What I expect to happen is this: The Bank of Japan will be forced into outright monetization at some point; a soft default in the form of higher inflation will occur. And dramatically higher inflation, I fear. Japan has not had inflation for two decades. I suspect they will experience all that pent-up inflation in the scope of a couple of years.
Sure enough, the battle begins. Almost lost in the holiday weekend, from Reuters last week:
Japan's main opposition Liberal Democratic Party (LDP) said on Wednesday that on its return to power it would set a 2 percent inflation target with an eye to revising the law governing the Bank of Japan so as to boost cooperation between the government and the central bank...
...In its campaign platform unveiled on Wednesday, the LDP called for bold monetary easing through cooperation between the government and the central bank on debt management, but it made no mention of Abe's calls for the BOJ to buy debt to finance infrastructure projects.
The response from the Bank of Japan was swift:
But BOJ Governor Masaaki Shirakawa dismissed many of Abe's proposals, including the possible revision of the Bank of Japan law, a step critics say is aimed at clipping the central bank's independence and forcing it to print money to finance public debt that is already double the size of Japan's economy.
"Central bank independence is a system created upon bitter lessons learned from the long economic and financial history in Japan and overseas countries," Shirakawa told a news conference....
...Shirakawa was adamant the central bank would not directly underwrite government debt because bond yields would spike and hurt the economy.
"No advanced country has adopted such a policy," he said.
Shirakawa is correct. Modern central banks may have lost some control over inflation at times, but I don't think any has engaged in outright monetization of government debt. Yet despite Shirakawa's insistence to the contrary, I still think that is exactly where Japan is headed. More central bank history in the making.