More than a decade has passed since the Bank of Japan brought benchmark interest rates to almost zero. Now that Japan's economy is showing signs of steady recovery, it stands to reason that this extraordinary policy of quantitative monetary easing should come to an end. Yet, reversing a policy that has persisted for so many years may prove difficult.
There is no doubt that the BOJ is in a bind, although nothing of the sort has been even remotely suggested by Gov. Toshihiko Fukui and other BOJ officials. The fact is that prolonged zero-interest rates -- which have effectively deprived the central bank of the most important means of monetary policy -- have created various side effects. At the moment, though, the bank appears unwilling to consider an "exit strategy."
One major consequence of rock-bottom interest rates is an enormous glut of government bonds. Over the years the Finance Ministry has issued massive amounts of long-term debt, which have been purchased mainly by financial institutions and institutional investors. Now, however, they are beginning to sell some of their bloated bond holdings to avoid risks. As a result, bond prices are falling while long-term interest rates are rising.