Bank of Japan Only Imagines Inflation
It's too bad the central banking profession has no Hippocratic oath. If it did, Haruhiko Kuroda would've known better than to harm Japan's reflation regimen by saying prices are about to "accelerate considerably."
Everyone knows the Bank of Japan governor is gunning for 2 percent inflation. Now they also know how delusional his team is becoming as that goal fades further into the future. Kuroda's comment cuts both ways: If he's right that consumer prices are about to surge, then he has just scared Japan's 127 million people into spending even less. And if he's wrong, the BOJ has just burned the last shreds of its credibility with world markets.
For now, the latter seems more likely. Markets called Kuroda's bluff as the yen and Japanese government bond yields barely budged. Had traders believed Kuroda's warning, 10-year yields wouldn't have fallen to 0.40 percent yesterday, compared with 2.32 percent in the U.S. That explains why, with a couple of regrettable words at a Bangkok conference Tuesday, Kuroda undermined more than two years of unprecedented monetary stimulus.
Unless the BOJ has compelling data -- and is willing to share it -- showing that inflation expectations are moving its way, this is a risky gambit. The folks at Pacific Investment Management Co., for example, think more monetary easing is on the table as headwinds mount. China's slowdown alone may be reason for the BOJ to stick to an easing stance, said Pimco's Tomoya Masanao. Risks abound for a deflationary shock from global equities, currencies or oil prices. Gold, meanwhile, may soon sink below $1,000 an ounce for the first time since 2009, according to Goldman Sachs analyst Jeffrey Currie. That's hardly a sign that markets sense any of the world's three biggest economies (Japan is No. 3) are on the verge of an inflation surge.
Nor do Japan's mainstream price gauges fit Kuroda's narrative, which explains why his team is eyeing a new measure. It's highlighting charts showing that inflation advanced 0.7 percent in May, well ahead of the official 0.1 percent. To get there, staffers stripped out both fresh food and energy (the monthly consumer price index excludes only food). But this is a slippery slope. Fudging data won't change perceptions. Only increased confidence in Japan's future can do that.
Kuroda might consider talking less and doing more to achieve that goal. One suggestion: Focus on qualitative, rather than quantitative, easing. The quantity of money has surged since April 2013, when Kuroda pushed the BOJ into uncharted territory. He expanded the bond-buying campaign in October 2014, when policy makers pledged to purchase about $700 billion of public debt each year. The BOJ also quadrupled purchases of JGBs maturing in 25 years or more.
Yet the bank is beginning to "run out of road," said Andrew Colquhoun, head of Asia-Pacific sovereign ratings at Fitch. Volatility has all but disappeared from trading in Japanese government debt as monetary largess corners the market. A similar dynamic is deadening debt backed by mortgages, assets and local-government IOUs. The focus, Colquhoun said, must be on evaluating which securities the BOJ buys to see what's gaining traction and what's not -- and recalibrating accordingly.
Kuroda also should be prodding the government to carry out the structural reforms needed to boost wages and gross domestic product. In its latest growth strategy, unveiled last month, Prime Minister Shinzo Abe's government said it's aiming for 2 percent real growth over the next few years. That's highly unlikely to happen, though, without extending the yen's already massive 35 percent drop under Abe, Colquhoun said. "We need real progress on reforms to get there," he said.
To that extent, Kuroda is stuck. Government officials make it clear that a yen below 125 to the dollar is undesirable (it's now about 123). That's why Pimco has a point in favoring longer-term debt. "The long end of the JGB yield curve remains attractive on a relative basis, given the BOJ's powerful support firmly in place," Masanao said.
The BOJ, in other words, can talk about surging inflation all it wants, but conditions on the ground indicate otherwise. In the meantime, as he tries to change them, Kuroda should be mindful that job one is to do no harm to Japan's revival.
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