Just six weeks ago the Bank of Japan (BOJ) stunned financial markets, announcing that it would apply a negative interest rate to a proportion of funds deposited at the bank by financial institutions.
Now, after a less-than-impressive reception from financial markets to the announcement, the BoJ will be back in focus this week with the bank scheduled to announce its latest monetary policy decision at some point on Tuesday afternoon AEDT.
According to Izumi Devalier, an economist at HSBC, while it’s unlikely that the BOJ will add to monetary stimulus at the conclusion of this meeting, the poor reaction to the bank’s negative interest rate policy, known as NIRP, will add pressure on the bank to ease policy further via increased asset purchases, most likely at the bank’s next policy meeting in late April.
“We now expect easing at the 28 April monetary policy meeting,” says Devalier. “We had previously expected the Bank of Japan to wait until July to deliver further easing in the form of additional rate cuts. But Governor Kuroda faces greater urgency to take action to avoid confidence in the central bank from slipping further given the market and private sector’s poor reaction to January’s negative rates announcement.”
While Devalier points out that the BoJ’s negative interest policy has helped to lower interest rates across the Japanese yield curve, something that the bank foresaw in its January 29 statement that explained the rationale for adopting NIRP, that economic benefit has been largely offset by renewed strength in the Japanese yen, weakness in Japanese stocks, a deterioration in consumer and business confidence along with “the private sector’s overwhelmingly negative perception of the (policy)”.
Here’s what Devalier describes as the “good news” for the BoJ, the decline in Japanese bond yields.
And here’s what he describes as one of the “bad news” stories for the bank, the under-performance of Japanese stocks so far in 2016. The Nikkei 225 and TOPIX indices are only beaten out of last place by China’s equity market.
Given the underwhelming market response from stocks and yen, Devalier suggests that instead of cutting interest rates even further into negative territory in upcoming meetings, the BoJ is more likely to expand its asset purchase program, known as QQE.
“Expect more quantitative and qualitative easing,” says Devalier. “Governor Kuroda will likely want to refute the idea that the central bank is reluctant to expand its balance sheet more aggressively, either in terms of size or risk. We therefore think the central bank is likely to announce a ‘quantum leap’ in risk asset purchases when it likely downgrades its growth and inflation forecasts in April.”
Devalier suggests that the BoJ will likely increase its QQE program by 10 trillion yen to an annual pace of 90 trillion yen (US$790 billion) at this meeting, although, given previous form in surprising financial markets, he attaches a 20% probability of this decision being brought forward to tomorrow’s policy decision.
Alongside the expected increase in the bank’s QQE program, Devalier is also forecasting a further reduction interest rates, just not until the latter parts of the year.
“Our impression is that the central bank still believes that its negative deposit rate scheme is effective in the long run, and that markets have over-reacted,” says Devalier. “That said, we do think the central bank will be much more cautious about taking deposit rates lower in the near term.
“As a result, we now think that the central bank will not announce the next cut – to -0.3% – until November 2016.”
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