The Bank of Japan’s Yield Curve Control framework has been in place since 2016 with the aim of keeping borrowing costs very low to push inflation back to the central bank’s 2% target.
Source: Bank of Singapore, Bloomberg
The BoJ sets its deposit rate at -0.10% and aims to keep 10Y Japanese Government Bond (JGB) yields ‘around zero percent.’
The first chart shows that inflation remains elusive in Japan with core consumer prices - excluding food and energy costs - only rising by 0.2%YoY in February. But the second chart shows that keeping 10Y JGB yields around 0% has enabled Japanese equities to reach 30-year highs with the Nikkei breaching 30,000 this year.
Equities & Bonds, Japan
Source: Bank of Singapore, Bloomberg
The BoJ’s policies, however, have several costs. By printing money and buying JPY6 trillion a year of equity-related exchange traded funds (ETFs), the central bank has become the largest player in Japan’s stock markets. Thus, the BoJ said today it would stop making regular ETF purchases, dropping its annual JPY6 trillion target and only stepping in to buy when equity markets falter. Here, the BoJ kept its maximum limit of being able to purchase up to JPY12trillion of ETFs a year.
Very low interest rates have also undermined financial institutions’ profits. So, the BoJ said today it would widen the trading bank for 10Y JGB yields around 0% to +/-0.25%, thus allowing the bond curve to steepen while still keeping overall yields low. The central bank also announced it would mitigate the impact on financial institutions of any future cuts to the BoJ’s -0.10% deposit rate by offering higher interest rates on excess balances commercial banks hold at the central bank.
The main surprise today was the BoJ decision to focus any future ETF purchases on the TOPIX index only. This caused the Nikkei to fall 1.4% to 29,792. But by tweaking its framework to reduce the costs to financial institutions from very low interest rates and by pulling back from regular ETF buying, the central bank hopes to keep in place its very dovish monetary stance for years to come. Over time, this will keep supporting risk assets in Japan as the performance of local equities over the last five years shows.Disclaimer applicable to recommendation
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