Bank of Japan under pressure over next move as bond yields and yen surge
Long-term Japanese government bond yields and the yen rose on Friday as markets increased pressure on the central bank to further adjust a key tenet of its ultra-loose monetary policy.
Analysts said the sharp moves underscored the deepening dysfunction in Japan’s government bond market over the past month and heightened uncertainty ahead of the Bank of Japan’s policy board meeting next week.
Traders in Tokyo described the widening of possible outcomes from the two-day event as “brutal” for investors accustomed to a decade of predictability under Governor Haruhiko Kuroda’s quantitative easing program.
The central bank revised its long-term yield curve control measures last month, vowing to restore order to the market for Japanese government bonds, which had been distorted by the BoJ’s bond-buying program.
Instead, the YCC change – widening the range in which bonds can fluctuate – has produced more volatility in recent weeks, challenging the BoJ to further review its policy.
The yield on the 10-year bond rose briefly above 0.53 percent after the market opened in Tokyo on Friday, breaking a new ceiling of 0.50 percent set by the BoJ and hitting the highest level since June 2015 The yen hit 128.66 against the US dollar, the highest in more than seven months.
Takeshi Yamaguchi, chief Japanese economist at Morgan Stanley, said the YCC framework created by the BoJ could be seen as a game between the central bank and the markets, which depended on investor confidence in the system.
“The sudden change in December may have damaged market participants’ confidence in the BoJ’s communication and the stability of the YCC,” Yamaguchi said.
“If many market participants expect the elimination of the YCC framework in time, this situation is likely to accelerate the sell-off of JGB and worsen the functioning of the market before then,” he said.
Citigroup economist Kiichi Murashima predicted Kuroda would scrap the BoJ’s long-standing yield curve control measures when bank policymakers meet on Tuesday and Wednesday.
“The dysfunction of the JGB market over the past month looks worse than expected, so it seems logical that further policy adjustment may have become inevitable,” he said. “The BoJ may not have expected conditions to get this bad, but they are now held hostage to their logic that they would act to improve the functioning of the market.”
For Kurodan, next week’s monetary policy meeting will be the second he will hold before he steps down in April. This has also fueled market speculation that he will end the YCC framework to smooth the transition to his successor.
On Tuesday, Japan’s Yomiuri Shimbun reported, without attribution, that the BoJ would review the side effects of its YCC framework and make additional policy adjustments if necessary.
The BoJ surprised markets in December by announcing it would allow 10-year bond yields to fluctuate 0.5 percentage points above or below its zero target, replacing the previous band of 0.25 percentage points. It kept overnight interest rates at minus 0.1 percent.
Since then, markets have challenged Kuroda’s assertion that the central bank was not tightening its monetary policy, forcing the BoJ to spend tens of trillions of yen on unplanned purchases of government bonds to control a rise in yields. .
“Bond yields and the yen rose while stocks fell. There’s no way this wasn’t a squeeze,” said Masamichi Adachi, UBS chief economist in Japan.
However, he added that it was unlikely the BoJ would take bolder steps to tighten its policy unless there was a material change in Japan’s inflation outlook and evidence of accelerating wage growth.
The country’s core inflation, which excludes volatile fresh food prices, reached 3.7 percent in November, the highest in nearly 41 years.
Some major companies such as Fast Retailing, owner of Uniqlo, have unveiled significant wage increases, but economists remain divided on whether such moves will last long enough to create a cycle of rising wages, consumption and prices.
Naka Matsuzawa, chief Japanese macro strategist at Nomura, said the BoJ was unlikely to make any changes to its policy next week.
“Short-term JGB markets are pricing in not only the end of negative interest rates, but also additional rate hikes,” Matsuzawa said. “If markets are being distorted by speculative bets based on wrong policy assumptions, the BoJ will have to fight back decisively.”