BOJ readies for liquidity squeeze with T-bill yields below zero


The Bank of Japan is becoming increasingly concerned its massive government bond purchases are drying up market liquidity, six months after investors warned that conditions were deteriorating.

The BOJ this week expanded its liquidity-providing facility to include treasury bills, whose yields below zero across maturities ranging up to one year point to demand that far outweighs supply.

A sale of three-month securities Thursday produced a negative average yield for an eleventh straight auction since June. The amount of T-bills circulating in the market contracted to the least since the central bank unveiled record stimulus in April 2013, according to Totan Research Co.

Policy board member Takahide Kiuchi said Thursday the side effects of the BOJ’s program are increasing, and will be difficult to handle. A day earlier, Deputy Gov. Hiroshi Nakaso said the central bank is monitoring to see whether quantitative easing is undermining liquidity. Ninety-five percent of respondents in the central bank’s inaugural investor survey in February said market functioning was either low or not very high, and three-quarters said conditions had worsened.

“The fact that the BOJ added T-bills to their liquidity operations signals they are getting ready for an emergency situation,” said Toshiaki Terada, a Tokyo-based researcher at Totan. “T-bills can’t be traded in the market now even if you want to buy them, and nobody finds that worrying anymore. If you think about it rationally, there’s something wrong with that.”

Terada estimates that the supply of T-bills in the market shrank 28 percent to ¥80.4 trillion in Aug. from ¥111.7 trillion in March 2013, the month before BOJ Gov. Haruhiko Kuroda launched his asset-purchase program.

The Ministry of Finance issued ¥152 trillion of T-bills as of the end of June, the latest month for which it published data. Totan calculates that only about half were available in the market for trading.

The BOJ refrained from adding to T-bill purchases when it expanded asset buying on Oct. 31. Earlier that month a dearth of paper maturing in less than a year prevented it from reaching its target for purchases of the securities from the market for the first time since the program started.

The two-year note did not trade on Thursday and remained untraded as of 10:22 a.m. Friday in Tokyo, according to data from Japan Bond Trading Co., the nation’s largest inter-dealer debt broker.

“The BOJ owned about 90 percent of the newly issued six-month T-bills in Aug., and it’s similar for one-year paper,” said Akito Fukunaga, the chief Japan interest-rate strategist at Barclays PLC in Tokyo. “The market is reaching its limit.”

Deputy Gov. Nakaso said at a conference in Jakarta that the central bank’s bond purchases have affected the market but have not disrupted its function as a whole or to the extent that it makes continuation of the measure difficult.

That echoed comments from Kuroda a week earlier in New York.

“So far, the financial system in Japan has been very solid, sound and stable,” the BOJ head said. “We will continue to carefully monitor the financial market and so on and so forth, but I am relatively confident that the potential cost would be quite small compared with the importance of achieving price stability in Japan.”

The central bank chief said current policy settings are sufficient to achieve his target of stable 2 percent inflation around the middle of 2016, while adding there are “many options” should more stimulus be needed.

From the Federal Reserve to the Bank of England and the European Central Bank, policy-makers in recent times have been snapping up their governments’ debt to support the economy. While the BOJ’s share of outstanding Japanese government bonds stood at 26.5 percent as of the end of March, the BOE held about 31 percent of the gilt market after conducting several rounds of quantitative easing between March 2009 and July 2012. ECB President Mario Draghi said Thursday he stands ready to expand Europe’s program if necessary.

Forty-three percent of economists do not expect the BOJ to expand stimulus, the most popular answer in a Bloomberg survey conducted from July 27 to Aug. 3. The central bank next sets policy on Sept. 15.

“Kuroda has done so much — he’s done two rounds of QE — and it’s very clear that he doesn’t want to do a third round,” said Stephen Jen, a London-based managing partner at SLJ Macro Partners LLP and a former International Monetary Fund economist. “He realizes that it’s actually a little dangerous to keep doing it.”