Nicholas Wall, co-manager of the Old Mutual Global Strategic Bond Fund, reacts to the latest policy move by the Bank of Japan.
With central banks across the world attempting to hit their inflation targets, the Bank of Japan (BoJ) has adopted a new policy framework named “QQE with yield curve control”.
There are two elements to the new policy. Firstly, instead of the traditional central bank model of setting the short-term rate, the Bank of Japan will now seek to set the rate on the longer-term 10-year part of the curve too (they will target a yield of around 0% at the front-end initially, close to current levels). Secondly, the central bank has committed to keeping the policy in place until inflation has overshot the inflation target of 2%. It has abandoned the explicit target of expanding the monetary base by ¥80 trillion each year, but instead says it will adopt a flexible approach.
The policy is designed to shift inflation expectations, keep banks profitable via a steeper yield curve and seek to address the issue of Japanese government bond scarcity. While Governor Haruhiko Kuroda has delivered a policy that helps banks, we doubt it is going to lead to a rapid adjustment in inflation expectations – it is more a case of adopting a policy that enables the BoJ to stay in the game for longer as it hopes the policy will require fewer bond purchases. The central bank itself admits that “a further rise in inflationary expectations is uncertain”.
The BoJ is trying to keep policy loose while mitigating the negative side effects of excessive asset purchases.
What does this mean?
This is tapering but with asset purchases no longer the independent variable in the policy mix. The global pool of liquidity is unlikely to keep on increasing at the current pace so the ‘hunt for yield’ trade looks less attractive. The BoJ announcement that it will target the 10-year should suppress local yield curve volatility, but could lead to volatility in other markets and asset classes.
The yen Japanese banks finished up over 7%, while the yen is 0.4% weaker vs. the US dollar (it had been 1% weaker)*. Moves in other bond markets have been muted.
*Bloomberg, as at 08:00, 21 September 2016.