Portfolio Adviser • October 2016 • Mixed Response To BoJ Stimulus

. Bank launches ‘yield curve control’ imposing short-term rate on 10-year bonds

What’s the story? The Bank of Japan unveiled a new form of stimulus, but professional investors and economists reacted with mixed enthusiasm.

The launch of ‘yield curve control’ by the BoJ involves imposing the short-term rate on the longer-term 10-year part of the curve. This is combined with making a fresh commitment to keep stimulus measures in place until inflation beats the 2% target rate.

The central bank also said it was relaxing the target of expanding the monetary base by ¥80trn a year, in favour of a flexible total.

PA viewpoint Markets also had a positive but unspectacular reaction to the announcement. Japan’s Nikkei 225 closed 1.9% up at 16,807 on 21 September, which suggests the move had some merit in the eyes of investors, but it is far from a catch-all solution.

It makes a lot of sense for the Bank of Japan to push the envelope, given that its QE efforts have not had the desired impact so far. However, this is not without risk.

When the function of a monetary policy tool is not clear, the more it is used the less its effects in both the short and long term are understood.

We are already in unchartered territory with Japan’s stimulus efforts and the latest move is taking us even further off the map.

What the industry thinks Trevor Greetham, head of multiasset at Royal London Asset Management, said the Bank of Japan’s move represented “helicopter money in all but name”, and that it was supportive of RLAM’s overweight stance in Japanese equities.

“Japan has been suffering from excessive debt and deflationary pressure for longer than any other developed market, so we should watch new policy developments in Tokyo with interest,” Greetham said.

“The announcement makes it clear that the authorities are going down the route of explicit financial repression, boosting nominal growth while keeping interest rates near zero at all maturities. The idea is to transfer wealth from savers to borrowers, the government included, to reduce debt burdens and wipe the slate clean.”

Mitul Patel, head of interest rates at Henderson Global Investors, noted: “The Bank of Japan’s decisions overnight mean it now believes they have three levers to pull: overnight interest rates, the size of the balance sheet and the 10-year yield.

“In practice, since it cannot set all three variables, there may be trade-offs involved.

“If, for example, 10-year yields remained stable with significantly fewer JGB purchases, this may make it more difficult to meet the balance sheet expansion targets.”

The Bank of Japan also passed on the opportunity to take rates more negative at this juncture, though this may yet be revisited at future meetings.

The initial market response led to a weaker yen, stronger Japanese stock markets and higher JGB yields.

“It is, however, tough to see how the latest announcement is anything more than an adjustment to the current programme,” Patel said.

“Without anything radically new or bold, the BoJ’s 2% inflation target continues to look aspirational rather than likely.”

‘There will be the odd shock and people will run for the hills. But they will come back’

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