Amid all the obituary notices for quantitative easing that were published when the Federal Reserve stopped buying bonds last Wednesday, it was temporarily forgotten that there are other central banks in the world moving in precisely the opposite direction.

The Bank of Japan immediately stepped up to the plate with an announcement of first order global importance on Friday. It shocked the markets with a gigantic increase in its QE activities, ensuring that the total central bank injection of liquidity into the global economy in 2015 will be much larger than it has been in the last year.

The BoJ will now increase its balance sheet by 15 percent of GDP per annum, and will extend the average duration of its bond purchases from 7 years to 10 years. This is an open ended programme of bond purchases that in dollar terms is about 70 percent as large as the peak rate of bond purchases under QE3 in the US.

In a parallel announcement, the government pension fund (GPIF) said it would reduce its domestic bond holdings from 60 percent of its portfolio to 35 percent, while increasing its overall equity holdings from 24 per cent to 50 percent.

Some of this has happened already, but this change will increase the purchase of Japanese equities by a further $90 billion, and the purchase of non Japanese equities by $110 billion, all effectively financed by sales of $240 billion of bonds to the BoJ, and therefore ultimately financed by central bank creation of reserves. Although Governor Kuroda said that these decisions are not directly connected, the combined effect is to introduce a new type of QE on an enormous scale.

The Japanese injection, relative to the size of the economy, is far larger than anything attempted by the other major central banks. It is also large enough to ensure that the overall supply of central bank liquidity to the world markets will rise by 1.3 percent of global GDP next year, compared to a rise of only 0.3 percent this year. Reports of the death of QE have, it appears been greatly exaggerated.

Clearly, BoJ Governor Kuroda has now doubled down on the QE bet he made jointly with Prime Minister Abe almost two years ago. Faced with a slowing economy after the sales tax increase in April, and falling oil price inflation, the choice was either to abandon Abenomics, with no very obvious alternative to put in its place, or to prescribe a much larger dose of the same medicine.

Politically, there was no real alternative for Mr Abe, but the attitude of the BoJ was on a knife edge. Governor Kuroda managed to persuade his policy board at the central bank to back the plan only by a 5-4 majority.

Japan is now conducting a laboratory experiment in whether monetary policy can break an economy free of a severe deflationary trap with interest rates stuck at the zero lower bound. Governor Kuroda’s monetary experiment has in effect morphed into a strategy involving devaluation plus financial repression.

The yen is 32 percent lower than it was three years ago. And real bond yields have been depressed well into negative territory. If this does not work in stimulating nominal demand, then nothing the central bank can do on its own will work. “Helicopter money” would be the last throw of the dice, but that involves monetizing a budgetary easing, so it is probably more correctly viewed as a fiscal measure.

So will this rather desperate second phase of Abenomics “work” for Japan? Success would involve a restoration of inflation and inflation expectations permanently to 2 per cent, while holding bond yields at close to zero. The devaluation and monetary easing would compensate for the second leg of the sales tax increase from 8 to 10 per cent due next autumn, so nominal GDP would grow at least at a 3 per cent rate and the public debt to GDP ratio would start to decline.

This is a tall order, but it is not impossible. A sufficiently determined central bank ought to be able to restore inflation to an economy, and that is the key ingredient of what is needed. But there are huge risks. If inflation expectations were unexpectedly to rise too rapidly, the strategy could end in uncomfortably high inflation. However unlikely that looks today, it presumably worried four members of the policy board sufficiently to vote against the strategy on Friday.

Markets and policy makers will now watch the Japanese experiment even more carefully than before. If it fails to restore inflation to Japan, this will be taken as a sign that monetary policy everywhere is powerless in the face of the deflationary forces that appear to be gathering momentum in the world economy.

The lessons will of course be particularly salient for the euro area. In many ways, Japanese thinking on monetary policy has now become the inverse of the ECB’s.

Under Mr Kuroda, the BoJ has deliberately sought to take the markets by surprise, maximizing the announcement effects of QE by shocking the markets. The ECB, in contrast, seems always to raise market expectations ahead of each of its monthly meeting, only to disappoint consistently when the decisions are finally reached.

The BoJ has also relied deliberately on buying sovereign debt, while the ECB has eschewed this (though its parallel actions on the regulation of pension funds does mean that the BoJ will effectively be financing the purchase of private assets as well). On top of all this, the BoJ has forced the yen down by a third against the euro, which will add to deflationary pressures in the euro area.

If this shows any signs of succeeding in Japan, surely there will be irresistible pressure on the ECB to follow suit. If however the BoJ experiment fails, markets may become very sceptical whether there is any escape route from deflation in the euro area.

One final point will be of interest in global markets. If QE works at all, it seems to work mainly by changing expectations about asset prices in the financial markets. In the past, the Fed has always been assumed to be the dominant actor in changing market expectations. Now, the Fed is contemplating tightening policy while other central banks are stepping up QE.

The bullish response of global markets to the opposing Fed/BoJ announcements last week suggests that investors are no longer just slavishly following the Fed.

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