BOJ: Time to exit NIRP?

During a recent interview, Bank of Japan Governor Kazuo Ueda expressed that lifting the negative interest rate policy (NIRP) is an option for policy normalization, contingent upon the central bank's confidence in achieving sustainable price increases along with rising wages. He also mentioned the possibility that the central bank could gather enough information by the end of this year to consider lifting NIRP.

Ueda's remarks suggest an increased likelihood that the BOJ may opt to end NIRP before abandoning YCC. NIRP was implemented in January 2016, followed by the introduction of YCC in September 2016. Market participants have generally anticipated that YCC would be ended first. This is not considered an immediate priority at present, given that the 10Y JGB yield remains below the 1% threshold tolerated by the BOJ following the recent policy adjustments in July.

The challenge with ending NIRP lies in the potential interpretation by investors as a tightening of monetary policy. If the BOJ chooses this path, it may need to proceed cautiously, such as raising the short-term policy rate modestly by 10bps from -0.1% to 0%, while emphasizing that the goal is to enhance the sustainability of the YCC framework.

Regarding the timing, the outlook for ending NIRP by end-2023 remains uncertain. Recent wage data has been disappointing, with total wages slowing down to 1.2% YoY in July from over 2% in May-June, and base wages remaining at 1.5%. Tokyo's CPI also eased to 2.9% in August from 3.2% in July. Ueda’s reference to forward-looking information probably pertains to the 2024 wage hike target set by Rengo at end-2023. In the previous December, Rengo demanded a 5% wage hike for the current year's Shunto. The actual wage hike announced in July was 3.58%, resulting in a 1-2% increase in macro wage indicators. Given the tendency for actual macro wage data to fall short of expectations, it remains uncertain whether Rengo's wage target this December will provide sufficient insights into next year's wage/price outlook.

From a market perspective, while there was no commitment from the BOJ (still eyeing wage growth), the fact that end-year is put up as a possible point where the central bank may have sufficient information to decide when to pull back easing even more is notable. The BOJ has been notably glacial in its normalization in the cycle. YCC has not been abandoned but the cap on 10Y yields has since been raised to 1%. Against this theoretical backdrop, we see 10Y yields drifting towards 0.9% (10Y yields briefly touched 0.7% yesterday), however, the path would likely be smoothed by BOJ bond buying (or loans). Thus far, this has been playing out and will likely continue to do so. The shift, in our view, lies with the intermediate tenors. Short-term JPY rates have been floored near zero for an extended period. Even during the pre-GFC global hike cycle, the 3M Tibor stayed below 1%. Even if not the base case for the immediate one year, a lot of communication and re-pricing would need to be done before the BOJ pulls the trigger. 5Y yields have spiked close to 0.3% from 0.07% in mid-year. Similarly, 2Y yields (which are more sensitive to imminent policy shifts) have spiked to 0.05%. These yield levels look high by recent standards, however, if a prolonged policy normalization is underway, perhaps starting with a shift on the policy balance rate towards zero (from -0.1% currently), belly tenors yields will also see considerable upward pressures. We note upside risks to our 2Y JGB forecasts.

Ma Tieying 馬鐵英, CFA

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

matieying@dbs.com

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