Why couldn't Japan beat deflation by just printing money?

Couldn’t figure out how to Google this one; I’m sure the answer is probably so obvious that no one’s bothered writing it down.

From what I understand (mostly from poorly-remembered Paul Krugman columns), Japan spent the much of the 1990s trying to prevent the yen from going into a deflationary spiral. The interest rate was zero (or even less) and the value of money was threatening to increase, rather than decreasing at the modest (or sometimes not-so-modest) rate we’re all familiar with in normal economies. I think this is called a liquidity trap; no one will lend money because there’s no profit in lending at an interest rate of nothing-point-zilch, so the economy starves for want of capital.

My question is: if they needed the value of money to drop, and interest rates to rise, why didn’t they just print more money? (You know, like we in the US are apparently about to do. :eek:) Pump more yen into the economy, inflation returns, interest rates rise, and everybody’s happy. Plus, the government can use the new money it just printed for public works projects, social programs, soiled panties, or whatever governments like to spend money on when they have it.

I’m not angling for a Nobel Prize in economics here. I’m sure there’s a good reason, and I’m sure it’s not “because the Finn wasn’t there to give them his fabulous, world-saving idea.” But I can’t figure out what that answer is.

How about it, econo-Dopers?

The Japanese Central Bank did institute Quantitative Easing at the end of the Lost Decade, but analysts seem to think that it was too little, too late and recovery via patience was already starting. This meant that QE was still an unknown factor in the recent recession. However, the Japanese experience prompted central banks in Europe and the Federal Reserve to move to QE much faster than the Japanese did, and the general opinion of the results have been positive.

Si

Two comments:
(1) Don’t underestimate the tendency for a political apparatus to make big “obvious” economic mistakes. When (if?) sanity returns to U.S.A., many “Why were they so stupid?” questions will be asked about the past few years.
(2) Part of your question (“needed … interest rates to rise”) is confused. Easing lowers interest rates. (With rates already near zero, QEII in effect forces investors to accept new money that they didn’t want to borrow even for zero interest! :dubious: ) A rise in real interest rates is desirable only if it’s a natural consequence of businesses’ desire for capital. Regarding dollar valuation, foreign exchange rates and their effect on trade is more of a focus than domestic inflation expectations. (Does anyone really think deflationary fears are a significant reason for U.S. slump? Cite?)

The Japanese did print money. Then they yanked the chain right back when they were about to achieve success. At least twice when the inflation rate in Japan was approaching 0% from below, increasing from negative numbers, the BoJ increased interest rates once again and plunged themselves back into deflation.

There is no such thing as a central bank that is incapable of creating inflation, when they are in possession of both a printing press and also the legal authority to use said press. When the central bank is apparently so stuck, you can be assured that they lack the will to use the press. You can hypothesize that maybe they’re allergic to large quantities of paper and ink or something. This is called a “liquidity trap” by some, like Krugman, but what you have to understand about Krugman is that he uses the term “liquidity trap” not for a country’s inability to break out of deflation – which is as easy as turning on the press and keeping it running – but rather for their unwillingness to do so. Honestly, printing that much money makes people nervous. This sort of thing is typically a crappy move. Visions of men in lederhosen hauling around Marks in wheelbarrows flash through their heads. They consider all that new money as a mighty flood barely held at bay by a weakening dam, with the pressure building. They don’t want to be the ones to let the dam burst. So they do nothing. Then one day, ten years later, they continue to do nothing. Nowadays, this kind of timidity can be referred to as “turning Japanese”.

It’s not a dam. That’s not how it works. But try telling them that, and they ignore you for a decade. Better to be incorrect conventionally than correct unconventionally.

(And yes, I am aware that modern central banks use computers. A good metaphor is a good metaphor.)

QE is intended to cause economic recovery. Economy recovery would cause an increase in inflation expectations. An increase in inflation expectations would cause bond yields to rise.

It is entirely reasonable to expect a sufficiently aggressive QE to increase interest rates. If interest rates don’t eventually rise, the QE isn’t working.

That’s like saying that lowering interest rates raises interest rates by stimulating the economy and therefore increasing the demand for capital. It’s too far down the line to attributed as a cause. More accurately, if interest rates rise, you could say QE isn’t working because it’s being interpreted by the market as intending to monetize US debt.

Japan has been increasing it’s money supply for decades:

it’s Gov’t now has one of the highest debt ratios in the developed world.

I am not an economist, but I am a big believer in not fighting the last war.
And fighting inflation by focusing primarily on the money supply is doing things the old way.

One issue I note is that inflation is effected by many variables, including money supply. Three that I think about are Money Supply, Velocity, and Quantity of goods and services.

From economics 101 the equation of exchange:
MV = PQ

* M is the total dollars in the nation’s money supply
* V is the number of times per year each dollar is spent
* P is the average price of all the goods and services sold during the year
* Q is the quantity of assets, goods and services sold during the year

The classical concern about inflation is, hold all the other variables constant and increase M=increased P=inflation=bad.

Today’s world is more complicated. Not only is V far more variable (ie banks won’t lend, lowering V and countering some of the growth in money supply) but more important in my opinion is the unprecedented ability for Q to change. As long as China (and India and S. Korea to name a few) can build factories faster than the US or Japan is willing to increase M, inflation won’t be a problem. Now, it is anyone’s guess how long China will/can continue, but note that a) it isn’t a primarily economic decision in China, and b) with their population if the US can’t buy those goods the Chinese themselves might. In addition China, by controling the value of their currancy, is suppressing US inflation worldwide. Since the $ can buy more goods in China than M would imply, other countries find that their supply of s can be converted into televisions/cement/steel/clothes etc at the old price. So the US can keep pumping out to the entire world because the rest of the world can find a good use for them. And the same thing, on a smaller scale, happened in Japan. As M went up, so did efficiency and hence Q. And the world happily bought Toyotas and Sony walkmen. So the Bank of Japan was pushing the economy (not as hard as they probably should have but for a long time) from one end and supply was pulling on the other. In Japan supply won and they suffered deflation. In the US, maybe/maybe not.

Note that policy makers in the US are far more concerned with our economic relationship with China than they are with M. And for good reason, Asia is more important to the world economy than the supply of US dollars. That isn’t to say that the US dollar supply isn’t important, it is, but the size of the money supply by itself doesn’t control inflation in the 3-5 year time frame. And for the longer range, policymakers are counting on the growth of the US economy to sop up a large part of the increased money supply. Of course that assumes future policy makers will control the growth of money then. If they don’t, then the future policy makers may suffer inflation. So presumably they will curse their predecessors and put the US economy through a recession.

There are two ways a central bank can use to “print money” and expand the money supply. The first is to lower its central bank interest rates. This is the interest rates which commercial banks pay to borrow money from the cenral bank, which they use to refinance their lending. In other words, the idea behind lowering the central bank rate is to make it cheaper for commercial banks to borrow, and commercial banks pass this borrowing on to the economy as loans. This requires, however, that commercial banks are actually willing to borrow; they may still be reluctant to do so in spite of a low central bank rate (which is precisely what happened in Japan). If market actors expect not an inflation rate of zero, but actually a negative inflation rate, then lowering your central bank rate will not induce lending by commercial banks - the lowest you can decrease your central bank rate to is 0 %, and this would still be too high to induce somebody into borrowing who expects money to be worth more, in purchasing power, tomorrow than today (there were “alternative money” economicts such as Silvio Gesell who proposed negative interest rates, but that has never become mainstream and would be difficult to enforce legally and procedurally). This is precisely the liquidity trap you describe: Money could be borrowed for basically nothing at the central bank, but nobody wanted to borrow it.

The other way for a central bank to increase the money supply is quantitative easing, which consists of creating fresh money out of nothing an dusing it to buy assets, typically securities, from other market actors, thereby bringing new money into circulation. The problem with this is, again, that you need somebody to agree to that - you need a market actor who’s willing to sell you an asset in exchange for your freshly created money. While you’d think that people would be happy to do so (hey, it’s a deflation, so that money will buy me more stuff tomorrow than I had to give away for it today!), a deflation is always linked to feelings of insecurity and uncertainty, and many market actors are reluctant to enter into any sort of major transaction, adopting a “wait and see” attitude instead.

I guess I’ve always associated inflation with high interest rates—my intuitive sense is that interest rates are high to counter the fact that the money debts are repaid with is worth less than it was when it was borrowed. Is it possible to have low interest rates with high inflation? I’m just cueing off 1970s America here.

You can also read this thread I dug up a few months ago – Why isn't deflation easy to deal with? - Factual Questions - Straight Dope Message Board

The only answer I got that made any sense to me was fear of creating runaway inflation and needing a way to remove the money from circulation when inflation returns stops central banks from printing enough money to stop deflation.

I guess it makes some sense but I will repeat my analogy from the other thread and say it’s like starving to death because you are afraid if you eat you will get fat.

How about this idea – Print money and loan it to any American (Japanese, etc.) who wants it at low (or no) interest. Add whatever rules you want - can not be included in bankruptcy, government can attach bank accounts and income tax refunds to get it, etc. When the loans are paid back the money comes out of circulation. Pick whatever amount you think is necessary, allow higher amounts for purchases in sectors the government wants to ‘stimulate’ (IE new car purchases, energy efficient appliances, etc.) Edited to add - I realize there is a huge amount of administrative costs associated with this.

And a related question - in normal times do central banks add to the money supply by ‘printing’ more?

Like the OP, I am no economist, but I am given to understand that printing money devalues savings. It’s not politically viable to risk juicing things up for consumers by pissing off the savers. Savings is important.

IANAE either, but I do have an opinion. I can’t prove any of this, of course.

Psychological reason: In the history of the world, there has been a lot more inflation than deflation. I don’t think that needs defending. And–with reason–people are terrified of inflation. Since they have little or no experience with deflation, they don’t fear it.

They say that the ultimate cause of inflation is too much money chasing too few goods. What is happening in the world today–the developed world anyway–is too little money and too many goods. Solution: print money. “Oh no,” they scream, “that will cause inflation.” It will if there are too few goods, I agree, but that isn’t the case. Inventories are high. At the mall I go to, they are having pre-Christmas sales. Pre-Christmas sales, who ever heard of that? To the extent they are cutting prices, that represents deflation. But people still fear inflation.

For me, retired on a fixed income, a little deflation would be a benefit. But I see the hardship it is causing the rest of the world, especially the unemployed and I don’t like it.

I have no idea, but I think part of the problem is Japan’s historically high savings rate. As you can see from this chart, before the crash, our savings rate was below 2% and rose to about 7% during the recession. Now it is back down below 5% and will probably continue to drop as the economy improves.

By comparison with this chart, you can see that Japan’s saving rate tends to be 15 and 20%. That is quite a huge difference.

The more willing consumers are to spend, the faster money moves through the economy (velocity) and the more money gets created (multiplier). When you have a high savings rate, it’s more difficult for printed money to have the desired effect of more spending since a large chunk of it goes into savings rather than consumption.

You would think that would argue in favor of Japan opening up the taps and basically giving Yen away to people. I don’t know if this is correct, but I believe that the BoJ (Bank of Japan) has in fact tried to inject more liquidity on several occasions but it has not had the desired effect. If that is in fact true, I have no idea why it didn’t work.

Here is an interesting article that doesn’t answer the question but compares US and Japan’s savings rates and talks about current trends.

This is a gross oversimplification.

People who “save” money are bad for the economy. By “save”, I mean keep a pile of cash under their mattress and don’t spend it. A healthy economy is one in which people are investing their money - investment is the mechanism by which companies expand and create jobs. People are motivated to invest by inflation - if the value of money decreases at 2% a year (i.e. an inflation rate of 2%), you will want to find an investment that will pay you at least 2% so you are breaking even. If you just have a bunch of cash under your mattress in a period of 2% inflation, you’re losing 2% of your wealth each year. For this and a bunch of other reasons, moderate inflation is good for the economy.

When there is deflation, the value of your money is actually increasing without you doing anything. Why would you buy a new car for $20,000 today when you expect the same brand-new car to cost $15,000 next year? Why would a bank loan a company $10 billion to build a factory today when the factory will only be worth $7.5 billion next year? When there is deflation, there is no profit to be made from investment, and so investment shuts down as everyone just sits on their money, and the economy grinds to a halt.

Therefore, when deflation looks imminent, a reasonable policy for a central bank to follow is to print money and force inflation to return, thus motivating people who had previously been sitting on their money to invest it in something in order not to lose it. Maybe they will loan it to a company that it looking to build a new factory, and that factory will create new jobs, etc. Bingo, the economy has been jump-started.

If you’re “saving” your money by keeping it in a zero-interest checking account or something, you’re not going to be happy when there’s inflation. But that’s okay, because if so, you’re an idiot anyway, and your opinion doesn’t matter. If you’re “saving” your money by investing it, you’ll do just fine.

Indeed, but almost all of this debt (I believe more than 90%) is owed to…Japaneses (or Japanese banks, companies, etc…)

Basically, Japan creates money that Japanese people/investors happily use to buy Japanese bonds. Net result : nil. The bank of Japan could as well print money and stokpile it under a mattress for equivalent results.

This line is tangential to the main questions, but since two have commented on my comment, let me respond.

First, I did write “rise in real interest rates” which denotes nominal interest minus inflation.

But my main point remains: The Fed is not “trying to raise interest rates.” If it wanted that it could do it easily: Just tighten money, don’t loosen. The Fed is trying to make the American economy prosper again. If it succeeds, inflation will pick up, and so will real interest rates (and nominal interest as well, obviously). This hoped-for eventual rise in real interest will be a symptom of the recovery, not its cause!

My message contained a question still answered: Do American businesses or consumers really have significant fear of deflation? (The gold buying, etc. is a response to inflation fears, not deflation fears.)

I’m pretty sure you’re right about real interest rising as the economy improves. There have been a few related threads here recently and I don’t like to post the exact same thing more than once in case people are actually following more than one (yes, unlikely, I know).

The rate of interest is the price of money - it’s as simple as that. More demand (= more economic activity) and the same or less supply means higher real rates of interest.

Also, when the economy is booming, businesses have more potential projects that offer a higher rate of return. Therefore, they are willing to bid up real rates for the chance to pursue the more lucrative projects.

As for deflation, I think that was a real concern last year but haven’t heard any well recognized analysts pushing that idea lately - not that the analysts always have a clue, but it at least makes it less likely that anyone is seriously concerned.

I think we in fact have some deflation but it will be masked by the decline in the value of the dollar. As the dollar falls and commodity prices rise, those costs will be passed through to consumers to at least some extent. In very elastic markets like maybe breakfast cereal, producers will try to eat those costs to preserve market share or do “stealth” price increases by decreasing the size per package but keeping the same price. In more inelastic markets (gasoline, e.g.) those increased costs will be passed through in toto and then some.

No, it isn’t.

Interest rates don’t drive the process. They have their effect, but mostly they’re a passenger on the ride, going wherever the economy takes them. (The notable exception is the fed funds rate, but we’re talking QE here and not conventional policy and short term rates.) Interest rates are a reaction to what’s going on, most particularly a reaction to inflation expectations. When the economy was strong, the 10-year yield was higher. When the economy was weak, the 10-year yield dropped like a rock. The drop was not an attempt to create a better economy. It happened on its own, as a response to the crappy economy. If economic recovery is expected, the yield will respond again accordingly. The Fed’s purchases are a single push on the yield. That one effect is going to be vastly outweighed by long term expectations, as the markets try to figure out what’s going to happen next.

That’s not more accurate, it’s just another possibility. In fact, it’s less accurate because you present it as the only possibility.

If yields were to rise again to levels consistent with previous periods of economic growth, then that would be a sign that investors are expecting economic growth similar to previous periods. Quite obviously, yields wouldn’t rise to historical norms and then stop if investors expected armageddon. Only if bond yields shot quickly past those historical norms have you got a genuine demonstration of debt fears.

I don’t understand. If it goes into a mattress or the banks hold it as reserves, sure-nil.
But if it is invested, then it should help the economy no matter who does the investing.

Excellent.
And I agree that is an important question.
And based on the statements of the central bankers in the US and around the world, in general no. No one thinks deflation is likely. That is, less than 50% likelyhood.

That said, the US is taking steps to do what they can to avoid deflation. Why? Well, as I understand it, they fear it so much that even the remote possibility should be fought strongly and more importantly, they want to stimulate the economy and fighting deflation is a convenient justification for printing money. That is, can’t hurt in the short term and might help a lot if they are wrong on deflation. And if deflation doesn’t turn up, they can claim a great success.

Do American businesses and consumers fear deflation? Some. but like everyone else, they judge it to be a remote possibility.

And the flight to gold is due to fear of uncertainty not just inflation. Gold is not a hedge against inflation as much as it is a hedge against uncertainty. Inflation causes uncertainty, so gold is popular in such times.

Aemricans are being bombarded with predictions of the coming inflation. So they are concerned about it. But there is no evidence that inflation is imminent and people are going to tire of the predictions soon. They will find something else to be worried about.

You took my analogy too literally. It was solely intended to show that you can claim any kind of effect if you go far enough in time through the economic cycle. You were implying septimus was incorrect even though he was citing the traditional proximate effect of an increase in money supply.

Umm, I used the word could and only presented it as an alternative to what you proposed as the only possiblity.