TOKYO -- The Bank of Japan's negative rate policy is a growing source of frustration for domestic banks, which have seen their earnings deteriorate while foreign investors make easy profits at their expense.
Driven to despair
"Summary of Opinions at the Monetary Policy Meeting on June 15 and 16, 2016," which the BOJ released June 24, offers a fascinating glimpse into how thinking on the unconventional policy is split even among the bank's own ranks. One board member noted during the two-day session that the central bank's easy money policy is ending up helping foreign investors.
The member's opinion highlights the negative side of portfolio rebalancing as Japanese financial institutions rejigger their investments amid an unprecedented level of monetary easing.
In an ideal situation, banks rotating out of Japanese government bonds should help revitalize the real economy by providing more liquidity via increased lending and stock investment. In a low-growth environment, such as Japan finds itself in now, however, there is not sufficient demand for funds even if banks are willing to lend. As a result, Japanese financial institutions have been pouring massive amounts of money into foreign bonds.
Such buying would help the Japanese economy if it drives down the yen, as financial institutions sell off yen to obtain foreign currencies to buy the bonds. But in reality, Japanese banks hedge currency exchange risk by taking out forward exchange contracts. This means that increased foreign bond purchases don't create downward pressure on the yen.
Meanwhile, an unexpected side effect has emerged. The cost of procuring dollars has surged in the basis swap market, where Japanese banks go to obtain dollars for investing in foreign bonds. The flip side of Japanese banks having to pay premiums to get their hands on dollars is foreign banks making handsome profits through lending.
The issue came up multiple times during a round-table meeting with life insurers and other institutional investors that the Ministry of Finance hosted on June 27.
"In a way, overseas investors are reaping the benefits of the negative interest rate policy. It is not desirable for the current situation to continue," said one person who attended the meeting.
Negative interest rates have now spread to ultra-long bonds, with even 20-year JGBs changing hands at negative yields. Only certain types of players, such as speculators and foreign investors who can make hefty profits through basis swap transactions, can continue to take part in such a market.
Japanese banks are at their wit's end, seeing the BOJ's policy depressing their earnings by forcing portfolio rebalancing while creating sweet deals for foreign investors.
BOJ Gov. Haruhiko Kuroda is unsympathetic. "Monetary policies are for the benefit of the Japanese economy overall, not for financial institutions," said Kuroda in a news conference on April 28.
But market players are becoming skeptical that the BOJ's policy can produce benefits that outweigh the damage wrought by negative side effects.