Japan’s attempts to revive anemic consumer spending through unconventional monetary policy have created new problems for the central bank in its daily dealings with financial markets, as rising global yields muddle its efforts to manage local rates.
Introduced in September last year, the Bank of Japan’s yield curve control program — the latest in a long series of controversial moves — was designed to keep shorter-dated bond yields lower while allowing longer-dated yields to rise, in theory, making lending more profitable for banks.
The BOJ has put the job of controlling yields in the hands of a small group of relatively junior bureaucrats, who have no say on monetary policy but execute the board’s orders through daily transactions in the interest rate markets.
However, the sometimes contradictory market operations directives are sowing confusion over the BOJ’s intentions, creating tension between the central bank and the market and underscoring the challenges of its unprecedented policy.
“What’s clear is that market players don’t hold trust in the BOJ,” said Mari Iwashita, chief market economist at SMBC Friend Securities. “If there was trust, things wouldn’t be this messy.”
Bond prices whipsawed this year after the BOJ made several abrupt changes in its market operations as it struggled to keep global yield rises, driven by hopes for U.S. President Donald Trump’s economic growth policies, from pushing long-term rates up too steeply.
“It’s true, controlling long-term rates is an unprecedented policy,” BOJ Deputy Gov. Hiroshi Nakaso told reporters last week, acknowledging that the bank was still learning how best to communicate its intentions to markets. However, he believes the BOJ has the necessary “skill and tools” to control yields.
Market players aren’t convinced, complaining about the lack of clarity on how the BOJ wants to guide long-term rates.
“So many things are unclear, such as at what level the BOJ will step in to curb yield rises,” said a money market trader in Tokyo.
A domestic bond market investor said “a lot of market players got burnt” from the volatility caused by the BOJ, which could discourage investors and dealers from trading actively.
Both market players spoke on condition of anonymity as they were not authorized to speak to the media.
Japan has failed to pull the economy sustainably out of deflation despite flooding markets with cash for two decades under an ultraloose monetary policy.
BOJ Gov. Haruhiko Kuroda deployed a radical stimulus program in 2013 in the hope of breaking the deadlock, but with little success.
Under the yield curve control framework, the BOJ seeks to control the yield curve by targeting short-term rates at minus 0.1 percent and the 10-year yield around zero.
The task of capping long-term rates, a feat never tested by a major central bank, is entrusted to a team of around 40 staff running the BOJ’s market operations.
A handful of junior-ranking bureaucrats in the team, mostly in their 40s, decides when, how and to what degree the BOJ offers to buy bonds. Guidance from the board is vague and kept at a minimum to allow the team to respond flexibly to daily market moves.
However, market participants say this ambiguity causes confusion as the bureaucrats, mandated to meet the board’s orders, do not focus much on the impact of their moves on the broader economy.
The BOJ’s task is also made difficult by the conflicting goals embedded in the new framework. While targeting rates, the BOJ maintains a loose pledge to buy bonds at a set pace to appease advocates of aggressive asset purchases in the board.
The BOJ has caught markets off-guard several times. Yields spiked when it skipped a much-anticipated auction in January, stoking fears it may soon taper asset purchases. It then offered to buy unlimited amounts of bonds on Feb. 3, when the 10-year yield spiked to 0.15 percent.
BOJ officials say they have no plan to offer more specific guidance on their market operations, and stress their dominance in the market gives them enough power to suppress yields.
“Communication is important. But that doesn’t mean the BOJ should meet each and every request from the market,” said a source familiar with the central bank’s thinking.
Some analysts doubt whether the BOJ could keep battling market forces if global yields continue to rise, particularly with its massive bond purchases seen as unsustainable.
Brightening prospects for the economy, usually good news for policymakers, could also heighten the BOJ’s challenges in capping bond yields.
The economy expanded for four straight quarters in 2016 thanks to a rebound in global demand while analysts expect inflation to accelerate to near 1 percent later this year, which could push up yields.
Sayuri Shirai, who served on the BOJ’s board from 2011 to 2016, said the central bank’s policy in its current form is confusing and causes big market distortions.
“To make the framework more sustainable, it’s better to raise the yield target and gradually reduce bond purchases,” Shirai said in an interview on Wednesday.
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