More Hawkish Fed Stance Gives Kuroda a Push for Time Being

  • Divergence between BOJ and Fed is likely to weaken the yen
  • Rising U.S. yields may put pressure on BOJ’s yield target

The Federal Reserve has made Bank of Japan Governor Haruhiko Kuroda’s job a bit easier by confirming it’s about to start paring its balance sheet and push ahead with interest rate hikes. But the Fed could complicate matters for the BOJ before too long.

Just hours after the U.S. central bank’s latest meeting, the BOJ said it would stay the course with its own monetary easing program, even as the Fed heads further down the path of policy normalization and the European Central Bank looks ready to turn that way.

Haruhiko Kuroda, Sept. 21.

Photographer: Akio Kon/Bloomberg

"We don’t have to raise interest rates just because they’re going up elsewhere overseas," Kuroda told reporters during a news conference after the policy decision was announced.

Read more: BOJ Keeps Policy Unchanged; New Member Casts Dissenting Vote

The divergence between the BOJ and the Fed is likely to weaken the yen further, putting the wind at the BOJ’s back, even as it underscores Japan’s failure to stoke inflation after more than four years of extraordinarily aggressive easing. 

Expectations Game

Paul Gruenwald, chief economist for Asia Pacific at S&P Global Ratings, said news from the Fed was positive for the BOJ on two fronts: The unexpectedly hawkish stance in the U.S. would put downward pressure on the Japanese currency, while upbeat revisions to American growth forecasts would support the global reflation narrative.

Read more: Fed to Shrink Assets, Raise Rates

Like the vast majority of BOJ watchers, Gruenwald sees little prospect that Kuroda and his board change course at any time in the near future. While Japan’s economy is doing quite well, he said, for Kuroda "the game here is really about inflation expectations."

"He needs to get inflation expectations up to around 2 percent and keep them there," Gruenwald told Bloomberg TV in an interview from Tokyo. "That’s a multi-year project."

Paul Gruenwald discusses the Bank of Japan.

Markets: Asia." (Source: Bloomberg)

Yet rising U.S. yields, a natural result of the Fed’s policy normalization, generally push Japanese yields higher. That could force the BOJ to increase its bond purchases to maintain its current 10-year yield target of around zero percent, something it’s probably not keen to do given that it is already cutting those purchases. But the alternative is to let the goal rise -- an effective tightening.

This could prompt the possibility of some policy tweaking by the BOJ as U.S. yields go higher. Kuroda is likely to stick to the current yield target for now, but some economists see the likelihood of revisiting policy as the Fed moves forward and U.S. yields creep higher.

Kuroda rejected the idea that the Fed’s decision could force the BOJ to turn down a normalization path any sooner, saying it’s a "very natural thing that our monetary policy, monetary easing is different from the Fed, ECB."

Read more: Fed Isn’t Kicking Off Global Tightening, Kuroda and Lowe Signal

Different Path

Yet at least one economist says the BOJ is "very likely" to begin normalizing policy well before inflation reaches its 2 percent target, with the yield target probably the first change.

Naohiko Baba, chief Japan economist at Goldman Sachs Group Inc., says the BOJ likely wants to ensure it has room for future policy moves by starting to normalize rates while the U.S. is still in a tightening cycle.

"We think the BOJ would at least need to see new core CPI inflation (excluding energy and fresh food) stabilize above the 1 percent mark," economists led by Baba wrote in a recent report. "Given that the BOJ has maintained that inflation expectations are formed adaptively, it could, under these conditions, argue that there is effectively no tightening in real interest rates."

The BOJ could raise the yield target and eliminate the negative interest rate on some bank reserves simultaneously, and later cut purchases of exchange-traded funds and other risk assets, Baba wrote.

Political Pressures

Despite being far from its goals, the BOJ has faced pressure this year from Japanese officials to explain how it might begin exiting its easing program, given that its balance sheet is on track to exceed the size of the nation’s $4.8 trillion economy, and its purchases of ETFs are seen distorting equity markets as well. 

After all, a majority of economists surveyed by Bloomberg say they don’t expect the BOJ to ever hit 2 percent inflation, raising the question of how long it can continue down its current path. Even new board member Goushi Kataoka said at the meeting that ended Thursday that stimulus wasn’t strong enough to achieve the goal.

Read more: The Bank of Japan Has a New Dissenter

Kuroda said he welcomed Kataoka’s dissenting views, and any vigorous debate, while acknowledging that the central bank is still some distance away from its goals. But he said it is poised to "tenaciously continue with powerful monetary easing in order to reach that goal as soon as possible.”

"Any thoughts from the BOJ on an exit strategy I expect to be far into the future," said Junko Nishioka, chief economist for Japan at Sumitomo Mitsui Banking Corp. "The 2 percent inflation target is not something that’s likely to be met in the near future.”

Kuroda declined to comment on the government’s fiscal goals following reports that Prime Minister Shinzo Abe is considering abandoning the target of achieving a primary balance surplus by 2020, saying only that fiscal discipline is important. He deflected a question about a sales-tax increase planned for 2019, saying the decision lies with the government and parliament.

— With assistance by Yuko Takeo, Toru Fujioka, Yoshiaki Nohara, and Connor Cislo

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