cap of the economy, the investment demand grew and contributed to the aggregated demand of the economy (Francks, 2015). Therefore, the AD curve shifted to the right again increasing the output and the prices of overall goods and services of the market. This action from the side of the government has helped in increasing the consumer spending of the economy as well. The demand for the products and the services of insurance and banking services has also increased. This, in turn, has paved the way for the economy of Japan to grow at a higher rate. The recent economic growth rates have shown the signs of improvement in the future too.
Figure 3: The change in the AD-AS model
(Source: Hanagaki, Masahiro and Iwamoto, 2016)
Lastly, the government has stepped in with a further increase in government spending to help shift the AD curve to the right side. The government spending is another component of aggregate demand that is often used by the government to help boost economic activities in the economy (Hanagaki, Masahiro and Iwamoto, 2016). The expenditure of the government is spent on different sectors of the economy which further creates job opportunities helping the economy retrieve the position it had. The increased government spending is also a great strategy for boosting up the foreign investment within the economy of Japan. Apart from that the government spending can also improve the infrastructure of the economy of Japan that further can become a good platform for the investors. The government have also started working on the communication so that bank of Japan can set policies based on the current scenarios of the economic agents.
Therefore, the initial actions of the Bank of Japan and the government of Japan had reduced the volume of the economy. One of the major areas that suffered following the pegged interest rate is the consumer expenditure and the aggregate demand in the economy. The aggregate demand in the economy is something that caters growth in the long run. Apart from that, the aggregate demand is also helpful in measuring real GDP and the labour requirement of the economy as well. The actions of the central bank of Japan created a credit crunch in the economy as a result of low investment inflow from the foreign economy. The low-interest rate has been the major reason for the reduction in the demand for investment in the economy. The investment and hence the savings rate is reduced further within the domestic economy of Japan as well. This not only disturbed the operation and the activities of the economy but it also led to a lack of job creation in the economy of Japan. Consequently, the crime rate has been a problematic figure for the government of the country. However, the measures from the side of the government towards correcting the issues have also been effective as it has increased the aggregate demand in the economy again.
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