Shirakawa Sees Europe Turmoil Persisting, Backs ECB Bond Buying

May 22 (Bloomberg) -- Bank of Japan Governor Shirakawa backed the European Central Bank’s efforts to defuse the sovereign-debt crisis while signaling it will “take time” for the region’s policy makers to calm unsettled markets.

Shirakawa said Japanese stock movements are unstable, hours after the finance minister warned on the impact of “excessive” yen gains. The BOJ chief spoke in Tokyo yesterday after the bank kept its main interest rate at 0.1 percent and outlined plans to spur corporate loans and support growth.

Exports dominated an acceleration of Japan’s growth in the first quarter, underscoring the country’s vulnerability to any drop in global demand as spending at home fails to spur prices. Shirakawa told reporters that while the European crisis has had a “limited” effect on Japan’s recovery so far, any escalation would become a “downside factor.”

“The direct effect of the fiscal turmoil triggered by Greece on the Japanese economy is very limited, but should the yen’s gain and stock plunge continue, that would become a real threat,” said Hideo Kumano, chief economist at Dai-Ichi Life Research Institute in Tokyo. “The BOJ will probably implement further actions if financial markets become more volatile.”

The Nikkei 225 Stock Average slid 2.5 percent to 9,784.54 at yesterday’s close in Tokyo, capping the biggest weekly drop since January 2009. The yen fell 0.4 percent to 112.40 per euro late yesterday after reaching an eight-year high on May 20. Japan’s currency slipped 0.3 percent against the dollar.

Caution on Yen

Finance Minister Naoto Kan said it’s undesirable for market volatility to cause currencies to stray from “stable” levels and he’s watching whether the yen’s gains might become “excessive.” A stronger yen risks hurting the exporters that have led Japan’s recovery from its worst postwar recession.

Shirakawa said the ECB’s decision this month to start buying government bonds was the “most appropriate” given turmoil in the region’s debt markets. The ECB “made it clear that this operation does not represent any change to its monetary policy stance, and it was intended to fix the bond markets, which had started to become dysfunctional.”

“It will take time until European nations make sound achievements toward fiscal reform and regain market trust,” he said.

To stop the debt crisis, European policy makers this month unveiled an unprecedented rescue package that included almost $1 trillion of loans as well as the ECB’s bond purchase program.

Cash Injection

In the aftermath of yesterday’s stock tumble, Japan’s central bank pumped 1 trillion yen ($11 billion) of same-day funds into the banking system to boost liquidity, the third such addition since May 7.

Japan’s export recovery has prompted companies from Nissan Motor Co. to Tokyo Electron Ltd. to forecast higher profits and spending. A government report this week showed the economy’s expansion accelerated to an annual 4.9 percent rate last quarter. More than half of that came from trade as consumer spending growth cooled.

The BOJ policy board raised its assessment of the economy, saying it is “starting to recover moderately, induced by improvement in overseas economic conditions.” It reiterated a pledge to fight price declines, describing deflation as a “critical challenge.”

The credit program announced yesterday will offer one-year loans to banks at the key overnight rate, as long as they lend the money to companies for projects that could foster growth. Shirakawa said last month that the plan would seek to spur lending in areas such as energy, the environment and technology.

Political Pressure

Economists including Mari Iwashita say the central bank is likely to face political pressure to keep supporting the economy as Prime Minister Yukio Hatoyama’s government addresses record public debt and prepares for a July election. Finance Minister Kan said this week that he expects the bank to support an economy that’s not yet in a self-sustained recovery.

“The new loan program, an extraordinary step for a central bank, seems to be Shirakawa’s response to political calls on the bank to ease policy,” said Iwashita, chief market economist at Nikko Cordial Securities Inc. in Tokyo.

The International Monetary Fund　said this week that fiscal adjustment is “critical,” while the BOJ should consider further measures to combat deflation.

The ECB’s bond buying may spur government pressure on the Bank of Japan to increase its monthly purchases of the country’s debt from 1.8 trillion yen, said Takehiro Sato, chief Japan economist at Morgan Stanley in Tokyo. “Politicians would raise calls on the BOJ to buy more bonds should long-term interest rates start to surge,” he said.

Bond Yields

The yield on Japan’s 10-year bond fell two basis points to 1.235 percent yesterday.

The BOJ cut the key rate to 0.1 percent in December 2008, and in March doubled to 20 trillion yen a credit facility that provides three-month loans to commercial banks at that rate.

“The latest program will probably have only a limited impact on the economy, but the step would be less harmful than increasing sovereign bond purchases,” said Teizo Taya, a former BOJ board member who is now an adviser at the Daiwa Institute of Research. “The BOJ will probably continue to examine policy measures that have a minimal adverse effect.”