Comment: Is Japan really 'out of the woods'?

COMMENT BY CENTRALBANKNEWS

Hirano's message was the most bullish assessment of the recovery in the Japanese economy presented by a central bank official in recent times.

Since the end of 2003 the Bank of Japan's comments on the prospects of a Japanese recovery have become increasingly upbeat. But, in seeking to avoid the mistakes it made in the mid-1990s, the central bank has been very careful not to make premature conclusions about the depth of the recovery. In this context Hirano's talk of "getting out of the woods" is noteworthy.

His assessment rests on three major developments. First, property prices have at last started to rise again. Last year the price of land for commercial use in Japan's six largest city areas showed an annual increase for the first time since 1991. Second, Hirano pointed towards improvements in the banking sector where the ratio of non-performing loans to total outstanding loans has shown a steady decrease from 8.7% in 2001 to 2.4% in 2005. Third, while China's share of the Japanese export market has been rising for decades, the rise over the last four years has been dramatic. With Chinese growth showing no signs of abating, the demand for exports from Japan will support the potentially fragile recovery in Japan's domestic demand.

No doubt these three developments are all good news from a Japanese perspective. However, considerable uncertainty remains about how the Bank of Japan will handle the tricky transition from years of deflation and ultra-loose monetary conditions to a situation where the central bank focuses on maintaining a low and stable rate of inflation. The central bank needs to find the balance between the risk of abandoning its "quantitative easing" policy too quickly, and the danger that once the economy is purged of deflationary forces, prices will rise rapidly.

Hirano suggested that Japan has now become "a source of comfort" in a turbulent world economy. At a time when considerable uncertainty remains over the Bank of Japan's actions in the year to come is probably not quite the case yet. One can only hope that Hirano's words will not represent another false dawn.