The bond market is growing more concerned that a new administration led by opposition leader Shintaro Abe calling for unlimited easing will stoke inflation and weaken the nation’s finances.
The extra yield that investors demand to own 30-year Japanese government debt rather than 10-year securities climbed to 123 basis points Friday, the widest since March 2008. Longer bonds tend to be more sensitive to the inflation outlook and default risk. A similar spread for U.S. Treasuries has fallen 1½ basis points to 115 basis points this month.
Abe, head of the Liberal Democratic Party leader Abe and who polls show is favored to become the next prime minister after the Dec. 16 election, called last week for “unlimited” provision of cash by the Bank of Japan and benchmark interest rates below zero until inflation reaches 3 percent and the yen weakens.
Eighteen out of 22 economists surveyed by Bloomberg News expect the BOJ to boost stimulus by January to support an economy weakened by slumping exports.
“The political pressure for more easing will intensify to another level,” said Yuichi Kodama, chief economist at Meiji Yasuda Life Insurance Co. “The BOJ will have to bolster stimulus every three or four months at least and investors in the bond and currency markets are starting to price that in.”
Yields on benchmark 10-year JGBs were little changed at 0.735 percent Monday, 1½ basis points from this year’s low, and the least in the world after Switzerland and Hong Kong. The 30-year rate last week climbed 3½ basis points, or 0.035 percentage point, to 1.95 percent.
Sixteen out of 22 economists, including those at Nomura Holdings Inc. and Credit Suisse Group AG, predict the BOJ will add to stimulus in December, while two expect easing in January, according to the Bloomberg survey. All 22 expect the bank to stand pat Tuesday, three weeks after boosting asset purchases by ¥11 trillion to ¥66 trillion.
“Shorter yields are falling on expectations the BOJ will feel pressure to ease policy,” Meiji Yasuda’s Kodama said. “Longer yields will tend to rise as the market prices in inflation and a worsening in Japan’s fiscal health.”
The nation’s five-year bond yields dropped to 0.175 percent on Friday, the lowest since Aug. 6.
The yen touched 81.59 per dollar Monday in Tokyo, the weakest since April 25, after depreciating 2.3 percent last week. A depreciation in the currency tends to boost import prices and weigh on longer bonds.
After Prime Minister Yoshihiko Noda called for an election next month, three-month options showed a record premium for dollar calls, which grant the right to buy the U.S. currency against the yen, over puts, which confer the right to sell. The 25-delta risk reversal rate, which measures the difference between implied volatility on similar puts and calls, reached 0.965 percent Monday in Tokyo.
The yen slid after Abe said the BOJ should target a policy rate of zero percent or lower, from the current 0.1 percent to zero. A negative rate suggests that banks would be paid to borrow from the BOJ. Abe said he would choose someone who is in favor of inflation targets as the next BOJ governor, Kyodo reported.
In a poll published last week by the Asahi Shimbun, 29 percent of respondents said they would vote for the LDP if an election were held now, while 12 percent picked Noda’s ruling Democratic Party of Japan. The Lower House was dissolved Friday for the Dec. 16 election.
Not all analysts are convinced Abe as head of the government would be able to push the central bank to introduce more aggressive monetary easing measures.
“Abe’s monetary policy proposals are unrealistic and raise questions about how much he knows what he’s talking about,” said Mari Iwashita, a bond strategist at SMBC Nikko Securities Inc., one of the 25 primary dealers obliged to bid at government debt sales. “Abe will probably have to soften his tone if he actually becomes prime minister, and then investor expectations will deflate like a balloon.”
Abe’s proposed 3 percent inflation target compares with the BOJ’s own 1 percent goal. Consumer prices haven’t increased by more than 3 percent since 1991, right after the asset bubble burst and led to two decades of stagnant economic growth.
BOJ Gov. Masaaki Shirakawa told reporters last month the average inflation rate during the bubble years from 1986 to 1990 was only 1.3 percent, and even a 2 percent target for price increases may cause bond yields to rise.
Elsewhere in Japan’s credit markets, Orix Corp. will sell ¥35 billion in five-year, 0.725 percent notes for individual investors, the leasing company said in a filing with the Finance Ministry on Friday. Department store operator Marui Group Co. offered ¥10 billion in five-year, 0.57 percent securities and ¥5 billion in seven-year, 0.85 percent bonds, according to a statement from Nomura last week.
Japan’s company debt has handed investors a 0.12 percent loss since September, compared with a 0.12 percent return for the nation’s sovereign notes, according to Bank of America Merrill Lynch data. Company securities worldwide have gained 1.38 percent, according to the data.
The extra yield that investors demand to own two-year U.S. Treasuries instead of similar-maturity Japanese bonds narrowed to 13.8 basis points on Friday, the least since Oct. 3, according to data compiled by Bloomberg. Shirakawa has said the gap has a relatively high correlation with the dollar-yen rate.
Higher interest rates could make it more expensive for the government to service the world’s largest debt. The nation’s borrowings will probably expand to 250 percent of economic output in 2017 from 237 percent this year, according to International Monetary Fund estimates. Greece’s ratio will be 171 percent in 2012, according to the IMF.
The government last week downgraded its assessment of the economy for the fourth month, the longest streak since 2009 during the global financial crisis.
“I can’t help thinking that the BOJ’s monetary policy isn’t decided by the outlook for the economy and prices,” said Ryutaro Kono, chief economist at BNP Paribas SA, whose nomination as a BOJ Policy Board member was rejected by the Diet in April. “Many market participants must monitor the degree of political pressure when forecasting the BOJ’s next step.”
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