Discussion Paper Series 2016-E-12

Quantitative Easing and Liquidity in the Japanese Government Bond Market

Kentaro Iwatsubo, Tomoki Taishi

The "Quantitative and Qualitative Monetary Easing" enacted immediately after the inauguration of Bank of Japan Governor Kuroda brought violent fluctuations in the prices of government bonds and deteriorated market liquidity. Does a central bank's government bond purchasing policy generally reduce market liquidity? Do conditions exist that can prevent this decrease? This study analyzes how the Bank of Japan's purchasing policy changes influenced market liquidity. The results reveal that three specific policy changes contributed significantly to improving market liquidity: 1) increased purchasing frequency; 2) a decrease in the purchase amount per transaction; and 3) reduced variability in the purchase amounts. These policy changes facilitated investors' purchase schedule expectations and helped reduce market uncertainty. The evidence supports the theory that the effect of government bond purchasing policy on market liquidity depends on the market's informational environment.

Keywords: Monetary Policy; Quantitative Easing; Liquidity; Government Bond

Views expressed in the paper are those of the authors and do not necessarily reflect those of the Bank of Japan or Institute for Monetary and Economic Studies.

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