Global investors are bracing for days of uncertainty as the Bank of Japan (BoJ) makes a landmark shift in its monetary policy, allowing bond yields to rise more freely. The decision, announced by Kazuo Ueda, the BoJ’s new governor, has implications for bond, currency, and equity markets and marks a significant step towards unwinding decades of ultra-accommodative monetary policy.
The BoJ’s move involves loosening its grip over the benchmark 10-year Japanese government bonds, effectively doubling the trading range for yields of long-dated debt. This comes as a surprising change from the central bank’s previous yield curve control policy, which has set Japan’s central bank apart from global peers for seven years.
UBS chief Japan economist Masamichi Adachi remarked, “This is ‘de facto’ abolishment of yield curve control, at least for the time being.” The decision widens the band within which 10-year JGB yields would be allowed to trade, moving from 0.5 percent to 1 percent, while the bank will officially retain its 0.5 percent cap on yields as a “reference.”
While this decision opens the way for potential shifts in Japan’s status and global investment flows, investors should not immediately interpret it as a tightening move by the BoJ. The relaxation of the yield band serves as a signal of the rising risk of inflation and long-term distortions in bond markets. The BoJ has clarified that its overnight interest rate will remain at minus 0.1 percent, making Japan the only country to maintain negative rates. Furthermore, the central bank has called for more time to achieve its 2 percent inflation target.
Veteran BoJ watchers cautioned against assuming a full-blown tightening by the central bank. As long as short-term rates remain negative, there are limits to how far the 10-year yield can rise.
The announcement initially stirred investor confusion, but the BoJ took steps to mitigate market volatility by announcing unscheduled purchases of ¥300 billion ($3.2 billion) of 5- to 10-year government bonds. As a result, the 10-year JGB yield was mostly flat on Monday, reaching as high as 0.572 percent before settling back. Analysts believe the yield is unlikely to breach the new ceiling of 1 percent.
The BoJ’s move is seen as a definitive step towards policy normalization after years of deflation and economic stagnation and seven years of negative interest rates. However, most experts do not expect the central bank to abandon negative interest rates until next year, when it forecasts inflation to fall back below its 2 percent target.
The decision also takes into account the recent volatility of the yen against the dollar. While the psychological significance of the move is high, currency analysts predict brief currency volatility but do not foresee a lasting change to the yen’s weakness.
Overall, the BoJ’s decision is seen as a balancing act as it buys time to assess wage growth and its sustainability into next year. Investors and markets will closely monitor the central bank’s future moves and their potential impact on Japan’s economy and global investment trends.
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