End of the BoJ NIRP Era

Summary

• The BoJ ended NIRP, as we expected. They also ended YCC and discontinued ETF and J-REIT buying. JGB purchases will continue.
• Another dose of tightening requires the median CPI forecast to avoid revision lower. Meanwhile, bond-buying tapering and balance sheet reduction are coming, but the BoJ do not know whether they will come before or after the next hike.
• Long term, we still expect a small tightening cycle with the BoJ intending to keep the real policy rate deeply negative.

Market Implications

• USD/JPY is unlikely to exceed all-time highs.

BoJ Ended NIRP

The Bank of Japan (BoJ) ended NIRP, as we expected. We learnt that the next dose of tightening requires the median CPI forecast to remain at least unchanged, though there is no guarantee if tightening precedes a tapering in bond buying or a balance sheet reduction. Longer term, we still think the tightening cycle is likely to be small.

Other Policy Changes

While the end to the BoJ’s NIRP was headline news, it was one of seven changes. In total, they:

1. Ended NIRP (Vote: 7-2 – Nakamura and Noguchi).
2. Moved TONA to 0-0.1%.
3. Ended YCC (i.e., removed 10Y cap).
4. Continued purchases of JGBs (vote: 8-1 – Nakamura).
5. Discontinued ETF and J-REIT buying (vote: unanimous).
6. Announced a gradual reduction in purchases of CP and corp. bonds. They will be discontinued in roughly one year (vote: unanimous).
7. Changed the interest rates applied to the lending facility, reconstruction related operation, and climate fund operation (vote: unanimous).

So, What Is Next for the BoJ?

Governor Ueda’s presser told us it will take a CPI overshoot, or, at a minimum, the median CPI forecast to avoid downward revision to prompt a likely change in policy. And while the BoJ are open to increasing the policy rate, it must remain far below r*/the real rate must remain deeply negative.

Also, the BoJ acknowledged the balance sheet will eventually shrink. However, they ‘can’t specify now when that will happen’. However, there is no guarantee whether the next hike will precede a tapering in bond-buying or balance sheet reduction, or vice versa.

Longer term, the BoJ are unlikely to deliver a strong dose of policy tightening over the next two years. This is due to ‘extremely high uncertainties surrounding Japan’s economic activity and prices’ and CPI only above 2% because of higher import prices and easing government support. Instead, the BoJ want further ‘materialization of pent-up demand’ with inflation expectations returning to 2%, which leads to stronger services inflation and wage-setting behaviour.

Impact for JPY

USD/JPY is back to 150. The yen weakened around the release to the level for the first time in just under two weeks. Trading like a carry trade, USD/JPY has been prone to sharp drops and grinds higher. So, could USD/JPY grind higher from here? There are two issues with that:

1. The JPY value trade remains a consensus trade (largely against USD and CHF) with reverse RKOs around the 152/153 level popular. So, until the trade is called off (or structures are hit), we could remain capped in this current range.
2. It is clear the BoJ want domestically driven inflation, not imported inflation. Imported price measures remain strongly correlated to USD/JPY, so further commentary from the MoF is likely.

Ben Ford is a Researcher at Macro Hive. Benjamin studied BSc Financial Mathematics at Cardiff University and MSc Finance at Cass Business School, his dissertations were on the tails of GARCH volatility models, and foreign exchange investment strategies during crises, respectively.

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)