The Bank of Japan has announced this Friday that its policy to control the public debt yield curve will be more flexible and relaxed the defense of a long-term interest rate limit, in a movement that investors see as the prelude of a future rise in interest rates and a first step to abandon the era of massive monetary stimuli. After maintaining rates at -0.1%, the new 10-year yield target for its sovereign bond will rise to 1%, the limit above which the agency will continue to intervene in secondary markets.
After buying large amounts of bonds to defend the 0.25% interest ceiling on 10-year bonds, the Bank of Japan widened the yield range in December 2022 and until now allowed the 10-year yield to rise to as low as 0.5 % “Given the extremely high uncertainties about the economic and price outlook, it is appropriate to enhance the sustainability of monetary saving within the real framework by controlling the yield curve with greater flexibility and responding swiftly to upside and downside risks, said the bank.
Since introducing yield curve control on government bonds in 2016, the Bank of Japan has had little trouble controlling bond yields when inflation has remained well below its target. That changed last year, when high commodity prices pushed inflation above the 2% target and gave investors reason to bet on a hike in the yield cap on Japanese debt.
Turmoil in the markets
Japan is the only one among the big central banks that remains anchored in a policy of zero rates with negative real returns despite the incipient inflation with which it is beginning to count. It does so because it has spent decades under the yoke of the threat of deflation from which it has not managed to break away. Japan has stayed away from massive interest rate hikes in Europe, the US, Canada or Australia after the wave of inflation that has swept through their economies.
although the central bank that it directs exceeds 3% year-on-year. The announcement has rocked markets, with the yen and debt interest rates rising and the stock market falling. The Nikkei index of the Tokyo Stock Exchange fell 0.4% this Friday, while the currency rebounded strongly against the euro and the dollar.
Inflation in the country of deflation
The decision of the Bank of Japan supposes for the experts the effective elimination of the yield limit and the preparation for an exit of the accommodative monetary policy. At the meeting, the bank kept its short-term interest rate target unchanged at -0.1% and its 10-year government bond yield target around 0%. He also stood by the guidance that allows the 10-year yield to move 0.5% around the 0% target, but said these would now be “benchmarks” rather than “hard limits.”
The Bank of Japan said it would offer to buy 10-year Japanese Government Bonds (JGBs) at 1% in fixed-rate trading, instead of the previous rate of 0.5%, indicating it would now tolerate an increase in yield to 10 years up to a maximum of 1%. Ueda told a news conference that the Bank of Japan tightening was a “precautionary” move and that he did not expect the 10-year yield to reach 1%.
Board of Governors member Toyoaki Nakamura opposed the decision by the Bank of Japan chaired by Ueda, arguing that while making yield curve control more flexible was desirable, the time was premature. The Bank of Japan meeting comes after the decision of the Federal Reserve (USA) on Wednesday to increase interest rates to the range of 5.25-5.5%, while the European Central Bank raised them on Thursday at 4.25%.
In a quarterly outlook report, the Bank of Japan revised up its core inflation forecast for this year to 2.5% from 1.8% projected in April. But it cut its forecast for fiscal 2024 to 1.9% from 2% in April and kept its estimate of 1.6% for 2025. Inflation has outpaced the Bank of Japan projections made in April and growth in Wages have accelerated, said the central bank, which sees changes in the behavior of companies both in the setting of salaries for their employees and in prices.
