MNI: Ex-BOJ Gov Shirakawa Says Implicit Job Contract Saps CPI

Former Bank of Japan governor Masaaki Shirakawa has highlighted the risks to Japan's inflation outlook from long-standing employment practices, as he called for global policymakers to give more consideration to supply-side factors in an article in the International Monetary Fund's latest Finance & Development Magazine.

“Monetary policy should not be guided by supply-side considerations, but it shouldn’t ignore them either,” he wrote in the March edition set for release on Wednesday. “Debates about monetary policy often assume that monetary easing and tightening arrive alternately in a relatively short space of time. If this were so, it would justify the traditional view that monetary easing affects only the demand side.”

He used Japan's approach to employment as an example of a supply-side issue with consequences for monetary policy.

“In Japan, consumer inflation is accelerating but at a much slower pace than in other advanced economies. This is mainly because of the unique practice of “long-term employment”: Japanese workers, especially at large firms, are protected by an implicit contract under which bosses try to avoid layoffs at all costs," Shirakawa wrote.

"This makes them cautious about offering permanent wage increases unless they are truly confident about future growth. It translates into lower inflation,” he added.

The comments come as the BOJ under incoming governor Kazuo Ueda closely monitors ongoing wage negotiations, with expectations that large companies will deliver substantial increases to help alleviate high cost of living pressures. Smaller firms are expected to face pressure to lift salaries to maintain employees in a tight labour market. Wages are viewed as key to the BOJ achieving its 2% inflation target in a stable and sustainable manner. (See MNI POLICY: BOJ Wary Rising Staff Costs May Crimp Wage Growth)

POLICY REVIEW

Shirakawa used the article to call on global policymakers to undertake a review of the framework, specifically inflation targeting, that has driven monetary policy over several decades.

“Inflation targeting itself was an innovation that came about in response to the stagflation of the 1970s and early 1980s. There is no reason to believe it is set in stone,” he wrote. “It’s time to rethink the foundation and framework of monetary policy".

“Now that we know its limitations, the time is ripe to reconsider the intellectual foundation on which we have relied for the past 30 years and renew our framework for monetary policy,” he said.

Shirakawa also warned about the side-effects of easy policy, warning that “if monetary easing takes place over a longer period of, say, 10 years or more, then the adverse effects on productivity growth through resource misallocation become serious.”

“Central banks cannot be attentive only to macroeconomic developments such as inflation and the output gap. They must also pay attention to what is happening in financial institutions and financial markets,” he said.

Shirakawa also took aim at forward guidance. “When the economy is weak, forward guidance is not very effective because market participants expect interest rates to remain low anyway. But when the economy is hit by a surprise shock to demand or supply, forward guidance of continuing low interest rates can suddenly become too expansionary and inflationary. This may partly explain what we are seeing now.”