Capital Properties FX
Capital Properties FX

Bank of Japan Policy Rate – April Meeting’s Outcome


“Be extremely subtle, even to the point of formlessness. Be extremely mysterious, even to the point of soundlessness. Thereby you can be director of the opponent’s fate.” – Sun Tzu, The Art of War

Japanese yen traders were on full alert last week as Bank of Japan press conference was looming on the horizon. BOJ has been extremely aggressive in its monetary policy since 2010 and hence their influence on the yen exchange rate is massive. However, as there were no surprises during the presser, USDJPY basically stood still throughout the event.

BOJ is still very confident that they’ll reach their two percent inflation target even though, they’ve been running the QE program for more than 6 years now. Economists, on the other hand, are skeptical and suspect that more needs to be done before the bank reaches its desired goal. One of the big issues is the tepid wage growth even though the labor market in Japan is remarkably tight.

Bank of Japan raised its economic forecasts for the 2017-2018 fiscal year. The bank sees the Japanese economy growing at a rate of 1.6 percent compared to the previous 1.5. However, at the same time, they lowered inflation expectations. Taking into account the fact that BOJ has been fighting deflation for so long, it safe to assume that there will be no changes in the current monetary policy anytime soon.

Read Also: Forex Market Reaction to European Manufacturing PMI’s

Kuroda, Abe, and Deflation

Haruhiko Kuroda stepped in as the Governor of Bank of Japan in 2013. Together with Prime Minister Abe, they came up with a plan to defeat deflation. The task that lays in front of them was huge, extremely complex and somewhat risky. No one in the modern history of finance has conducted asset purchases on such a scale as the BOJ.

Since 1991 to 2010, Japan’s economy was firmly in deflation. The whole period is called the Lost Score or the Lost 20 Years. The cause of the initial collapse of the economy in 1991 wasn’t anything new or unheard of. Fast growth in the second half of the 20th century was fueled by excessive lending which over time evolved into a massive asset bubble. In 1991 the party suddenly stopped and the reality kicked in. Japan’s financial sector took a devastating blow and the decade’s long stagnation started.

In 2013, the duo BOJ’s Kuroda and Prime Minister Abe decided to introduce drastic measures to re-start the entire Japanese economy. Current BOJ’s asset purchase program is set at 780 billion dollars per year. To put that number into contexts, the ECB’s asset purchase program is set at 720 billion (approx) euros per year while the Eurozone economy is four times larger than Japan’s. Furthermore, in January 2016, after years of QE, Bank of Japan decided to adopt negative rates to make sure that their inflation target is met without setbacks.

Sustainable Two Percent Inflation Level

The pace of the BOJ’s asset purchases is overwhelming and soon they may run out of debt to buy. According to some analysts, if the bond buying continues at a current rate, then BOJ could face a shortage of bonds by the mid-2018. This is perhaps the biggest threat to the QE programs as such because it shows that there are limits which cannot be crossed.

Bank of Japan holds approximately one-third of Japan’s outstanding government bonds. By the end of 2018, that number should be somewhere close to 60 percent. Hence, it is possible that BOJ may consider other policies to ensure their inflation target is met. One of the things they could do is to cut rates further into negative territory.

Even though Kuroda has done almost everything he possibly could have, lack of inflation is still an issue. The current rise in inflation is mostly due to higher energy prices across the globe. Once we’ll see a drop there, the overall inflation levels around the world should go considerably lower. Like in Europe, a sustainable two percent inflation level, fueled by rising wages and productivity is not achievable today in Japan.

In general, market participants are becoming skeptical regarding BOJ’s ability to reach their goal. Kuroda, of course, says the opposite and claims that they have plenty of ammo left and the return of inflation to two percent is only a matter of time. However, it is becoming clearer by the day that bond buying alone is not enough. More and more analysts suggest that Abe should look towards structural reforms, especially when it comes to the labor market.

Conclusion

Trading the Japanese yen may become a bit trickier now. While the Bank of Japan raised the GDP forecast, they lowered the inflation expectations. At the same time, they kept the monetary policy unchanged and didn’t give many clues regarding the future of BOJ’s policies. Most likely everything will remain as is for an extended period of time.

Trading Forex is complex and risky. Unfortunately, Bank of Japan didn’t do anything to make our lives any easier.

Capital Properties FX
May 1, 2017

Read Also: U.S. Inflation: Where to?

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