In Japan, a Test of Inflation Targets

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The New York Times
Friday, December 21, 2012

In Japan, a Test of Inflation Targets

By FLOYD NORRIS

“Under a paper-money system, a determined government can always generate higher spending and, hence, positive inflation.”

 — Ben Bernanke, 2002

Now we may find out if Mr. Bernanke was right. Japan appears to be ready to do whatever it takes to end its long run of falling prices. The Bank of Japantook limited action on Thursday, and more is expected in the new year.

Mr. Bernanke, then a member of the Board of Governors of the Federal Reserve, and now its chairman, gave the speech quoted above at a time when the American economy was stumbling along in a slow recovery and prices, at least as measured by the Consumer Price Index, were declining.

He was arguing that the Fed would not be out of ammunition if it cut nominal interest rates to zero and the economy failed to respond. He has since proved he was right about that. In the speech, he made a passing reference to a phrase used by Milton Friedman, about using a “helicopter drop” of money to fight inflation, which eventually earned him the nickname “Helicopter Ben” from conservatives scandalized by his aggressive action after the financial crisis began.

For two decades, Japan has provided stark evidence that chronic deflation is possible in a modern economy. Prices have fallen steadily despite extraordinarily low interest rates. The economy has stagnated.

This week the Liberal Democratic Party, which had ruled Japan for nearly its entire postwar history until it was swept from power three years ago, won a landslide victory. Shinzo Abe, the prime minister from 2006 to 2007, will get another chance.

Mr. Abe devoted a decent part of his campaign to criticism of the Bank of Japan, the country’s central bank. He wants the bank to pursue inflation, and to effectively print money until it gets it. At one point during the campaign he spoke of a 3 percent inflation target, although he seems to have cut that back to 2 percent.

Either goal, if realized, would be a major change for the country. The inflation index used in calculations of gross domestic product is now 18 percent lower than it was at the end of 1994.

On Thursday, the central bank took a relatively small step in the direction favored by Mr. Abe. It decided to step up its asset purchases and seemed to leave open the possibility that it would adopt the inflation target at a later meeting. Mr. Abe praised the move.

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