Nomura

Japan: conditions for more BOJ easing and implications

Impetus for BOJ: forex rates instead of worse-than-expected economy

With attention focused on the risk of a worse-than-expected global economy and the start of rate cuts in the US, expectations have been mounting for a policy response by the BOJ, including further easing. We think the trigger for a policy response by the BOJ would be a pick-up in yen appreciation, to around USD/JPY of 100.

The state of BOJ policy

Of the additional monetary easing steps that the BOJ has officially cited, we think the only one that it still has scope to implement, realistically speaking, is an acceleration of the pace of monetary base expansion via a further increase in its JGB purchases in conjunction with fiscal expansion and an increase in JGB issuance by the government, and we view this as more or less the only additional easing step that could be taken in response to further ye appreciation. It is questionable, however, if such a step would be effective with respect to the underlying economy and prices, or, as we discuss later, if it would carry any influence in financial markets.

Additional BOJ monetary easing and yen rates/JGB market response

Whether additional easing by the BOJ takes the form of cutting short-term policy rates, lowering the target for the yield on long-term JBGs, or raising the amount of JGBs it purchases, it is highly likely to lead to flattening of the yield curve. Given concerns about the side effects, the possibility is high that lowering the target for long-term yields will be avoided and steps will be taken to expand the allowable range of movement for long-term yields.

The impact of BOJ monetary easing on forex markets

Even if the BOJ were to increase JGB purchase in sync with fiscal expansion by the government, the response by the yen is likely to be very restricted in the event overseas central banks become dovish and interest rates there fall further. Policy rate cuts could be effective if they are combined with a boost to the ETF purchase program as a way to ease the adverse effect on financial stocks. It would also be important for the BOJ to telegraph its intentions to the market before cutting short-term policy rates, to avoid causing major surprises.

A trade-off: reaction of bank stocks and USD/JPY to yield curve

Based on our analysis, since the adoption of NIRP, the adverse effect on bank stocks and favorable effect on USD/JPY from declines in long-term and ultra-long-term interest rates has grown, relative to declines in short-term rates. The hurdles to the BOJ cutting rates are high. However, rate cuts could be effective if the market perception that there is little room for easing relative to other central banks can be changed. The efficacy of policy rate cuts will be larger if the BOJ can support bank stocks by fomenting expectations for higher interest rates in the future via expansion of the allowable range of movement for 10-year JGB yield.

Effect of ETF purchases on Japanese stocks

When the BOJ considers additional easing measures, the key to success will be keeping to a minimum the response that lower interest rates are negative for bank stocks. We see boosting ETF purchases as an important policy option, particularly in combination with rate cuts.

For more information and insights read our Anchor Report: Conditions for more BOJ easing and implications - Not many effective measures against strong yen

Contributors

  • Takashi Miwa

    Chief Japan Economist

  • Takenobu Nakashima, Ph.D

    Senior Rates Strategist, ABS/MBS Analyst

  • Yunosuke Ikeda

    Chief Equity Strategist, Head of Macro Strategy - Japan

  • Yujiro Goto

    Head of FX Strategy, Japan

  • Yusuke Miyairi

    FX Strategist, Economist

  • Masaki Motomura

    Senior Equity Strategist

  • Naoya Fuji

    Equity Strategist

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