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Japanese Government Bond Purchases by the Bank of Japan

RICHARD PARKIN

To end deflation, the Bank of Japan has for years been buying Japanese government bonds. As a result, after many years at zero or below, annual inflation has spent much of the past year above 3 percent. These bond purchases have also kept yields low and reduced the government’s cost of borrowing.—economist.com

Answer the following questions to check your understanding of the story.

What is deflation?

Deflation is ____________.

Wrong! - A sustained rise in the price level describes inflation, not deflation. As long as the price level is rising, even slowly, the economy is experiencing inflation. Deflation occurs when the inflation rate is negative, not when it is zero.

Good Job! - Deflation is a sustained fall in the overall price level.

From whom has the Bank of Japan been buying these bonds to fight deflation?

The Bank of Japan is buying ____________ from ____________.

Wrong! - The purpose of buying newly issued bonds is to finance government deficit, not deflation control. A central bank usually does not buy bonds directly from the government. An open market purchase is conducted with banks, not households.

Correct! - To fight deflation, the BoJ has been buying previously issued government bonds from commercial banks in open market purchases.

How does the buying of government bonds by the Bank of Japan influence the real interest rate?

When a central bank buys government bonds, __________ which __________ the real interest rate.

Wrong! - Bond purchases increase, not decrease, the supply and equilibrium quantity of loanable funds. The central bank does not demand loanable funds; firms and government do.

Well Done! - Open market purchases increase bank reserves. Banks lend out excess reserves, increasing the supply of loanable funds and lowering the real interest rate.

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