MNI POLICY: Volatile Markets To Delay BOJ Policy Normalisation

Bank of Japan officials are watching the impact of volatile financial markets on sentiment and economic activity, while further yen strength above JPY145 against the U.S. dollar could impact profits, stall capital investment, and delay further rate hikes, MNI understands.

While the correction of the weak yen has encouraged BOJ officials, they warn the currency could appreciate further as the carry trades that drove recent volatility continue to unwind. U.S. stock markets also remain fragile.

Corporate profits could fall and companies may delay Capex should the yen move higher than the JPY145 handle, which many firms – particularly Japanese manufacturers – have used as their predicted rate average.

The yen rose from its early July JPY161 low to JPY141 earlier this month against the greenback and was trading at JPY147 on Tuesday afternoon.

Financial market volatilty could persist as investors await further U.S. economic data and political events over the next few months. However, the BOJ will likely hold its baseline economic growth and inflation view for now as it grapples with the uncertainty.

UNCERTAIN PREDICTIONS

The volatile markets will make it difficult for BOJ board members to set preconditions used by bank officials to forecast economic growth and inflation, and make updates to the medium-term view – set to be published in October – more uncertain.

BOJ Deputy Governor Shinichi Uchida said last week "the path of the policy interest rate will certainly change” should the Bank adjust its outlook due to the market developments. MNI reported last week Bank officials remained optimistic for further hikes despite the volatility. (See MNI POLICY: BOJ Still On Course For Hikes Despite Volatility)

BOJ officials continue to focus on corporate price-setting behaviour toward October when businesses, mainly non-manufacturers, revise their retail prices following wage hikes. The October price revisions hold the key to measuring whether the wage-price virtuous cycle has strengthened and increased the probability that the Japanese economy achieves the Bank’s 2% price target.