Will Japan’s Central Bank Keep Control of the Yield Curve?

TOKYO, Jan 17 (Reuters) – The Bank of Japan came under intense pressure to change its rate policy as early as Wednesday in a two-day meeting as the central bank tried to buy itself some wiggle room by widening its bond yield range in December, but changes in policy has rebounded on the regulator itself, and public debt investors are not relenting in their onslaught.

Unlike other central banks that are aggressively raising rates to fight inflation, the Bank of Japan continues its long-term stimulus policy, which should provoke a rise in prices, even when inflation has already exceeded the regulator’s target.

Investors are rapidly pushing up Japanese government bond yields, testing the ability of the Japanese central bank to maintain control of the curve, and the regulator surprised last month by raising the cap on 10-year bonds to 0.5% from 0.25%.

“If the situation in the government debt market continues to deteriorate, the risk of early termination of control over the yield curve could increase,” – said Naomi Muguruma from Morgan Stanley Securities.

Officials hoped the December surprise adjustment would give them time to breathe while they assess whether the recent pay hike has taken hold and until Haruhiko Kuroda’s successor takes office in April.

According to five sources familiar with the regulator’s thinking, the central bank of Japan hoped that under the new leader it could develop a strategy to systematically roll back control of the curve – it was planned to complete it only when wages rose enough to keep inflation steady near the target of 2 %.

Instead, the BoJ’s December decision opened a Pandora’s box, and market expectations that a major reversal in the monetary policy was imminent became impossible to contain. Less than a month later, bond sellers twice breached the 0.5% yield ceiling, forcing the central bank to conduct emergency bond buying to cut rates.

Reaffirming its determination to protect marginal yields, the central bank announced on Monday that it was planning additional emergency bond purchases.


Given the fall in global commodity prices, private analysts agree with Kuroda that inflation will return to the central bank’s target at the end of the year. But markets are unlikely to buy the outgoing central banker’s assurances that key rates will remain low after he caught them by surprise with his December decision, analysts say.

Further cosmetic adjustments could simply fuel market expectations for a rate hike soon. However, raising yield targets would be counter to the position that stronger wage growth must be accompanied by higher inflation before the central bank can revise or roll back its policy of controlling the yield curve.

This week, much will depend on whether the central bank of Japan considers market distortions severe enough to justify additional action, the sources said.


“The situation is similar to the one when the Central Bank of Australia was forced to abandon the target yield of three-year (bonds),” said Muguruma from Mitsubishi UFJ Morgan Stanley.

Kuroda said in July that the Bank of Japan would not be in the same position as its Australian counterparts, as the Japanese central bank focuses on the yield of 10-year government debt, and market expectations about future rates affect these papers less than three-year bonds.

Nevertheless, market expectations of an imminent tightening of monetary policy led to a wide increase in bond yields: for eight-year debt – up to about 0.6%, and for bonds maturing in nine years – up to 0.7%, which is above the ceiling set by the Central Bank for 10 year bonds.

“As interest rates rise, we see the limits of the yield curve control policy,” said Daiwa Securities’ Mari Iwashita. – Extending the range again will not correct distortion. It is better to remove the 10-year yield target, but revisiting control policy will raise the question of how accountable the regulator is for its actions.”

Even if the Bank of Japan weathers the storm this week, the pressure from the market will not go away.

The Corporate Goods Price Index (CGPI) in Japan, which measures the prices of goods purchased by Japanese corporations, rose 10.2% year on year, beating the market’s average forecast for growth of 9.5%, data showed on Monday.

Friday’s CPI expected to show a 4.0% rise in inflation in December, a new high in 41 years, according to a Reuters poll.

“Japan’s central bank is paying the price for succumbing to market pressure in December,” a third source said. “If markets continue to demand more from the regulator, yield curve control policies could fall apart prematurely.”

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(Leika Kihara, translated by Tomasz Kanik)


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