Japan: Policy normalisation delayed
The April 26 BOJ meeting did not provide clarity on further policy normalisation.
Group Research - Econs, Ma Tieying29 Apr 2024
  • The BOJ’s upward revision of FY24 core CPI forecast reflects oil price increases and yen depreciatio
  • The revision of FY26 core-core CPI signals confidence in achieving 2% inflation in the longer term.
  • We are revising up our 2024 CPI forecast to 2.2%; our 2025 CPI forecast is also lifted to 1.6%.
  • We maintain our forecast for the BOJ to deliver the first rate hike in April 2025, from 0.1% to 0.25
  • We expect the BOJ to hike rates by 25-50bps per year, taking 2-4 years to reach 1.00%.
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During the April 26 meeting, the Bank of Japan (BOJ) maintained the uncollateralized overnight call rate at 0-0.1%. In terms of asset purchases, the BOJ stated its intention to continue purchasing JGBs, CP, and corporate bonds in line with the decisions made at the March policy meeting.

The BOJ published revised forecasts, with the FY24 core CPI forecast raised to 2.8% from 2.4%, and the FY25 core CPI forecast increased to 1.9% from 1.8%. Additionally, the BOJ set the FY26 core CPI and core-core CPI forecasts at 1.9% and 2.1%, respectively.

The BOJ's stance on rate hikes and QT in the immediate term remains unclear. While the BOJ is nearing the end of QE, indicated by its consistent holdings of JGBs around JPY580-590tn for the past 15 months, historical precedence suggests a significant gap between tapering and QT or rate hikes. In the mid-2000s, the BOJ maintained its JGB holdings at JPY62-67tn for nearly 30 months before announcing the end of QE in March 2006, followed by a 25bps rate hike to 0.25% in July 2006.

The upward revision of FY24 core CPI forecasts mainly reflects increases in oil prices and yen depreciation, which does not indicate imminent rate hikes and QT within this year. Current momentum suggests that core CPI may drop to around 1.5% YoY in 3Q-4Q. However, given the recent rise in global oil prices and depreciation of the yen, core CPI could rebound to 2-3% YoY in 4Q. Our regression model suggests that a 10ppt rise in Brent oil prices results in a 0.1ppt rise in Japan’s core CPI, while a 10ppt rise in USD/JPY leads to a 0.3ppt rise in core CPI, with a 9-month time lag. Accordingly, our 2024 CPI forecast is also revised up to 2.2% from 2.0%, and our 2025 CPI forecast is lifted to 1.6% from 1.3%.

The upward revision of the FY26 core-core CPI forecast to 2.1% indicates confidence in achieving sustainable 2% inflation in the longer term, suggesting that rate hikes and QT will come into play by 2026. This core-core CPI adjustment likely reflects an improving outlook for wage growth. Base wage growth increased by 1.7% YoY in February. Given the strong Shunto wage negotiation results, base wage growth is likely to rise further to around 2.5% YoY after April. The BOJ will take time to observe the post-Shunto wage performance, momentum of wage-driven inflation, and consumer demand recovery.

We maintain our forecast for the BOJ to deliver the first rate hike in April 2025, raising rates from 0.1% to 0.25%. In the longer term, we anticipate the BOJ to hike rates at a pace of 25-50bps per year, potentially taking 2-4 years to reach a terminal level of 1.00%.

Market implications

The correlation between USD/JPY and the 3Y implied policy rate differentials of the US and Japan stands high at 0.87, observed from January 2022 to April 2024. The market is pricing in a total of 75bps of rate hikes from the BOJ over the next three years. The recent surge of USD/JPY above 150 has exceeded the change in interest rate differentials.

The correlation between USD/JPY and TOPIX is relatively less significant, at 0.70, observed between January 2022 and April 2024. In 2022, the weakening of the JPY was accompanied by flat performance in the TOPIX, possibly due to the Fed rate hike cycle triggering outflows from JGBs and dampening investor sentiment. The rally in the TOPIX earlier this year outpaced the depreciation of the JPY, likely due to growing investor confidence in Japan’s reflation efforts, TSE reforms, optimism surrounding AI-related developments, among other factors. The impact of JPY movements on Japan’s equity market appears to yield mixed outcomes.

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Ma Tieying 馬鐵英, CFA

Senior Economist - Japan, South Korea, & Taiwan 經濟學家 - 日本, 南韓及台灣
[email protected]

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