The BOJ’s 2% inflation target is still some distance away

Bank of Japan Governor Kazuo Ueda, who took part in the Finance Ministers and Central Bank Governors (FMCBG) Meeting at the G20 (Group of 20) Summit held in India, gave a press conference there on July 18 where he offered some remarks on Japan’s monetary policy.

After expressing his view that the BOJ “still has a long way to go before achieving a sustainable and stable 2% inflation rate”, Governor Ueda remarked that as long as this recognition remains unchanged, the BOJ’s stance will be to persist with its monetary easing. This remark doused expectations that any policy corrections will be forthcoming at the next Monetary Policy Meeting scheduled for July 27 and 28.

However, it is worth noting that the continuation of monetary policy in this context does not mean making absolutely no policy revisions, such as raising policy interest rates, but rather should be taken to mean staying the course on monetary policy. For instance, even if the BOJ were to eliminate its negative interest rate policy by raising short-term policy interest rates from their current -0.1% to 0%, interest rates would still remain at historically very low levels, and monetary easing would still be in effect.

Even if the 2% inflation target insisted on by Governor Ueda cannot be achieved anytime soon, and the BOJ is consequently forced to prolong its monetary easing program, ultimately it may well have to go through with necessary policy revisions.

If the BOJ were to judge that its 2% inflation target cannot be achieved swiftly, then it would have no choice but to prolong its monetary easing regime. But in order to make it through the long game, the BOJ could be expected to proceed with revising its easy money framework, in the name of mollifying any side effects that could hinder it from continuing with monetary easing.
And yet, the BOJ will probably wait at least until the results of next year’s springtime labor-management wage negotiations are in before declaring that its 2% inflation target cannot be achieved quickly. For this reason, there is little likelihood that a full-scale policy correction will be implemented anytime this year.

No sign of any major changes to bond market dysfunctionality

Nevertheless, it must be noted a revision to Yield Curve Control (YCC) in the form of a further expansion of bond yield variability could be carried out separately sometime this year as well. Given that was already done in December of last year under former Governor Kuroda, who had a negative view toward policy revisions, the hurdle in the way of another such move would seem to be low. The BOJ might well even do that before year’s end, calling it a “softening measure” as an extension of last December’s revision, rather than a full-fledged correction of its monetary easing framework.

Most significant of all this is the comment made by Governor Ueda regarding the bond market after the G7 (Group of Seven) FMCBG Meeting held prior to the G20 FMCBG Meeting. He stated, “My view regarding the functioning of the bond market has not changed significantly from the policy meeting we had in April or June. In general, we’ve seen some deterioration in market functioning such as a decline in liquidity, but the kind of distortion we once saw in the yield curve has been eased considerably.”

In the financial markets, speculation is simmering that at the next Monetary Policy Meeting on July 27 and 28, the BOJ will enact revisions including a further expansion of the YCC variability range. Yet Governor Ueda’s remarks would seem to be pessimistic in nature when it comes to revising YCC on the grounds of a deterioration in market functioning, as we saw last December.

If speculation over a YCC revision causes the 10-year JGB yield to reach 0.5%, which is the upper limit of the variability range, the BOJ will be forced to curb the rise in yields through fixed-rate purchase operations or extraordinary government bond purchase operations. Furthermore, in order to avoid having to make massive purchases of government bonds, the BOJ will need to further expand this variability range or take other such measures. Thus, the financial markets could end up compelling the BOJ to revise YCC in a sort of self-fulfilling manner.

For this reason, future developments in the financial markets will have to be watched closely, but at present, it seems that the BOJ does not expect it will be making any YCC revisions at the next Monetary Policy Meeting. It is quite possible that any policy changes will be put off for a later time.

That said, if financial market happenings do call for YCC to be revised, the BOJ will most likely make that possibility known to the markets just before it happens.

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  Takahide Kiuchi

  Executive Economist