BOJ Debates Exiting Easy Policy, 10-Year JGBs Weaken

At the September meeting, the Bank of Japan (BOJ) saw an increased focus on the eventual exit from their ultra-loose monetary policy, a development that drove 10-year government bond yields to their highest levels in a decade.

In a summary of opinions from the meeting, it became clear that the central bank is gradually laying the groundwork for a potential end to negative interest rates. Some members of the nine-member board stressed the importance of maintaining monetary easing, with one stating that any transition away from the current bond yield control and negative interest rate policy should be tied to the success of achieving the bank’s price target.

Despite the unanimous decision to maintain ultra-low interest rates in September, some members went further in discussing the conditions and timing for a future policy exit. One member pointed to the second half of the fiscal year ending in March 2024 as a crucial period for determining the likelihood of achieving the BOJ’s price target. Another member believed that the target of 2 percent inflation was clearly within sight, potentially allowing the bank to assess its achievement by early next year.

These hawkish comments briefly pushed the benchmark 10-year Japanese government bond (JGB) yield to 0.75 percent, the highest level in a decade and nearing the BOJ’s self-imposed cap of 1 percent.

The summary also revealed some members’ concerns about the need for small businesses to raise wages and for inflation to be driven by higher service prices to sustainably reach the 2 percent target.

The BOJ currently employs a yield curve control (YCC) policy, guiding short-term interest rates to -0.1 percent and the 10-year bond yield to around zero. The central bank also purchases risky assets such as exchange-traded funds (ETFs) to stimulate economic growth.

With inflation consistently exceeding the BOJ’s 2 percent target for over a year, there is growing speculation in the markets that the central bank will soon end negative interest rates and dismantle YCC. A Reuters poll conducted in September predicted an end to the negative interest rate policy in the coming year and the discontinuation of YCC by the end of 2024.

The summary highlighted the importance of clear communication if the BOJ were to terminate its negative interest rate policy while maintaining negative real interest rates. It also suggested that the role of YCC might be nearing its end.

In considering the future phase of exiting the ultra-loose policy, the BOJ should evaluate not only the treatment of YCC but also the need to continue purchasing assets other than Japanese government bonds (JGBs), according to one member’s opinion.

Governor Kazuo Ueda has emphasized the necessity of keeping policy ultra-loose until inflation driven by solid domestic demand is achieved. However, he has also indicated that the BOJ will contemplate an exit strategy once sustained and stable progress toward the price target becomes apparent, with the bank’s financial considerations not hindering the transition away from stimulus measures.