Bank of Japan Preview: Kuroda Expected to Leave His Mark
- We expect the new Bank of Japan (BoJ) governor, Haruhiko Kuroda, to leave his mark when BoJ on Thursday announces its decision from this week's monetary meeting. Kuroda is expected to signal a strong commitment to the new 2% inflation target and to link BoJ's asset purchase programme to reaching this target.
- Specifically, we expect BoJ's asset purchase programme to be made 'open ended' already from this year (and not 2014 as currently planned), which implies that asset purchases will not be slowed substantially in 2014. In addition, the maturity of BoJ's government bond purchases is expected to be increased beyond three years.
- However, it is not a done deal. Although the doves now have a clear majority on the BoJ board, there is no consensus on how monetary policy should be eased and it could be challenging for Kuroda to create sufficient support for his relatively aggressive easing strategy. It is possible that BoJ will continue to ease within its existing framework and that it will just announce an increase in the target for its end-2013 asset purchases. This would probably be regarded as a defeat for Kuroda and would strengthen JPY.
- Expectations for additional easing are already high, so we do not expect to see a substantial market reaction tomorrow and with the current positioning in the market JPY could strengthen substantially should BoJ fails to deliver. However, BoJ remains extremely focused on the exchange rate and the recent JPY appreciation has - if anything - increased the likelihood that BoJ will deliver.
- In the short term we expect JPY to be in a consolidation phase. However, with BoJ expected not to slow its asset purchases substantially next year and Fed expected to start scaling down its asset purchases from Q4 13, the longer-term case for a weaker JPY remains.
Kuroda signals increased commitment to inflation target
Bank of Japan today starts its first monetary meeting headed by the new governor Haruhiko Kuroda and his two new deputy governors Kikuo Iwata and Hiroshi Nakaso. The decision from the meeting is expected to be announced early Thursday morning CET. Recent economic data including industrial production for February and the closely watched Tankan business sentiment survey released by BoJ disappointed. However, overall data still suggest that Japan is recovering relatively fast from recession (see chart), aided by both improving domestic demand and a brighter outlook for Japan's export. Hence, we do not expect the recent disappointing data in itself to have a material impact on the outcome of this week's monetary meeting.
Asset purchase programme to be made 'open ended'
In our view Kuroda will nonetheless want to leave a mark and signal a shift in monetary policy in connection with the meeting. Kuroda will most likely attempt to signal a stronger commitment to the new 2% inflation target and link BoJ's purchases of financial assets to reaching this target. Kuroda's recent remarks that the 2% inflation target should be achievable within two years must be considered very aggressive and should probably also be regarded as an attempt to demonstrate commitment to the inflation target. Based on his recent remarks we now consider Kuroda as the second most dovish member of the BoJ board only superseded by deputy governor Iwata. Although we now believe doves have a majority on the BoJ board (see table), there is no clear consensus on how monetary policy should be eased further from here. Hence, it could still be a challenge for Kuroda to create sufficient support for his relatively aggressive easing strategy.
We do expect the BoJ board to support Kuroda's easing strategy but it should be emphasised that there are substantial risks that Kuroda could be forced to compromise on his easing strategy. Any signs of major disagreement on the BoJ board - and particularly signs that Kuroda does not have a majority behind him - could strengthen JPY. Tomorrow we expect BoJ to announce two major easing measures:
- The asset purchase programme will be made 'open ended' already from this year.
- The maturity of BoJ's government bond purchases will be increased substantially. Currently the maturity of BoJ's government bond purchases must not exceed three years.
The implication of open-ended asset purchases is that there is no limit to BoJ's total purchases of financial assets and no specific termination date for the asset purchase programme. In an open-ended asset purchase programme BoJ will just announce how much it intends to purchase on a monthly basis and announce that these purchases will be continued until some specific conditions, for example inflation, are fulfilled. This will be broadly similar to Fed's current communication strategy.
BoJ currently has a 'hybrid' asset purchase programme in the sense that for 2013 it has announced a limit/target for its total asset purchases for end-2013. This limit is currently JPY76trn (see table below). However, for 2014 the asset purchase programme has been made 'open ended' in the sense that BoJ has announced how much it plans to purchase on a monthly basis from 2014. It is important to stress that 'open-ended' asset purchases are not necessarily equivalent to more aggressive QE. Despite asset purchases planned to be 'open ended' in 2014, the pace is planned to slow substantially to just around 2% of GDP from currently about 8% of GDP.
The announcement of 'open-ended' asset purchases from 2013 will only be bearish for JPY if the implication is that the pace of the asset purchases will be increased to the pace that BoJ has so far announced. In our view that will be the implication if BoJ announces 'open-ended' asset purchases from 2013 tomorrow. The end-2013 target for total asset purchases will most likely be scrapped and the monthly asset purchases announced for 2014 will be raised substantially and be effective already from this year.
However, 'open-ended' asset purchases from 2013 is certainly not a done deal. It is possible that BoJ will stay within its current easing framework and just announce - for example - a JPY10trn increase in the target for its end-2013 asset purchases to JPY86trn. This would be a disappointment for the market, not least because it would be regarded as a defeat for Kuroda and signal that he does not have a majority behind him on the BoJ board.
Limited impact on JPY expected
There is already widespread expectation that BoJ will deliver relatively aggressive easing in connection with the meeting, so we only expect limited JPY weakness on the back of the expected easing moves. As market positioning for a weaker JPY remains stretched, there is a risk of a substantial stronger JPY should BoJ fail to deliver. However, a markedly stronger JPY would not be welcomed by BoJ and the recent days' appreciation of JPY has probably increased the likelihood that BoJ will deliver tomorrow.
In the short term we expect JPY to be in a consolidation phase. However, with BoJ expected not to slow its asset purchases substantially next year and Fed expected to start scaling down its asset purchases from Q4 13, the longer-term case for a weaker JPY remains. For our view on JPY see FX Forecast Update: Do not fight Mr Carney and Mr Kuroda, 22 March.