Bank of Japan Signals Financial System Able to Withstand Easing for Now

(Bloomberg) -- The Bank of Japan said the financial system remains stable and growth in bank lending continues to support the economy, signaling it’s comfortable that lenders are coping with its record monetary easing program for now.

Banks “have maintained their active lending attitudes,” the central bank said in its semiannual financial system report on Monday. “The financial cycle has shown no signs of overheating as observed during the bubble period in the late 1980s.”

The publication has attracted closer-than-usual scrutiny among BOJ watchers for any signs that it may further adjust its policy to alleviate the impact of monetary easing on financial firms. While there was nothing to suggest that the BOJ will change its policy, the report indicates that it’s aware of longer-term risks to the banking system, former central bank official Nobuyasu Atago said.

“The report is suggesting that banks need to be cautious about the impacts of any potential economic downturn,” said Atago, now chief economist at Okasan Securities Group Inc. in Tokyo.

Weaker Profitability

The BOJ kept its assessment that the financial system remains stable “on the whole,” while adding that banks’ core profitability has continued to decrease as the population shrinks, competition intensifies and interest rates stay low.

“In order for the financial system to maintain stability into the future, financial institutions need to raise their core profitability,” it said.

Among Japan’s 106 regional banks, 54 reported losses in their main business of lending in the year ended March, and 23 have been losing money on loans for more than five straight fiscal years, a Financial Services Agency report showed in September.

What Our Economist Says ...

Financial conditions on the whole appear to be within its comfort zone -- suggesting little urgency for adjustments as its maintains stimulus to drive inflation to a still-distant 2 percent target. In our view though, financial imbalances are gradually building up -- and, left alone, could increase Japan’s vulnerability to shocks. We think the BOJ is attuned to the risks, and will take care to head off any overheating before it becomes too problematic.

--Yuki Masujima, Bloomberg Economics

For more see our JAPAN REACT.

The central bank highlighted the need for banks to enhance their risk management, particularly in areas where they have taken on more risk, such as real estate lending, overseas loans and securities investment. Regional banks, which have been increasing holdings of stock-related investment trusts in recent years, could incur losses greater than those during the global financial crisis if equities tumble, the BOJ said.

While a majority of economists expect the BOJ to keep its policy basically unchanged until 2020, they see the chance of more tweaks following adjustments made in July. Governor Haruhiko Kuroda and his board next meet on Oct. 30-31.

The BOJ sets a short-term interest rate at minus 0.1 percent and aims to keep 10-year bond yields around zero. In July, it pledged to keep rates extremely low for an “extended period” as it seeks to achieve 2 percent inflation. However, it also decided to allow a wider range of moves in yields to reduce any adverse impacts of massive easing.

“The central bank is mindful of the need to raise 10-year bond yields higher in the longer run, but they’re not indicating that it will be any time soon,” Atago said.

©2018 Bloomberg L.P.