Weekly Update - The Bank of Japan, the last remaining “dove”
The Bank of Japan (BoJ) surprised the markets again at its monetary policy meeting this week. Beyond what is at stake for the Japanese economy and markets, the BoJ's decisions may have consequences on a global scale. They influence the investment choices of Japanese institutional investors who are among the main investors in the US and European public and corporate debt markets.
The Bank of Japan stands out from the central banks of the major developed economies by still maintaining a very accommodating monetary policy. Faced with a situation of deflation for many years, the BoJ had gone further than its peers in using "unconventional" tools to ensure permanently accommodating monetary conditions. Indeed, in addition to massive quantitative easing operations, it had put in place a specific "yield curve control" framework to determine both short-term and long-term interest rate levels. While Japanese inflation has not soared as in many countries, it has risen in the recent period. This increase prompted the BoJ to marginally revise its policy last December by raising the long term rate ceiling by 25 basis points to 0.50%. Following this decision, the markets adjusted, taking this decision as the beginning of a tightening cycle. The expected appointment of a new, more "restrictive" governor only accentuated these revisions of expectations.
A surprise pause in the adjustment of its interest rate policy. The BoJ met again this week and decided to keep its monetary policy unchanged (deposit rate at -0.1% and a ceiling for the 10-year rate at 0.50%). This decision clearly surprised the market players. The latter were expecting a further increase in the ceiling by almost 50bp and a revision of the yield curve control framework, due to several factors. Firstly, headline and core inflation finally exceeded the 2% target. Secondly, the maintenance of the ceiling on long rates requires the BoJ to buy substantial amounts of government debt, of which it already holds almost half, thus affecting liquidity and market functioning. Furthermore, the low interest rate and higher inflation environment is structurally penalizing the yen as other central banks are significantly tightening their policies.
We expect only a gradual revision of policy in the future. Despite these elements, the BoJ has unanimously decided to maintain its policy, believing that inflationary pressures are not of a sustainable nature. It even expects inflation to be below 2% for 2023 and 2024, as wage pressures remain contained and growth is sluggish. All in all, we believe that while the BoJ is likely to continue to adjust its monetary policy framework in the coming months to moderate its implications for the functioning of the government debt market and the profitability of the banking system, this exit should only be gradual. The BoJ should continue to use balance sheet operations to pursue its objective of reflecting the Japanese economy.
Finally, in the main events of the week, we have chosen to talk about statements from central bank governors regarding further monetary tightening and to focus on Chinese GDP growth and population figures.