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Introduction to Central Bank

A central bank, reserve bank, or monetary authority is a public institution that

manages the nation's currency, money supply,

and interest rates. Central banks also usually oversee

the commercial banking system of their respective

countries. In contrast to a commercial bank, a

central bank possesses a monopoly on increasing the

nation's monetary base, and usually also prints the

national currency, which usually serves as the

nation's legal tender . Examples include

the European Central Bank(ECB), the FederalReserve of the United States, and the People's Bank of China.

The primary function of a central bank is to manage the nation's money supply

(monetary policy), through active duties such as managing interest rates, setting

the reserve requirement, and acting as a lender of last resort to thebanking

sectorduring times of bank insolvency or financial crisis. Central banks usually

also have supervisory powers, intended to prevent commercial banks and other

financial institutions from reckless or fraudulent behavior. Central banks in most

developed nations are institutionally designed to be independent from politicalinterference.

Central Bank of Japan (THE BANK OF JAPAN)

With the passing of the Bank of Japan Act in 1882, the Bank of Japan (BOJ) wasofficially established as the nations first central bank and is one of the worldsoldest central banks. The banks headquarters are located in Tokyo, however theface of the bank is considered to be the Osaka branch. In the midst of World War

II, the Bank of Japan Law (the Law of 1942) replaced the aforementioned act andset new guidelines for the bank. Although several changes were subsequently madeto the Bank of Japan Law (many by Allied occupiers), it was only heavily revisedin 1997 due to the changes of the global economy. The new law emphasizedtransparency and increased independence of the bank from the government.
http://en.wikipedia.org/wiki/Money_supplyhttp://en.wikipedia.org/wiki/Interest_rateshttp://en.wikipedia.org/wiki/Commercial_bankhttp://en.wikipedia.org/wiki/Monetary_basehttp://en.wikipedia.org/wiki/Legal_tenderhttp://en.wikipedia.org/wiki/European_Central_Bankhttp://en.wikipedia.org/wiki/Federal_Reservehttp://en.wikipedia.org/wiki/Federal_Reservehttp://en.wikipedia.org/wiki/People's_Bank_of_Chinahttp://en.wikipedia.org/wiki/Monetary_policyhttp://en.wikipedia.org/wiki/Interest_rateshttp://en.wikipedia.org/wiki/Reserve_requirementhttp://en.wikipedia.org/wiki/Lender_of_last_resorthttp://en.wikipedia.org/wiki/Bankhttp://en.wikipedia.org/wiki/Bankhttp://en.wikipedia.org/wiki/Financial_crisishttp://en.wikipedia.org/wiki/Interest_rateshttp://en.wikipedia.org/wiki/Commercial_bankhttp://en.wikipedia.org/wiki/Monetary_basehttp://en.wikipedia.org/wiki/Legal_tenderhttp://en.wikipedia.org/wiki/European_Central_Bankhttp://en.wikipedia.org/wiki/Federal_Reservehttp://en.wikipedia.org/wiki/Federal_Reservehttp://en.wikipedia.org/wiki/Federal_Reservehttp://en.wikipedia.org/wiki/People's_Bank_of_Chinahttp://en.wikipedia.org/wiki/Monetary_policyhttp://en.wikipedia.org/wiki/Interest_rateshttp://en.wikipedia.org/wiki/Reserve_requirementhttp://en.wikipedia.org/wiki/Lender_of_last_resorthttp://en.wikipedia.org/wiki/Bankhttp://en.wikipedia.org/wiki/Bankhttp://en.wikipedia.org/wiki/Financial_crisishttp://en.wikipedia.org/wiki/Money_supply


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Previously, the lack of independence from the Government was one of the markeddifferences between the Bank of Japan and other central banks like the FederalReserve and the European Central Bank. In Japan, the government does have an

effect on policy and the Governor of the bank must work together with the PrimeMinister in order to be effective, which will ensure that the nations monetary

policy will fit with the governments economic policy. While the new legislationprovided some separation between the two institutions, they are still linked. Forinstance, the Bank of Japans budget must still be approved by the government.Regardless of the new laws, in order for the bank to achieve its goals, collaboration

between the Governor of the bank and the Prime Minister is required. Failure to doso could lead to an ineffective administration, such as the one held by previousGovernor Masaru Hayami, who often bickered with the Prime Minister.

The Bank of Japans decision making body is known as the Policy Board, whichconsists of the governor, two deputy governors and six other members. All ninemembers are appointed by the Cabinet, Japans executive branch, and approved bythe Diet (the legislature) for a term of five years. The Policy Board meetsfrequently, but two meetings per month are solely dedicated to discussingmonetary policy. Decisions on monetary policy and on how to achieve the banksgoals are made through a majority vote of the Policy Board.

History


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The Act of 1942 was revised completely in June 1997 under the two principlesof "independence" and "transparency." The revised act (the Act) came intoeffect on April 1, 1998.

The Bank of Japan was established under the Bank of Japan Act (promulgatedin June 1882) and began operating on October 10, 1882, as the nation's central

bank. The Bank was reorganized on May 1, 1942 in conformity with the Bankof Japan Act (hereafter the Act of 1942), promulgated in February 1942. TheAct of 1942 strongly reflected the wartime situation: for example, Article 1stated the objectives of the Bank as "the regulation of the currency, control andfacilitation of credit and finance, and the maintenance and fostering of thecredit system, pursuant to national policy, in order that the general economicactivities of the nation might adequately be enhanced." The Act of 1942 was

amended several times after World War II. Such amendments included theestablishment of the Policy Board as the Bank's highest decision-making bodyin June 1949.

Reorganization

The BOJ was reorganized in 1942 Under the Bank of Japan Act of 1942. There

was a brief post-war period during the Occupation of Japan when the bank's

functions were suspended, and military currency was issued. In 1949, the bank was

again restructured.

In the 1970s, the Bank's operating environment evolved along with the transition

from a fixed foreign currency exchange rate and a rather closed economy to a large

open economy with a variable exchange rate.

However, since the introduction of the new law, the Bank of Japan has persistently

rebuffed government requests to stimulate the economy.

In recognition of the fact that currency and monetary control is a component of

overall economic policy, the Bank of Japan shall always maintain close contact

with the government and exchange views sufficiently, so that its currency andmonetary control and the basic stance of the government's economic policy shall

be mutually harmonious.

During the entire post-war era, until at least 1991, the Bank of Japan's monetary

policy has primarily been conducted via its 'window guidance credit controls

(which are the model for the Chinese central bank's primary tool of monetary
http://en.wikipedia.org/wiki/Occupation_of_Japanhttp://en.wikipedia.org/wiki/Occupation_of_Japan


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policy implementation), whereby the central bank would impose bank credit

growth quotas on the commercial banks. The tool was instrumental in the creation

of the 'bubble economy' of the 1980s. It was implemented by the Bank of Japan's

then 'Business Department'

Objectives

The Act sets the Bank's objectives "to issue banknotes and to carry outcurrency and monetary control" and "to ensure smooth settlement of fundsamong banks and other financial institutions, thereby contributing to themaintenance of stability of the financial system."

The Act also stipulates the Bank's principle of currency and monetary control

as follows: "currency and monetary control by the Bank of Japan shall beaimed at achieving price stability, thereby contributing to the sounddevelopment of the national economy."


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The Departments in the bank of Japan are as follows

Secretariats of the bank of Japan

Internal auditors officeMonetary affairs department

Financial system and bank examination system

Payment and settlement system department

Financial markets department

Research and statics department

International department

Currency issue department

Operations department

Information system service department

Public relation department

Personal and corporate affairs department

Administration department

Institute of monetary and economic studies

Capital

The Bank is capitalized at 100 million yen in accordance with the Act. About

55 percent of the capital is subscribed by thegovernment. The Act states that "of the amount ofstated capital set forth in the preceding paragraph,the amount of contribution by the government shall

be no less than fifty-five million yen."The Act doesnot grant holders of subscription certificates the rightto participate in the Bank's management, and, in thecase of liquidation, only gives them the right to request distribution of

remaining assets up to the sum of the paid-up capitaland, if any, the special reserve. Dividend payments on

paid-up capital are limited to 5 percent or below ineach fiscal period.


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Functions of bank of japan

Issuance and management of Bank notes

The Bank of Japan issues banknotes (officially referred to as Bank of Japannotes) as the nation's sole "issuing bank." It employs a wide range of measuresto prevent counterfeiting, including watermarks, special inks, and micro-lettering.

Because banknotes are used in allkinds of transactions, the Bank

pays close attention to the controlof the physical quality of

banknotes so that the public is ableto use the notes with confidence

Worn and soiled banknotes make itmore difficult to distinguishgenuine notes from counterfeits,which may proliferate as a result. Therefore, the Bank of Japan checks thevalidity and cleanness of each of the banknotes which return to the Bank,destroying badly worn notes and putting only those that are in good condition

back into circulation.

The conduct of monetary policy

The Bank controls the overall volume of money in the economy and interestrates on a daily basis through money market operations, i.e., through itssales/purchases of money market instruments such as Japanese governmentsecurities (JGSs) to/from private financial institutions. The Bank's policy tostabilize prices, thereby contributing to the sound development of the nationaleconomy, is called monetary policy. For example, if Japan's economyweakened so that sales of goods declined and there was downward pressure on

prices, the Bank would buy money market instruments such as JGSs from

private financial institutions, thus increasing the volume of money in theeconomy and lowering interest rates. More money in circulation and lowerrates enable firms to borrow money more easily and act as a spur to economicactivity: more people purchase goods and services, and thus prices are lesslikely to decline.


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Conversely, if economic activity heated up, with goods selling too well andupward pressure on prices, the Bank would reduce the volume of money in theeconomy and would raise interest rates. Accordingly, economic activity would

be dampened and prices would be unlikely to rise.

The Bank conducts monetary policy to achieve price stability, therebycontributing to the stability of the economy as a whole. The Bank believes that

price stability is a prerequisite for stability in our daily lives and for realizingsustainable and balanced economic growth.

Providing settlement services and ensuring the stability of thefinancial system

The term "financial system" refers to the collective mechanisms through which

financial institutions intermediate funds betweendepositors and investors and provide payment andsettlement services, such as funds transfers betweenaccounts. The financial system constitutes afundamental social infrastructure that supports ourdaily lives, as is the provision of electric power,water, and gas. The Bank of Japan conducts variousactivities to maintain this particular infrastructure.

Provision and Maintenance of the Settlement System

Financial transactions between financial institutions are settled by transferringfunds across the current accounts held by each institution at the Bank of Japan.Because it offers accounts to financial institutions, the Bank is often referred toas the "banks' bank."

The amount settled across the accounts at the Bank of Japan totals over 300trillion per day. In order to facilitate such funds transfers, the Bank operates an

electronic settlement system, the Bank of Japan Financial NetworkSystem (BOJ-NET), and is constantly working to upgrade and improve theefficiency of the settlement system.

Monitoring and Examination of the Financial and ManagementConditions of Financial Institutions


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The sound management of individual financial institutions is a prerequisite tothe stable functioning of the financial system. The Bank of Japan thus closelymonitors trends in the loans and deposits of financial institutions, and the

Bank's staff regularly visits financial institutions to carry out an "on-siteexamination" to review their financial and management conditions.

Function as the Lender of Last Resort

When a financial institution becomes insolvent and this is likely to pose athreat to the financial system, the Bank of Japan may provide emergencyliquidity to the troubled institution in its role as the "lender of last resort" in aneffort to prevent financial disorder.

Treasury and Government securities related operations

As the "government's bank," the Bank of Japan handles receipts anddisbursements of treasury funds, including acceptance of tax monies and

payment of public works expenditures and public pensions. It also conductsaccounting and bookkeeping for government agencies.

In addition, the Bank deals with the entire business of Japanese governmentsecurities, namely issuance, registration, interest payment, and redemption.Settlement of funds and Japanese government securities arising from the aboveoperations are facilitated by the BOJ-NET.

International Activities of Bank of Japan

The Bank of Japan engages in the following international activities.


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International Financial Transactions and Operations

The Bank provides yen accounts to central banks and governmental institutions

overseas. It also makes capital subscriptions and loan extensions tointernational organizations such as the Bank for International Settlements(BIS) and the International Monetary Fund (IMF).

Intervention in the Foreign Exchange Markets

The Bank closely monitors exchange rate developments. It intervenes in theforeign exchange market as an agent of the Minister of Finance, whennecessary.

International Exchange of Views

The Bank of Japan frequently participates in discussions held at variousinternational forums, such as the meetings at the BIS, the G7, and the IMF.Topics of discussions range widely, from monetary policy and the foreignexchange markets to bank supervision and settlement systems. Exchange ofviews with overseas central banks is important in strengthening cooperativerelationships among the central banks.

Compilation of data, Economic Analyses and Research Activities

To ensure appropriate implementation of monetary policy, the Bank of Japanmust have an accurate understanding of the overall economic and financialconditions in Japan. To this end, the Bank compiles various statistics,including the Corporate Goods Price Index, the Corporate Service Price Index,and money stock. It also conducts a regular business survey known asthe Tankan-- Short-Term Economic Survey of Enterprises in Japan. Based onthese and a wide variety of other statistical data, including those prepared bygovernment agencies and other organizations, the Bank reviews Japan'sfinancial and economic conditions. In addition, the Bank's head office and

branches make direct contact with a large number of firms to directly receive

their views on the economy. The Bank also conducts opinion polls of thepublic when necessary, to which Bank's careful attention is paid. The Bankexplains its view mainly through the publication of results of these analyses.Additionally, the Bank is able to receive the public's views and opinionsthrough the Public Relations Department.


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Further to the above activities, the Bank is also engaged in theoretical researchfrom a longer-term perspective, on issues such as monetary policy and thefinancial system.

How the Bank of Japan Affects the Foreign Exchange Market

The Japanese economy is very dependent on importing and exporting goods andservices. Nearly all of their natural resources, such as oil are imported and a large

portion of their businesses products/services are exported. As a result, the Bank ofJapan used to peg the Yen to the U.S. Dollar at a fixed rate in order to remaincompetitive in their exporting operations. Eventually, they allowed the Yen tofloat, but are still known to occasionally intervene in the Foreign Exchange Marketand artificially manipulate the price of the USD/JPY. In the past, traders havetaken advantage of their intervention and reaped tremendous profits, so it isimportant to follow the press releases of the BOJ for any hint of intervention.

Also, the BOJs interest rate decisions have a profound effect on the Yensexchange rate. For example, if the BOJ decides to raise the interest rate, thenreturns on Yen assets will appear more favorable to investors and the Yen willappreciate in value. This will create a situation where imports are cheaper forJapanese citizens and their exports become more expensive to the rest of the world.Currently with interest rates at 0%, Japanese investors are some of the largestinvestors in foreign securities (in a recent quarter they purchased billion worth),

but if returns in Japan were to increase, then investors will be more inclined to selltheir foreign assets and purchase domestic ones. On the other hand, if the BOJchooses to lower the interest rate, then Yen assets will not be as appealing toinvestors and the Yen will depreciate in value. This scenario causes imports to bemore expensive for Japanese citizens, but their exports become more appealing toother nations. Currently, this scenario is impossible because interest rates are at0%.

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