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Economy

Japan's long-term rates fall again, negating BOJ actions

Downturn in US yields combines with shrinking pool of bonds

A shrinking pool of Japanese government bonds available for trading has constrained the central bank's bond-buying program. (Photo by Takaki Kashiwabara)

TOKYO -- Long-term interest rates in Japan have sunk to levels not seen since before the central bank tweaked its monetary easing policy in July, tracking the descent in U.S. Treasury yields in recent weeks.

A shrinking pool of Japanese government bonds available for trading in the secondary market -- a consequence of the Bank of Japan's massive purchases of these bonds -- is also contributing to the downward trend and is sapping the ammunition needed for the bank to combat deflationary pressures.

U.S. Federal Reserve Chairman Jerome Powell said in late November that policy rates were below a neutral level, that is "neither speeding up nor slowing down growth." That triggered speculation that the Fed will take a break from raising rates, with Treasury yields dropping to 2.8% from 3.2%.

In turn, the yield on benchmark 10-year JGBs went from around 0.1% a month ago to 0.025% on Friday -- a five-month low. Monday's trading maintained the same level.

The BOJ decided on July 31 to add more flexibility to how it guides long-term rates. The bank, which had used bond purchases to essentially cap rates at around 0.1%, raised that ceiling to about 0.2%.

By allowing rate fluctuations over a wider range, the BOJ sought to address market functionality issues concerning JGBs. If more investors trade bonds, the yield would more easily fall in line with economic conditions, goes the thinking. If JGB yields rise, that would elevate interest rates on loans, and boost earning at lenders. In that scenario, the side effects of the ultraloose policy would ease.

But the retreat of the benchmark yield to levels prior to the BOJ's tweaks all but negates the goals of the policy adjustment. The situation reflects the unique position of Japan's JGB market, where there is a dearth of JGBs available for trading.

The BOJ held 471 trillion yen ($4.17 trillion) worth of JGBs on Dec. 10, or nearly half the value of all those issued. At the same time, ownership of the debt in the private sector has ebbed, and JGB trading "fell by 30% to 40% compared with August," a source at a Japanese brokerage said.

A decline in interest rates tends to encourage private-sector players to sell JGBs -- whose prices move inversely to yields -- to lock in profit, but such selling is declining. That the government is expected to reduce its issuance of government bonds next fiscal year is adding to the downward pressure on rates.

Financial institutions are holding onto a smaller pool of JGBs. They sold 17.6 trillion yen in bonds in the BOJ's bond-buying operations in November, compared with about 25 trillion yen a month in the first half of this year.

The BOJ is expected to maintain its monetary policy at a two-day board meeting starting Wednesday. The bank is facing a greater policy management challenge amid sluggish prices and difficulty expanding bond purchases.

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