#Podcast — 20.02.2023

Podcast: BOJ Policy Matters for Global Yields…..Last Central Bank

Prashant Bhayani, Chief Investment Officer, Asia

As the first central bank that lead the move to negative rates, QE, and central bank intervention under BOJ governor Kuroda is impending retirement is truly an end of an era. With his coming retirement the appointment of Professor Kazuo Ueda was a surprise.  Keep in BOJ policy matters as they are the last bastion of the carry trade, Japan is the largest investor in US treasuries (how fast will Japanese money be repatriated if the Yen strengthens with any potential change in policy?), and what impact would it have on broader global bond yields are important questions.


What do we know about the nominated governor Ueda?  Neither too dovish or hawkish? Pragmatic?


Ueda served on the BOJ from 1998 – 2005. He is an academic economist as well with a Phd from MIT.


More recently, in July 2022, Ueda apparently had doubts about the policy of QQE with yield curve control, writing: “at some point, the Bank needs to take a serious look at the current extraordinary policy framework which has now been in place for much longer than most people had expected" the unofficial translation of the Japanese-language original. He accurately forecast the JGB market's reaction to last December's policy change, when he wrote: "long-term yield control is not suited to fine-tuning. Minor increases in the yield cap can invite more aggressive JGB selling as speculators anticipate the next move higher". More broadly, he argued that the current extraordinary policy is not suited to gradual adjustment, because its monetary easing effects derives from the commitment to persist with it until inflation is set to remain consistently at or above 2%. If the BoJ fine-tunes the policy as inflation inches higher, it would be breaking that commitment and might impair its credibility, he argued.


In addition, core consumer inflation in Japan hit a 41-year high of 4% in December, double the BoJ’s target, although he appears not to want to hike the policy rate until inflation is on track to reach 2% on a sustained basis. Of course, inflation is forecasted to fade somewhat this year. Hence, no likely change in rates of course nor expected over 2023.


However, expectations of a policy shift under Ueda will likely continue after the BoJ surprised markets in December with its abrupt decision to raise the ceiling on long-term government bond yields. In reality, a hasty exit from the BoJ’s current policy of YCC might risk major negative repercussions for the stability of the financial system, the macro economy and prices. Simply abandoning long-term yield control all at once would also be risky, given that Japan's public debt has climbed to more than 250% of GDP. Asked on 10 February about the prospect of normalising policy, Ueda said: "I am acutely aware of the challenges involved." As a policymaker we would expect him to proceed with due caution. How fast any potential yen could strengthening will depend on this.  This also has implications for global bond yields including US Treasury yields.


Upcoming events include:


The increasing prospect of policy change could put growing upward pressure on long-term bond yields. That would further exacerbate the distortions created by yield curve control. This self-fulfilling prophecy might force the policy board to amend policy on 9–10 March, Kuroda’s last meeting. Will Kuroda create breathing space for Ueda in his last meeting by further loosening the band on yield curve control?  Also, Ueda Diet confirmation hearings in late February will be closely scrutinized. He is likely to be cautious and avoid saying anything that has a major impact on the current BOJ policy?.


However, markets are looking forward. After the loosening of YCC in December of last year the first meeting of the new governor will be 27-28th of April. Overall, we expect a stronger yen in the medium term. In the short-term, the dollar is having a much needed bounce as well and forecasted a few weeks in podcast. If the yen weakens this may represent an opportunity on balance to buy Yen.