Article 4 of the Bank of Japan Act 1997 ensures fiscal and monetary policy must work together

Last week, the RBA increased interested rates claiming there was a growing capacity constraint (even though there is 10.2 per cent labour underutilisation) and inflationary expectations were increasing and in danger of propelling inflation even further. The RBA governor once again threatened the Treasurer along the lines of ‘unless you cut net spending we will continue to hike rates’ – which not only demonstrates that the central bank is not politically independent but also reveals how poor monetary policy then compromises fiscal policy. The double jeopardy of New Keynesian macroeconomics – pretend monetary policy is effective and then cripple fiscal policy (which is effective) by subjugating it to the central bank whims. If we look at what is going on in Japan at present, we get a different angle to this. The Bank of Japan is certainly worried about inflation but it is being tethered to some extent by the Prime Minister who is placing a specific emphasis on Article 4 of the Bank of Japan Act. The resulting policy dynamics stand in sharp contrast to the way the RBA acts and thinks it is appropriate to bully the government into pursuing austerity when there is massive wastage of available labour resources.

Article 4 of the Bank of Japan Act 1997

The – Bank of Japan Act – of 1997, contains Article 4 which is about the “Relationship with the Government” and states:

Taking into account the fact that currency and monetary control is a component of overall economic policy, the Bank of Japan must always maintain close contact with the government and exchange views sufficiently, so that its currency and monetary control and the basic stance of the government’s economic policy are mutually compatible.

This Article an important part of the policy environment in Japan.

Just after Ms Takaichi became the Japanese Prime Minister in October 2025, the Bank of Japan board met (October 29-30, 2025) and they decided to keep rates on hold.

The – Minutes of the Monetary Policy Meeting on October 29 and 30, 2025 – are worth reading for what they don’t say.

Those who follow macroeconomic policy in Japan closely know that the decision by the Bank of Japan to maintain an ‘accommodative’ policy stance – characterised by not hiking rates, keeping real interest rates negative, and continuing to buy government bonds in significant, albeit declining, quantities – was a desire to avoid any open conflict with the new Prime Minister, who launched her growth strategy based on expanding government infrastructure spending and ‘crowding in’ private capital expenditure (freeing the excessive stocks of retained earnings held by the Japanese corporations).

A move to stifle economic growth from the Bank of Japan would clearly not be consistent with Article 4, given Ms Takaichi’s strong preference to create a new era of economic growth kick started through fiscal expansion.

There are different views about what Article 4 actually means or entails.

Ms Takaichi says it is about cooperation between the two ‘government’ macroeconomic policy levers – monetary and fiscal.

However, critics of the government’s expansion ambition claim that the government’s emphasis on Article 4 is not about ‘cooperation’ but ‘co-option’.

They point to Article 3 which is about “Respecting the Autonomy of the Bank of Japan and Ensuring Transparency”:

(1)The Bank of Japan’s autonomy regarding currency and monetary control must be respected.

(2)The Bank of Japan must endeavor to clarify to the citizen the content of its decisions, as well as its decision-making process, regarding currency and monetary control.

This is the standard ‘central bank independence’ clause.

On the face of it the two Articles could easily be inconsistent with each other.

But, Ms Takaichi is probably viewing Article 3 in the narrow sense – that the Bank of Japan can implement its decisions free from political interference, but that those decisions must be coordinated and consistent with the Cabinet macroeconomic policy stance.

In discussions I have had with various people within and outside the Bank of Japan over the years, I have learned that they do not see Article 3 as being unconditional – that is absolute.

Article 3(2) is about being transparent in decision making and explaining things to the population, which is seen as being the constraint on absolute independent use of monetary policy.

Further, Article 3(1) doesn’t exactly set any specific parameters with respect to the currency.

What is price stability, for example.

Technically it means that there is a stable acceleration in the price level – that is a constant inflation rate.

But what is the inflation rate used as the benchmark to assess that situation?

The actual parameters that might from time to time be expressed by the Bank of Japan are conditioned by the macroeconomic goals of the Cabinet.

On April 1, 1998, reforms to the Bank of Japan Act that had been decided in the previous year became operational.

Previously, the Ministry of Finance (fiscal policy) had control over Bank of Japan policy settings and the international climate was shifting towards defining ‘independence’ and ‘price stability targets’.

The revised Bank of Japan Act 1997 certainly made some noises to that end and reduced the clear subordination of the Bank to the Ministry that was defined in the original 1942 Act.

The actual political debates in Japan at the time were interesting as were the major mistakes the Bank management made in their assessments of the severity of the deflationary pressures that arose after the massive 1991 asset bubble burst.

I might write about all that in another post.

For my purposes today, the reforms didn’t break the close link between the Ministry and the Bank as evidenced by Article 4.

At the time (June 27, 1997), the then governor of the Bank of Japan,Yasuo Matsushita, gave a speech in Tokyo – A New Framework of Monetary Policy under the New Bank of Japan Law – and said:

The new Law allows Government representatives to attend Policy Board meetings on monetary control matters and to express their views when necessary. It also grants the Government representatives the right to make policy proposals regarding monetary control matters, including requests to postpone the Board’s vote on policies. Some suggest that these provisions will constrain the independence of the central bank. We at the Bank, however, do not take that view.

He claimed that the difference between ‘right to request postponements’ and ‘right to instruct’ mattered.

However, the reality is that it is the government that appoints the Board and a Cabinet request will be sufficient to discipline the policy decisions of the Bank.

Recent foreign exchange intervention

Now with energy prices rising and the Bank of Japan conducting ‘official intervention’ in the currency markets to halt the decline of the yen this debate is once again burning.

Interestingly, the mechanics of the foreign exchange intervention point to Ministry of Finance influence.

The Bank of Japan’s information page – What is foreign exchange intervention? Who decides and conducts foreign exchange intervention? – tells us that:

In Japan, foreign exchange intervention is to be carried out under the authority of the Minister of Finance. As stipulated in the Act on Special Accounts and the Bank of Japan Act, the Bank conducts foreign exchange interventions on behalf of and at the instruction of the minister.

So while the Bank of Japan (under Article 3) is charged with dealing with currency stability, a principle tool for maintaining the desired yen parity is the responsibility of the Ministry of Finance and the Bank just executes the transactions.

Further, the Ministry of Finance maintains a ‘Foreign Exchange Fund Special Account (FEFSA)’ which is drawn on:

… when foreign exchange intervention is conducted by selling U.S. dollars against yen in the foreign exchange market in response to a sharp drop (depreciation) of the yen, U.S. dollar funds held in the FEFSA are used to buy yen.

This account has more than ¥80 trillion in net assets and the account has been recording huge profits because of the yen depreciation.

Under the rules governing the account, 70 per cent of the ‘profits’ can be shifted into the government’s ‘general account’.

The most recent intervention was at the end of April 2026 and the official data has not yet been released.

It is the first time since 2024 that the Bank of Japan has sold US dollars to provide support for the yen.

The estimates are that they spent about 10 trillion yen ($US64 billion) in recent interventions.

Of interest is the way this intervention juxtaposes with the tough talk from Governor Kazuo Ueda recently.

On April 28, 2026, Governor Ueda gave a press conference after the Bank held rates constant.

He said among other things that:

1. “Given high uncertainty surrounding the Middle East conflict, the likelihood of achieving our forecasts has diminished … At present, it’s hard to judge ​the duration and impact on the economy and prices now. The BOJ wants to spend a bit more time scrutinising how the Middle East conflict ​affects the economy and prices, and whether growth and inflation risks could change.”

2. “We don’t have any preset idea on how many months we would need (to gauge whether conditions for another rate hike could fall ​into place)”.

3. “This reflects our view that rising crude oil prices could temporarily push up prices for a wide range of goods and services”.

4. “Our decision today is based on the view that central banks should look through temporary supply shock-driven ​inflation.”

5. “Headline inflation may rise rather sharply for the time being but that doesn’t mean underlying ‌inflation will heighten immediately.”

So they are ‘looking through’ the temporary supply-side shocks rather than following the type of logic that the RBA used last week to justify rate hikes.

They are dealing with the problem that import price inflation may come via the yen depreciation by working with the Ministry of Finance to stabilise the exchange rate (or put a floor in its downward movements).

A marked difference from the RBA behaviour

This is very different to the way the RBA, for example, is working.

It is bullying the Australian government into net spending cuts at a time when the fiscal deficit needs to expand to support a range of challenges facing the nation, while at the same time it is hiking rates and inflicting massive damage on low-income families trying to deal with the current cost-of-living pressures.

Article 4 is used in Japan by the Government to ensure the Bank of Japan doesn’t behave in the same way as the RBA does, for example.

It is clear that the Core CPI (excluding fresh food) is rising and will continue to rise if oil prices remain at elevated levels.

But the Government is maintaining its growth ambitions and to use expansionary fiscal policy to break the deflationary mindset that has dominated decision making in Japan since the 1990s.

The Government knows the corporations are sitting on large retained earnings and want to translate those stocks into increased rates of business investment.

It has indicated it will support that process by increasing its own capital expenditure – thus ‘crowding in’ the private investment.

The Government also has emphasised it expects the Bank of Japan to act in accordance with Article 4 (for example, see the comments from the Government representatives in the – Minutes of the Monetary Policy Meeting on January 22 and 23, 2026).

It also believes that a strong investment cycle now will increase the supply capacity of the economy and limit any currency sell-offs.

It stands in marked contrast to the vandalism of the RBA.

Is there an equivalent Article 4 type clause in the – Reserve Bank Act 1959?

Not really.

However, the RBA Act is somewhat more specific in Article 10(2) which defines the “Functions of the Reserve Bank Board”:

It is the duty of the Reserve Bank Board, within the limits of its powers, to ensure that the monetary and banking policy of the Bank is directed to the greatest advantage of the people of Australia and that the powers of the Bank … are exercised in such a manner as, in the opinion of the Reserve Bank Board, will best contribute to:

(a) the stability of the currency of Australia;

(b) the maintenance of full employment in Australia; and

(c) the economic prosperity and welfare of the people of Australia.

This also reads as if the RBA has a dual mandate – to maintain price stability and full employment, which would then lead to (c).

However, the problem is that the RBA has voided that interpretation by adopting the mainstream New Keynesian view that full employment is whatever unemployment rate that happens to coincide with stable price inflation, regardless of how high that particular unemployment rate might be.

That is, the NAIRU world (Non-Accelerating-Inflation-Rate-of-Unemployment).

It allows the bank to deliberately pursuing increasing unemployment and justifying that pursuit with the claim that the current unemployment rate is below the estimated NAIRU, despite the estimates from econometric models of the NAIRU having very wide standard errors (that is, they are useless as a guide to policy).

In other words, they effectively eliminate (b) from their decision making by tying it to (a).

As long as they pursue (a), they claim (b) follows regardless of the wastage that coincides with (a) being achieved.

Of course, there capacity to achieve even (a) is questionable given how ineffective and blunt monetary policy actually is.

And the situation becomes dire when the source of price pressures is not coming from the demand-side but is being driven by supply chain constraints (currently energy prices) that the RBA has not control over at all.

Then the RBA has the audacity to tell the Treasurer that he must tighten fiscal policy – when there is widespread wastage of willing and available labour resources – or else they will hike rates even higher.

Conclusion

In Japan, Article 4 of the Bank of Japan Act 1997 makes it clear that the two arms of macroeconomic policy must work together not against each other and that the legislative fiat of the government effectively sets the policy agenda.

In Australia, the RBA is rendering monetary policy compatible with fiscal policy by bullying the government into adopting an austerity stance.

In Japan, the citizens benefit from this policy approach, while in Australia, only the top-end-of-town and bank shareholders benefit.

That is enough for today!

(c) Copyright 2026 William Mitchell. All Rights Reserved.