In an era of prodigious fiscal feats, the sum is nothing short of astounding: $11,700 billion, a figure equivalent to a staggering 2.8 times Japan’s annual economic output. Such was the capital deployed by Haruhiko Kuroda, the erstwhile governor of the nation’s central bank, on government bonds, exchange-traded funds, and corporate loans over a decade. Mr. Kuroda’s objective was to engender sufficient economic momentum so that inflation would consistently achieve 2% per annum, thereby warranting a patchy credit environment in Japan.
This week, Kazuo Ueda, Mr. Kuroda’s successor at the Bank of Japan (BoJ), conveyed during his inaugural press conference that despite currency devaluation surpassing its target for nearly a year, he remains unconvinced that a 2% inflation trend has been established. Consequently, ultra-accommodative monetary policy shall persist. Mr. Ueda noted that a more extensive evaluation of Japan’s wage stability is warranted before drawing conclusions. If wages fail to match inflation, he implied that the current inflationary episode might be ephemeral.
Thus, the status quo remains intact for now, with a marginally negative policy rate and yield curve control enduring as before, allowing for a maximum deviation of 50 basis points from the 10-year interest rate. However, the esteemed academic Mr. Ueda, who served as the BoJ’s director a quarter-century ago, left an indelible and innovative mark on the institution. He cautioned against delayed normalization of monetary policy, which would necessitate sizeable policy adjustments commencing well ahead of time.
For months, market participants have speculated that under the new governor’s tenure, the BoJ might abandon its yield curve control, primarily because of its distortionary effects. Japan’s government debt now surpasses that of any other developed nation, with the BoJ owning 70% of all five-year government bonds and over 80% of outstanding 10-year bonds. Analysts contend that the bond market has ceased providing accurate signals to the nation’s credit markets. Therefore, it is only a matter of time before the BoJ inevitably alters its course.
For instance, Hideyuki Ishiguro, a strategist at Nomura Asset Management, postulated that Mr. Ueda might refine yield curve controls during the upcoming policy meeting scheduled for this month’s end. The central banker’s silence on this matter thus far, he suggests, is to prevent traders from taking speculative positions prematurely. A similar episode occurred following the unanticipated adjustment of the 10-year interest rate bandwidth late last year (from 25 to 50 basis points), which compelled the BoJ to intervene substantially as speculators tested the range’s upper limit.
Acknowledging the complexity of the BoJ’s monetary framework, Mr. Ueda commented during his first press conference, “As far as the technical aspects are concerned, we can handle it sufficiently. The important thing is to accurately assess developments and carefully time the most appropriate policy action.”
The International Monetary Fund (IMF) highlights that Japan’s monetary policy decisions could have worldwide reverberations. Mr. Kuroda’s decade-long monetary policy regime has resulted in vast amounts of Japanese capital being invested overseas to capitalize on higher interest rates. Per IMF data, by the end of 2020, Japanese institutional investors managed a foreign investment portfolio of approximately $5,000 billion—double the pre-2008 financial crisis figure.
A partial repatriation of these funds would trigger significant foreign exchange fluctuations and unsettle bond markets. The IMF’s latest Global Financial Stability Report cautions that Japanese investors hold substantial government bond holdings from countries such as Australia, France, the Netherlands, the United Kingdom, Spain, and Italy. If these bonds were to be liquidated, their value could plummet, causing interest rates to rise. Furthermore, the IMF indicates that risk premiums on corporate loans could escalate globally.
In light of recent banking turbulence, the IMF has investigated potential threats to the international financial system, including a sudden shift in direction by Japanese investors. Despite Japan’s financial system being notably stable and capable of absorbing shocks, Mr. Ueda remarked, “We have seen hidden vulnerabilities emerging abroad. I hope to establish a close dialogue with financial institutions and seek close coordination with foreign counterparts.”
