Japan: Last Holdout BOJ, Kuroda, and the Yen

Published on April 22, 2022
SGH Insight
Though BOJ officials expect a temporary bump in inflation in the next few months as government cuts to mobile phone fees roll off, underlying inflation as reported by the central bank is still only around 0.5%. There is furthermore an understanding that headline inflation pressure on energy prices and consumers is not just the result of a weaker yen but fueled also by Russia’s invasion of Ukraine and the rush toward green energy policies by the European Union.
Intervention Noise and Yen Weakness
So even as the US Federal Reserve and other central banks (outside China) lean into tightening cycles, Bank of Japan Governor Kuroda has continued to pledge to keep Japanese short-term rates firmly anchored to the floor, or to be more precise just below the floor, at -0.1%.
Out of contention as well is an “early” end to the BOJ policy of yield curve control on the long end that has been in place since 2016, which is considered by Kuroda to be a critical backstop against a “premature” exit from accommodative policy. That however has not precluded speculation that the 25-basis points YCC band around 10-year JGBs could be widened.
Something will give after the collapse in the currency.
The first shoe to drop we expect will be the psychological 130 yen to dollar threshold that has held to date.
Market Validation
Bloomberg 4/28/22

The Bank of Japan sparked a sharp slide in
the yen and a currency warning from an official after doubling
down on its promise to defend a rock-bottom yield target that
leaves it as a dovish outlier among major central banks
tightening policy.
The central bank said it would buy an unlimited amount of
bonds at a fixed rate every business day to protect a 0.25%
ceiling on 10-year government debt yields as part of its
stimulus measures.
The BOJ’s decision prompted a day of rapid market moves
that ultimately triggered the strongest words yet from Japan’s
finance ministry as the yen shed 2% of its value against the
dollar.
The bank kept its main yield curve control settings and the
scale of its asset purchases unchanged, according to a statement
Thursday. That decision had been widely expected by economists,
although there had been speculation that the BOJ would do or say
something to try and halt the slide in the currency. Instead,
the policy decision and following press conference only
accelerated those losses.
The currency weakened sharply against the dollar after the
decision and breached the 130 mark mid-afternoon in Tokyo,
before touching 131 early in the evening. Those levels compared
with around 128.67 immediately before the BOJ issued its
statement.

Under mounting pressure to find ways to shore up a rapidly collapsing yen, Japanese policy officials are urging their superiors to acknowledge and speak against widening interest rate differentials with other countries — particularly between the US and Japan — without fueling speculation that policy will be tightened.

That will prove a challenge.

Indeed, to help stem the yen collapse, pressure is mounting on the Bank of Japan to widen the +/- 25 basis point band it has set around 10-year Japanese Government Bonds as part of its “Yield Curve Control” monetary policy, but that band has been defended ferociously to date by Governor Haruhiko Kuroda.

Particularly intriguing is a movement therefore that appears to be gathering steam within official circles in Tokyo for the Bank of Japan, to get around Kuroda’s dovish leanings, to at least signal that the conditions for a widening of the +/- 25 basis points band around 10-year JGBs and an adjustment to the YCC may be in sight.

That would flag that the last of the major central bank holdouts may be finally turning at some point in the not-too-distant future, even if not yet, which would of course help stabilize the collapsing currency.

It is also running into resistance from Kuroda, but Kuroda’s continued adherence to unprecedented monetary stimulus, and in particular his weak yen exchange rate leanings, are increasingly being questioned in Tokyo, including by Japan’s powerful rank and file bureaucrats.

Bad Versus Good Inflation

The Japanese yen has hit a 20-year low, fueling what is “unwelcome” food, energy, broader input, and commodity price inflation across Japan, and hurting consumers and small businesses in the process.

Bank of Japan Haruhiko Kuroda has nevertheless continued to maintain that the BOJ’s 2% target has yet to be sustainably achieved, even though it will be touched soon, as he points to lackluster demand, lack of corporate pricing power, anemic wage growth, and other impediments to “good” inflation.

Though BOJ officials expect a temporary bump in inflation in the next few months as government cuts to mobile phone fees roll off, underlying inflation as reported by the central bank is still only around 0.5%. There is furthermore an understanding that headline inflation pressure on energy prices and consumers is not just the result of a weaker yen but fueled also by Russia’s invasion of Ukraine and the rush toward green energy policies by the European Union.

Intervention Noise and Yen Weakness

So even as the US Federal Reserve and other central banks (outside China) lean into tightening cycles, Bank of Japan Governor Kuroda has continued to pledge to keep Japanese short-term rates firmly anchored to the floor, or to be more precise just below the floor, at -0.1%.

Out of contention as well is an “early” end to the BOJ policy of yield curve control on the long end that has been in place since 2016, which is considered by Kuroda to be a critical backstop against a “premature” exit from accommodative policy. That however has not precluded speculation that the 25-basis points YCC band around 10-year JGBs could be widened.

Something will give after the collapse in the currency.

The first shoe to drop we expect will be the psychological 130 yen to dollar threshold that has held to date.

Markets will look through attempts by Tokyo to jawbone the currency without any policy shift that would stem the slide of the yen, and the Fed if anything will be continuing its relentless march into hawkish territory (see, since fall of 2021, the series of SGH Reports, “Tim Duy’s Fed Watch”).

Those intervention threats include statements as recently as today by Finance Minister Shunichi Suzuki, attempting to leverage off the coat tails of his meeting with US Treasury Secretary Janet Yellen, in which he invoked G7 policies surrounding joint currency intervention.

Coordinated FX intervention to stem the sliding yen is not even remotely on the table. Nor do we think is unilateral intervention.

Putting aside the major non-starter intervention would be on a political level for the BOJ (directed technically by the Ministry of Finance), every trader understands that intervention to sell dollar yen would mean buying the yen, which is to tighten policy. The BOJ, to dust off the old FX intervention books, could choose to “sterilize” the effect of its interventions in the rates markets, but that would in effect negate its impact entirely beyond a signal of displeasure.

The BOJ indeed doubts intervention would stem the tide of yen selling and would more likely be a costly exercise that could exacerbate the slide and damage the central bank’s credibility in the process.

Officials are therefore eyeing a more subtle, but potentially more seismic, “down the road” signal on a not-too-distant shift in the BOJ’s decades long, ultra-loose monetary policy.

Kuroda Losing Luster

Kuroda has been gradually escalating a careful protest over the currency slide, but he is seen, including from his former colleagues at the Ministry of Finance, to be a strong believer at heart in the merits of a weak yen, even after its recent collapse.

Furthermore, there is growing frustration in Tokyo’s bureaucratic circles that Kuroda’s perceived deep ties to the ruling LDP (Liberal Democratic Party) and reluctance to speak against continued fiscal stimulus efforts may be part of the retail inflation and yen problems.

Indeed, Kuroda is whole-heartedly supportive of Prime Minister Fumio Kishida’s efforts to keep stimulating a fragile economy and offset the rise in energy prices through fiscal as well as monetary policy means. Japan’s ruling coalition has been looking to find agreement on tapping budget reserves of up to 5.5 trillion yen ($42.83 billion) to provide emergency relief measures by the end of April, to help households and small firms cope with surging prices of fuel and other items.

And although he is now acknowledging businesses are suffering from higher input costs, some officials are extremely frustrated that Kuroda did not speak sooner and more firmly against the weakening yen. 

The currency quandary has given rise to concerns that Kuroda is viewed by financial markets as politically captured by the ruling government and unlikely to execute an appropriate policy shift for fear of political blowback.

That has some officials grumbling that Kuroda, 76, should step down before his term expires in April next year and be replaced by one of those being groomed to succeed him. That is highly unlikely, but the speculation is telling, nevertheless.

Prime Minister Fumio Kishida will be able to choose Kuroda’s successor if his ruling party secures victory in upper house elections due in July. Among the contenders to succeed Kuroda are career central bankers, deputy governor Masayoshi Amamiya and former deputy governor Hiroshi Nakaso (currently head of the Daiwa Institute of Research).  

Markets assume that the BOJ will stick with its current stimulus policies until Kuroda finishes out his final year as governor. That is likely the case. It has kept the dollar/yen FX rate a hair breadth away from the important threshold of 130 yen, for all the efforts underway in Tokyo to jawbone the currency from dropping yet further.

It is also adding to pressure to signal a coming change in policy course to address the weaker yen before Kuroda’s term is up.

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