BOJ Holds Yield Curve and Asset Purchase Steady

Central bank forecasts a moderate recovery of GDP amid a pickup in exports

b1The Bank of Japan (BOJ), in its first policy meeting since Donald Trump’s surprise election victory on November 08th, 2016, upgraded its assessment of the Japanese economy while keeping its yield-curve and asset-purchase programs unchanged, as reported by Bloomberg on December 20th, 2016. The BOJ also forecast that the moderate recovery of the GDP would continue amid a pickup in exports, better business sentiment, and a surge in private consumption. However, the central bank expects inflation to remain weak as risks to the outlook abound amidst geopolitical uncertainties.

Earlier in July 2016, following weak economic activity in Q2 FY16, BOJ kept its key monetary tools unchanged, while launching a comprehensive review of its policy framework due to uncertainty about the country’s inflation outlook. Moreover, BOJ Governor Haruhiko Kuroda, who took over in 2013, increased the buying of exchange traded funds (ETFs) by 2.7 trillion yen ($26 billion) a year aimed at containing the post-Brexit volatility in financial markets.

By end July 2016, BOJ retained its annual target to expand the monetary base at 80 trillion yen, which is done mainly through an equivalent purchase of government bond holdings. It also did not change the minus 0.1% rate for a portion of commercial banks’ reserves. BOJ also expanded the dollar-lending program to $24 billion to support Japanese firms and financial institutions.

Most analysts and economists expected that the BOJ would maintain its targets for short- and long-term interest rates, even before Trump’s election victory sent the yen tumbling, easing any pressure for additional action to stoke inflation. After the shock of negative rates in January 2016 and new direction since September 2016, economists do not expect any additional easing before Governor Haruhiko Kuroda steps down in 2018. While the upgrade of the economic assessment may further damp domestic easing expectations, yields for Japanese Government Bonds (JGB) are seen to rise, even as the gap between 10-year JGBs and US Treasuries are seen to widen.b2

Investors are now focusing on the BOJ’s efforts to contain a surge in yields amid a global bond sell-off. The central bank’s shift in policy framework in September 2016 to control the yield curve was aimed at making its stimulus program more sustainable as it neared the set limits to its asset purchases. Kuroda said that the BOJ would not raise its long-term yield target or even the interest rates in response to hikes abroad. Kuroda also said that an appropriate yield curve had been achieved and current policy should be continued.

Yen weakens on BOJ stance

Following Kuroda’s comments, the yen weakened to an intraday low of 117.96 per dollar on December 20th, 2016, after hitting a 10-month low last week. A weak yen generates inflationary pressures through higher import costs, while boosting corporate profits that could filter through to wage growth. The yen had gained about 13% in 2016 before the US election, and has since tumbled about 10%.b3

In a parallel development, Japan’s Cabinet Office released upgrades for its estimates for the economy and fiscal spending plans. Real GDP is expected to grow 1.5% in FY17 starting April 1st, 2017, versus a previous estimate of 1.2%. Nominal growth is forecast to increase to 2.5% from the previous estimate of 2.2%. Overall consumer prices are predicted to advance 1.1% from previous estimates of 1.4%. Japan’s initial budget for FY17 will be 97.5 trillion yen ($830 billion), an increase of 0.8% from FY16.b4

While Japan’s economy has regained some momentum after a lull period, economists perceive it to be a potentially fragile export-reliant economic recovery in a scenario when Republican Donald Trump’s unexpected victory in the U.S. presidential elections added to the uncertainty over the global economic climate.

In the past, Trump has strongly opposed a trade pact at the center of Abe’s economic reform policies; if his campaign rhetoric on trade does convert into a policy act next year, Japanese companies could take a hit in one of their biggest markets. Combined with a recent weakening of the yen, the latest GDP figures reduce pressure on the BOJ to introduce more monetary stimulus into the economy.

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