The Bank of Japan Is in a Sweet Spotby , , and
BOJ delivers upbeat assessment for economic growth in 2017
Yen and bond yields key to delivering that better outlook
After a long year, the Bank of Japan unexpectedly finds itself in a sweet spot.
The yen has tumbled in recent weeks, thanks to surging global bond yields, and economic conditions at home and abroad are improving. Though less than bullish, the outlook for the world’s third-largest economy looks more promising than it has in years.
"Everything is pointing from headwinds to tailwinds," said Izumi Devalier, Bank of America Merrill Lynch’s chief economist for Japan.
Yet BOJ Governor Haruhiko Kuroda has little time to relax. Key policy planks -- a weaker currency and a promise to anchor bond yields -- remain at the mercy of global markets.
“The next move by the BOJ will depend on the foreign-exchange market,” said Yasunari Ueno, the chief market economist at Mizuho Securities Co. in Tokyo. “If the yen strengthens, it will likely reignite speculation for additional easing. If the yen weakens to around 125, it may fuel the argument for raising the target rate for the 10-year yield to restrain the yen from falling excessively."
A 12 percent fall in the yen since the day before Donald Trump’s election last month has been spurred by expectations of fresh U.S. fiscal stimulus. The yen had gained about 15 percent this year before the U.S. election. It was trading at 118.02 as of 7:37 p.m. in Tokyo.
One risk now is that the yen falls too far, too fast, hurting consumers’ purchasing power just as they seemed to be finally shaking off the effects of a 2014 sales-tax increase.
Economists have speculated that the BOJ will need to lift its current rate target for the yield on the 10-year Japanese government bond from around zero percent, to minimize the rate divergence that’s helping to fuel yen weakness.
Rate Target Challenge
Kuroda’s pledge to maintain that rate is already being tested by a surge in global yields. The BOJ conducted its first fixed-rate operation to contain rising yields last month and increased purchases during a bond-buying operation last week. Market participants are speculating that the BOJ will need to do more after the 10-year JGB yield hit 0.1 percent last week.
During a news conference Tuesday, Kuroda said it was too soon to discuss raising the long-term yield target or even the specifics of raising rates. But not everyone is convinced.
"If the 10-year U.S. Treasury yield continues to move up toward 3 percent, we think it will be increasingly difficult for the BOJ to control the 10-year JGB yield at around zero percent," Goldman Sachs economists wrote in a note.
Another risk is that a global shock -- geopolitical or economic -- would send investors rushing to buy yen as a haven, pushing the currency higher and forcing the BOJ to consider options for fresh easing yet again.
Kuroda himself implicitly acknowledged this Tuesday, pinning the yen’s direction on the dollar rather than any Japanese dynamic.
"Almost all currencies, regardless of advanced nations, developing nations, and emerging nations, have weakened against the dollar,” he said. "I think the current situation is about the dollar’s appreciation."
For now, though, global conditions are just right. Rising oil prices, the likelihood of higher interest rates in the U.S. and a global shift toward fiscal stimulus will all help Japan’s economy gain traction. That will be a reversal from recent years, when a collapse in oil prices and economic and political uncertainty countered the BOJ’s efforts to generate inflation and growth through quantitative easing and a weaker currency.
Fiscal Policy Help
In Japan, too, attention is turning to fiscal policy.
The government plans an initial 97.5 trillion yen ($825 billion) budget for next year. While that’s only a small increase on the same figure for the current year, there’s hope for supplementary spending packages to provide more punch.
An extra stimulus package passed this autumn is starting to work its way through the economy.
"The fiscal cycle will thus come to dominate growth in Japan, with the BOJ merely an accommodative bystander to ease the financing of the government’s spending and tax-cut programs," said Frederic Neumann, co-head of Asian economic research at HSBC Holdings Plc in Hong Kong.
Still, it’s unlikely the central bank will be able to remain on cruise control indefinitely, said Martin Schulz, senior economist at Fujitsu Research Institute in Tokyo.
"On the contrary, by fixing the long-term interest rate at zero percent in an environment of internationally increasing rates, it will have to be extremely active on the buy side to keep bond prices and interest rates under control," Schulz said.