Home MarketsAsia The BOJ could abandon negative rates next week. Here's what you need to know.

The BOJ could abandon negative rates next week. Here's what you need to know.

by SuperiorInvest

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There is speculation that the Bank of Japan could take steps to exit the world's latest negative rate policy as soon as next week, when policymakers gather for their March meeting.

The rally in Japanese stocks has stalled, with the and in strengthening against the dollar and 10-year Japanese government bond yields hit their highest level in three months on Tuesday.

To be clear, although some sell-side economists have brought forward their forecast for a BOJ decision to next week's meeting, most analysts expect Japan's first rate hike since 2007 to take place in April. They hope policymakers will have more evidence of a significant wage increase after annual spring negotiations between unions and employers end this week.

“We continue to expect the Bank of Japan to end NIRP in April,” Goldman Sachs economists led by Tomohiro Ota wrote in a note Tuesday, referring to the negative interest rate policy. “While a March rate hike cannot be ruled out, we believe the BOJ's communications at this time are not clear enough to justify assuming a March hike as a base case.”

“By postponing the decision to raise rates for only one month, the BOJ can collect more data, can get an opportunity to explain its views behind the major policy change through the quarterly Economic Outlook report and can avoid a hike.” just before the end of the fiscal year, when many financial institutions close their books,” they added.

While BOJ Governor Kazuo Ueda meets with the other eight members of his board of directors eight times a year, the central bank updates its economic outlook only four times: in January, April, July and October. The next BOJ meeting will be on March 18-19.

Even though “core inflation” – which excludes food and energy prices – has exceeded its 2% target for more than a year, the BOJ has barely budged from its current ultra-loose monetary policy stance that has current status in 2016.

While the central bank has effectively loosened its yield curve control policy on longer-term interest rates over the past 16 months, it has kept interest rates at -0.1% and still maintains an upper bound for the 10-year Japanese government bond yield at 1% as a reference.

Yield curve control is a policy tool by which the Bank of Japan sets a target interest rate and then buys and sells bonds as necessary to achieve that target.

In addition to the YCC, Japan has also experimented for decades with unconventional policies with asset purchases and quantitative easing in its attempt to lift the world's fourth-largest economy out of deflation.

“The Bank of Japan has no right to maintain monetary policy where [they are now]. “The economy is not in a position to have that ultra-loose monetary policy and quantitative easing, which we have been calling a major policy mistake,” Amir Anvarzadeh, market strategist at Ametric Advisors, told CNBC on Tuesday.

Japan, now the world's fourth-largest economy, narrowly avoided a technical recession in the revised GDP report released on Monday, which showed private consumption contracted for the third consecutive quarter.

The sadness of inflation

High inflation is hitting domestic demand and private consumption, underscoring the fragility of growth in Japan. Private consumption fell 0.3% quarter-on-quarter, more than provisional estimates of a 0.2% decline, according to final GDP data released on Monday.

In fact, it was largely thanks to the strength of capital spending that Japan managed to avoid a technical recession. Still, the upward revisions were weaker than expected.

“Inflation in Japan is being underestimated,” Anvarzadeh said, adding that government subsidies – which tentatively expire in April – have kept inflation “artificially low.”

“But once they expire, inflation will be even higher,” he added.

Ueda has repeatedly indicated that imported cost pressures stemming from high energy prices in the post-Covid period likely drove price increases in Japan, and is looking for evidence of organic cost pressures.

The central bank believes wage increases would result in a more significant spiral, encouraging consumers to spend.

“Cost-driven inflation is inflation, regardless of what you might think. What do you think is happening everywhere else?” Anvarzadeh said. “The great fallacy is that in the last 20 years it was that deflation that harmed consumption.”

“Deflation actually helped consumption in Japan because wages were stagnating, prices were falling, and therefore consumption held up. And now, wages are rising, and now inflation continues to rise before that.” and consumption has been affected,” he added.

Market repositioning

After some recent hawkish comments from BOJ officials, Japan narrowly avoiding a technical recession, and hopes for strong wage increases rising, some market repositioning is underway as investors prepare for a possible move by the BOJ in March.

Bank of America economists on Tuesday brought forward their base case for an exit from the BOJ's negative rates to next week's meeting, rather than their previous forecast for April, underscoring the growing schism in market views.

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BOJ Governor Ueda appeared to temper expectations on Tuesday, adopting a relatively more pessimistic tone on the Japanese economy than he did two months ago in his remarks to the Japanese parliament.

He also reiterated to Parliament on Wednesday the “critical” role this year's wage negotiations will play in the decision to end negative rates.

“It is the right time to increase salaries”

The “Shunto” salary negotiations will end on Wednesday and the first count of the negotiated results will be available from Friday. Rengo, Japan's largest union group, said workers at major companies have asked for annual raises of 5.85%, surpassing the 5% level for the first time in three decades.

If so, that would surpass the more than 3% increases achieved last year, which were the largest increase in about three decades.

Some media reports already suggest that some of Japan Inc's biggest names, such as toyota, panasonic, Nippon Steel and nissan — have agreed to fully accede to union demands for wage increases.

Japan: Much more hopeful for wage growth this year, portfolio manager says

“Compared to other years, [they are] much more open in terms of salary increases… because during the last decade, what is noticeable is that Japanese companies have been accumulating profits and profit margins are already at record levels and, furthermore, with the shortage of labour. , it's the right time to raise salaries,” Shuntaro Takeuchi, Japanese fund manager at Matthews Asia, told CNBC on Wednesday.

“This year, most companies – many of them – are starting to announce more salary increases even higher than expected. [5%], based on some sectors. “I think they are more proactive than last year, so I wouldn't be surprised if it was somewhere between 3% and 5%,” he added.

What would an exit be like?

Many market participants are looking beyond the timing of the BOJ's policy change.

“BOJ Governor Ueda said at the press conference after the January meeting. [monetary policy meeting] that the monetary policy environment will remain extremely relaxed for the time being, implying that subsequent rate hikes will be very modest,” Goldman Sachs economists said.

An electronic quotes board shows the 145 yen level of the exchange rate against the US dollar at a foreign exchange brokerage in Tokyo on September 22, 2022.

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“Whether the BOJ mentions the future path in the policy statement in an attempt to limit expectations of excessive rate increases and the subsequent risk of interest rate increases, or whether it will only use ambiguous language to prioritize flexibility in policy to address inflation risks in the “The future will be important in assessing the order of the BOJ's monetary policy priorities,” they added.

Reuters reported that if the BOJ abandons negative rates, it will likely also abandon the yield curve control policy that guides the 10-year Japanese government bond yield around 0% with a 1% cap.

Instead, the Japanese central bank will likely offer numerical guidance on how many government bonds it will buy to avoid causing market disruption, Reuters reported, citing sources familiar with the matter.

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