MNI INSIGHT: BOJ To Be More Flexible Over 2% Target Timeframe

--BOJ To Keep Target, But Less Concerned If Takes Longer To Achieve

--Could Hike Rates To Target Effects Of Easy Policy; Not Normalization Step

By Hiroshi Inoue

     TOKYO (MNI) - The Bank of Japan board remains focused on hitting its 2%

price stability target, although it may be more flexible over the delivery

timeframe as side effects from easy policy build, MNI understands.

     The BOJ will not abandon its 2% price target, as such a move will likely

contribute to yen strengthening, but is prepared to back away from early

execution as policymakers pay increasing attention to the accumulated

side-effects of easy policy.

     BOJ Governor Haruhiko Kuroda alluded such to legislators Tuesday, saying

the bank's price stability target will not be achieved in fiscal 2020, the year

to March 31 2021, although he offered no thinking into a revised timeframe.

     --SIDE-EFFECTS BUILDING

     The view that the BOJ needs to maintain its easy policy for a prolonged

period is shared by Bank officials, as structural factors impeding a pick up in

the inflation rate will continue. The favorable effects of easy policy are seen

weakening and negative effects are cumulating with the passage of time.

     Should the BOJ board become seriously concerned over a risk of a pullback

in financial intermediation, they will consider raising policy rates to mitigate

against side-effects, but only on the assumption that the economy's recovery is

continuing.

     In order to gauge how financial intermediation is functioning, BOJ

economists are focused on the diffusion index in the quarterly Tankan survey

that shows bank lending as "accommodative" minus "severe".

     The BOJ doesn't rule out the possibility of raising rates before hitting

the 2% price target as the BOJ is taking account of developments in financial

conditions as well as economic activity and prices, a person familiar with BOJ

thinking indicated to MNI.

     --NOT NORMALIZATION

     Any BOJ raises interest rates to address the side-effects of easy policy

should not be considered policy tightening and is not a step toward policy

normalization, the person added.

     If real interest rate falls in the wake of the higher inflation, hiking the

nominal rate will weaken the degree of the BOJ's easy policy, but have no

serious adverse impact on economic activities.

     As long as the BOJ keeps 2- to 3-year rates -- the rates that largely

influence banks' lending rates -- at low levels, a steepening yield curve will

not adversely impact the economy, the BOJ views.

     However, Japan's real interest rate shows little sign of falling, as

Japan's inflation rate, measured by core consumer price index excluding fresh

food, rose 1.0% on year in September, far from the bank's 2% target.

     A question remains also whether higher policy rates will be effective in

mitigating against the side-effects and financial imbalances caused by prolonged

easy policy.

     Another person who is also familiar with BOJ thinking was unsure, saying a

steeper yield curve would improve banks' profitability, but would not be

effective in adjusting banks' financial imbalances and their risk-taking.

     New financial regulations would therefore be needed to prompt banks to

raise lending rates to correspond to higher credit risks, not only to prevent

banks from taking excessive risks, the person added.

     BOJ Kuroda recently warned, "If appropriate risk management measures are

not taken and the continued decline in profits leads to insufficient capital

bases, credit costs could rise sharply, and the stability of the financial

system could be threatened in the event of a large exogenous shock that leads to

an economic downturn."

--MNI Tokyo Bureau; tel: +81 90-2175-0040; email: hiroshi.inoue@marketnews.com

--MNI London Bureau; tel: +44 203-586-2225; email: les.commons@marketnews.com

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