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Speculation rife over BOJ's easy-money exit

Recent reports suggest a sooner end, but bank puzzled by prediction

The Bank of Japan has yet to shed light as to when it is going to exit from its easy money policy.   © Reuters

TOKYO -- Investor speculation is growing that the Bank of Japan is seriously weighing an exit from its ultra-easy monetary policy.

Goldman Sachs Japan and BNP Paribas Securities (Japan) have noted that recent reports from the BOJ point to the central bank leaning toward an exit strategy sooner rather than later. "The BOJ's narrative on the effects of monetary policy had been bullish, but the tone seems to have changed significantly since this fall," said Goldman Sachs' Naohiko Baba in a Nov. 12 report.

Baba cites a paper titled "Do Market Segmentation and Preferred Habitat Theories Hold in Japan?: Quantifying Stock and Flow Effects of Bond Purchases," co-authored by two employees of the bank's Monetary Affairs Department.

According to a simulation in the paper, the total amount of bonds held by the BOJ -- or "stock effects" -- contributed to more than 90% of the reduction in long-term interest rates from bond purchases, and that the size of bond purchases during the simulated period -- or "flow effects" -- contributed relatively little.

In other words, according to the report, even if the BOJ reduces its government bond purchases, the effects of monetary easing will continue as long as the bank maintains a certain amount of JGB holdings -- an argument that seems to support tapering.

Another report released earlier this month by Junko Koeda, visiting scholar at the bank's Institute for Monetary and Economic Studies, also analyzed the effects of easing.

In the report, Koeda presented two scenarios: One has the BOJ raising the lower limit of its policy interest rate to 0% from the current minus 0.1%, while the other shows the BOJ lowering its inflation target of at least 2% to 1% or more.

In the first scenario, Koeda sees inflation rising sooner and faster than an increase in interest rates, which would result in lower real rates, stimulating the economy and having a positive effect on prices. In the second scenario, the author found that the change in forward guidance would not negatively affect inflation or output.

In either scenario, ending negative interest rates would rather be a plus for economic activity and prices, Koeda's report said.

Both reports noted that the views did not reflect official BOJ policy or thinking.

Still, that they were even released drew the attention of market players, who have become skittish regarding the timing of the BOJ's exit, especially following moves by the U.S. Federal Reserve and European Central Bank.

The summary of opinions of the Oct. 30 and 31 monetary policy meetings, released by the BOJ on Nov. 8, also drew attention. "Attention should be paid to whether the positive effects on inflation expectations will diminish instead if the target level of long-term yields is maintained at around zero percent for a long time," one policy board member said.

"It is important to consider ... such factors as the range of yield movement and the target maturity of JGBs in conducting yield curve control, while maintaining the framework of monetary easing," the member added.

This is only the opinion of one policy board member, but it indicates that the bank has already begun discussions about an exit.

BOJ Gov. Haruhiko Kuroda seems to have hinted as much. During a speech in Nagoya on Nov. 5, he compared Japan's current economic activity and prices with those from five years ago, when the bank began quantitative and qualitative easing. "Japan's economic activity and prices are no longer in a situation where decisively implementing a large-scale policy to overcome deflation was judged as the most appropriate policy conduct, as was the case before," he said.

BOJ Gov. Haruhiko Kuroda has yet to say what direction the central bank will eventually take.   © Reuters

Taken alone, this comment implies that Japan will no longer require massive easing in view of current economic activity and prices, while Kuroda noted that the bank would continue its present accommodative policy.

"With regard to the risk balance, risks to both economic activity and prices are skewed to the downside," the BOJ also said in its quarterly "Outlook for Economic Activity and Prices" report released at October's policy board meeting.

Amid uncertainties facing the global economy and Japan's looming consumption tax hike in October 2019, this does not seem like the right time for the BOJ to change its ultra-easy monetary policy. Moreover, the BOJ itself seems puzzled that market watchers are reading so much into the spate of reports and Kuroda's remarks.

Kuroda himself is expected to deny reports about an early exit at a news conference following the last board meeting of the year on Dec. 19.

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