Why the Bank of Japan (BOJ) cancels radical policies.

Yasir AliMarch 19, 2024

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Why the Bank of Japan cancels radical policies.

The Bank of Japan, also known as the BOJ, marked a historic departure from concentrating on reflating GDP with generations of huge monetary stimulus on Tuesday, ending eight years of falling rates of interest and other remains of its unconventional policy.

Despite being the country’s first interest rate increase in 17 years, observers note that the decision leaves rates at zero as the central bank is forced to be cautious about raising borrowing costs further due to a shaky economic recovery.

With this change, Japan becomes the final central bank to remove negative interest rates, bringing an end to a period in which governments attempted to boost economy via unconventional monetary policies and cheap money on a global scale. “Like other central banks, we went back to a regular monetary policy aiming short-term interest rates,” BOJ Governor Kazuo Ueda stated following the decision at a press conference.

Ueda stated, “If trend inflation enhances a bit more, that could result in a rise in short-term rates,” but she did not specify when or at what rate additional rate hikes would likely occur. The BOJ abandoned a programmed that its previous governor Haruhiko Kuroda had implemented since 2016 and which levied a 0.1% fee on certain excess reserves that financial institutions kept on deposit with the central bank. This move was widely anticipated.

By paying 0.1% interest on deposits made at the central bank, the BOJ decided to regulate the overnight call rate, which it had established as its new policy rate, within a range of 0-0.1%.

According to HSBC’s head Asia economist Frederic Neumann, “the Bank of Japan today took its primary, tentative step in the direction of policy normalization.” Neumann is based in Hong Kong.

“The elimination of negative interest rates in particular signals the BOJ’s confidence that Japan has emerged from the grip of deflation.” The central bank also stopped buying risky assets and yield curve control (the YCC), a programmed that had been in place since 2016 and capped long-term rates of interest at zero.

However, the BOJ stated that it will continue to buy “roughly the exact same amount” of sovereign debt as previously and increase purchases if rates rise rapidly, emphasizing its focus on avoiding a harmful jump in borrowing costs. In another indication that rate increases in the future will be gradual, the BOJ stated that it anticipates “accommodative economic circumstances to be sustained for the time future.”

After the judgement, Japanese shares increased. Due to investors’ interpretation of the BOJ’s dovish guidance—which suggests that the interest rate gap between the US and Japan will probably not close much—the yen dropped below 150 per dollar.

Bank of Japan bids adieu to an era of extreme policy and ends negative rates.

“A REGULAR COUNTRY”

Since inflation has been above the Bank of Japan’s objective of 2% for more than a year, many market participants had predicted that negative interest rates will stop in March or April. The highest pay increases in 33 years were obtained during unions’ annual wage negotiations with large corporations, which raised expectations for a turnaround this week.

As the Kuroda period stimulus comes to an end, markets, analysts, and the general public are increasingly more focused on the timing of the BOJ’s next rate hike. Commercial banks announced intentions to increase some of their rates for deposits on Tuesday, the first time they had done so since 2007. Rate hikes by the BOJ before the year’s conclusion are anticipated by both Nomura and BNP Paribas.

According to Bart Wakabayashi, Branch Manager of State Street Tokyo, “we’re basically a normal country.” What effect does this have on local households’ purchasing power? In light of that, I believe the next major conversation will center around it, and the BOJ is limited to what they have already declared.”

The BOJ launched a massive asset-buying plan in 2013 under Kuroda with the initial goal of driving inflation up to a target of 2% in about two years. A more sustainable stimulus package was implemented by the central bank in 2016 due to lackluster inflation, which prompted the introduction of negative rates and YCC.

However, the BOJ changed YCC last year to loosen its hold on long-term rates as the significant declines in the value of the yen increased the cost of importation and increased public criticism of the drawbacks of Japan’s extremely low interest rates. Risks still exist. An increase in the yields on bonds would make it more expensive to finance Japan’s massive public debt, which is the highest among developed nations at double as much of its GDP.

In a landmark decision, the Bank of Japan terminates the only negative rate system in history.

The global financial markets may be shocked if cheap funds disappear because Japanese investors, who accumulated assets abroad in pursuit of income, may decide to repatriate their funds. The BOJ reduced its economic outlook and issued a warning about weakening consumption even as it reduced stimulus.

The BOJ can hike rates more slowly than other central banks have in recent years, according to Ueda, because inflation expectations have not yet been fixed at 2%. Regarding the probable cutoff point for any rate hikes, Ueda stated, “If our price forecast clearly overshoots or, even if our median forecast is unchanged, we see a clear increase in upside risk to the price outlook, that will lead to a policy change.”