Haruhiko Kuroda, governor of the Bank of Japan, during a news conference in Tokyo, Japan, on Tuesday. Bloomberg
The Japanese yen rocketed and equities in Asia suffered sharp selloffs after the Bank of Japan stunned financial markets by loosening its grip on the benchmark government bond rate, paving the way for a possible departure from decades of easy money policy.
The BoJ will widen the band within which it allows the 10-year government bond yield to trade at, being 0.5 per cent above or below its zero per cent target. It was previously 0.25 per cent.
The surprise decision caused Japan’s risk-free rate to immediately rise to the upper end of the BoJ’s cap. The S&P/ASX 200 Index fell 1.5 per cent to 7024.3 points and the Nikkei 255 dropped 2.5 per cent, dragged lower by the manufacturing sector and its flagship exporters Mitsubishi, Olympus and Mazda.
The US dollar plunged 3 per cent against the yen to ¥132.78, a level last seen in August.
“It does suggest that change is afoot and speculation on a formal change of policy next year will intensify,” said Ray Attrill, head of FX strategy at NAB. “The very fact they’ve done it when the governor just a month or two ago was saying that they had no intention of doing it is clearly significant.”
At its policy meeting on Tuesday, outgoing governor Haruhiko Kuroda and the board decided unanimously to review the BoJ’s yield curve control, which pins short-term yields at minus 0.1 per cent and the long-term yield around zero.
Analysts caught off guard
Every economist surveyed before the meeting had expected the BoJ to keep policy unchanged.
“Markets have interpreted today’s change as a step towards policy normalisation,” said Carol Kong, a strategist at CBA. “Markets are positioned for a policy pivot, but we’re not seeing any shift from the BoJ yet.
“The earliest move [for a formal policy adjustment] would be around March-April next year when governor Kuroda steps down and the annual wage negotiations outcomes are known.”
Bond yields surged with US 10-year bond yield up 10 basis points to 3.69 per cent. Australian 10-year bond yields jumped a massive 0.25 percentage points to 3.73 per cent. The BoJ has been an outlier in a year defined by aggressive tightening at the hands of the US Federal Reserve and the European Central Bank.
“Ultimately the BoJ is just trying to apply some flexibility because in a rising bond yield environment, allowing the 10-year yields to trade up to 0.5 per cent makes it a bit easier to defend the target,” said Mr Attrill.
Japan’s 10-year bond rate rose to 0.46 per cent.
End of an era
“The market has no compelling reason not to push 10-year bond yields to the upper limit,” said Priya Misra, head of global rates strategy at TD. “The BoJ has opened up Pandora’s box; once it makes its first move on the yield curve control, the market is likely to assume more changes to come.”
There has been a growing debate about whether the Bank of Japan could maintain its ultra-loose monetary settings amid surging import costs and aggressive tightening by other central banks.
“Last week’s hawkish slate of central bank decisions and messaging added more pain, with the ECB even out-hawking the Fed,” said Ms Misra. “Against this background, the BoJ’s battle had become increasingly hard.”
Japan’s monetary policy settings and its relentless bond buying to defend its yield cap have drawn increasing public criticism for distorting the yield curve, draining market liquidity and fuelling an unwelcome yen plunge.
Mr Kuroda repeatedly said he saw no need for the BoJ to tweak the yield curve control policy, including taking immediate steps to deal with the distortion it was creating in the bond market. His term at the helm of the central bank ends in April.
End of an era?
CBA cautioned that nothing in Tuesday’s statement indicated any willingness to shift away from the ultra-dovish mindset.
“In fact, the BoJ stated clearly that the move to widen the target range was a way to sustain the easy monetary policy settings and improve market functionality,” said Ms Kong.
Even so, the BoJ tweak came amid reports the government may be planning to allow some flexibility in the central bank’s 2 per cent inflation target.
Japanese core inflation climbed to a four-decade high in October, an acceleration that backed the case for reduced central bank stimulus.
The BoJ also decided to sharply increase monthly purchases of Japanese government bonds to ¥9 trillion ($US67.5 billion) per month from the previous ¥7.3 trillion.
Despite decades of unconventional monetary policy, Japan’s economy has experienced relatively slow growth and even stagnation.
Yet, the BoJ painted a positive outlook for this year, noting that the economy was likely to recover, with the impact of COVID‑19 and supply‑side constraints waning. It forecasts activity to grow at a pace that is above its potential growth rate.
CBA estimates that Japan’s economy will contract 0.2 per cent next year.