MNI POLICY: BOJ Mulls Quantity Target For Bonds As Soon As Jan

The Bank of Japan is looking at a possible shift to a quantitative target for bond purchases when it finally raises its overnight rate from negative levels in a move which could happen as soon as January, MNI understands.

The quantitative target would replace the 10-year rate target under the current yield curve control framework and would allow yields to rise to some degree but enable the BOJ to limit any excessive market reaction in the longer end of the market to the increase in overnight rates.

The BOJ could incorporate ample fund injections, flexible bond buying and a fixed-rate bond buying operation into a commitment to make minimum bond purchases as it keeps a bias towards easy policy. Its existing stock of bonds would also continue to exert downward pressure on yields.

While such a decision is most likely to be taken in April after the release of a major wages survey and when the BOJ is likely to have been able to better gauge downside risks to overseas economies, it could take place as soon as January, if December’s national consumer prices and November wages data confirm that core inflation will remain above 2%. A weak yen approaching 150 to the dollar is also putting pressure on officials to act. (MNI POLICY: Weak Yen A Factor As BOJ Considers Policy Shift)

MORE FLEXIBILITY IN YIELDS

But the new framework would also allow the BOJ to tolerate a degree of volatility in long-term interest rates, a development likely to be welcomed by commercial banks.

BOJ analysis indicates that its current framework lower long-term rates by around around 1 percentage point on average, and this effect is likely to be reduced though not eliminated as it moves away from a yield target but maintains purchases.

Achieving the Bank’s 2% inflation target would mean that the 10-year interest rate could in theory rise above 2%, judging from the potential growth rate of about 0.5%. But the BOJ would not tolerate such a sharp rise, which would increase the financial burden on governments and households.

The BOJ’s decision to raise the cap on the 10-year interest rate to 1.0% in July reflected a willingness to create a financial environment in which the long-term interest rate will move in line with the markets’ view of future inflation.

New government measures aimed at boosting sustainable wage growth will also contribute to improving the output gap, putting upward pressure on inflation rates, BOJ officials consider.

But while the Bank is close to moving away from yield curve control and negative rates, it is not looking at reducing its huge balance sheet, which officials see as a far more difficult task.