- Neal Kimberley is an FX market analyst for Reuters. The
opinions expressed are his own -
By Neal Kimberley
LONDON, Aug 27 Continuing and broad-based yen
weakness would sit comfortably with the objectives outlined by
Bank of Japan Governor Haruhiko Kuroda in his speech last week
at Jackson Hole, Wyoming.
For a text of Kuroda's full remarks: here
The BOJ Governor said the mechanism for negotiating wage
increases "stopped working effectively" while Japan battled
deflation over the past two decades. He also said he wants to
"anchor inflation expectations at 2 percent" to act as a
benchmark for wage-setting.
That remains quite a task, and the central bank itself
acknowledges that inflation in Japan will slow to around 1
percent in the months ahead.
To illustrate the challenge, see this comparative graphic of
government bond yields, inflation and interest rates in Japan,
the euro zone and Switzerland. link.reuters.com/fug72w
A weak yen, it could be argued, by encouraging imported
inflation in a Japanese economy almost entirely dependent on
energy imports, has been and remains a key support as the BOJ
tries to break long-established deflationary expectations.
The central bank has sought to bring to an end a
growth-strangling period during which Japanese consumers have
put off purchases today in the belief that prices will be lower
Indeed, sources told Reuters on Tuesday that even though the
Bank of Japan is expected to cut its economic growth forecast
for this fiscal year in a semi-annual review due at the end of
October, it is likely to keep its bullish inflation outlook.
The aim to cement inflationary expectations is unchanged.
But what if the BOJ succeeds?
Traders might wonder how Japan's policymakers can square the
circle between anchoring inflation expectations at 2 percent,
and the current yield of 0.5 percent on the benchmark 10-year
Japanese government bond.
Even at very low nominal JGB yields, Japan's debt-servicing
costs already consume a substantial chunk of tax revenues.
Debt servicing was forecast in December to consume nearly 25
percent of the country's projected record spending of 95.88
trillion yen in fiscal 2014-15.
With 2014-15 tax revenue estimated at 50 trillion yen, that
means the forecast debt service cost will eat up almost 48
percent of the expected tax take.
Unless the tax base expands exponentially, if a rise in
inflation expectations did prompt higher JGB yields, Japan's
government would surely have to be very creative in order to
service its debt.
That possibility hardly seems positive for the yen's value.
Of course, if the process of keeping nominal JGB yields low
were successful, even in the face of an uptick in inflation
expectations to 2 percent, the holders of JGBs would be getting
an increasingly negative real return on their money.
That would likely encourage investments in riskier assets,
including those denominated in foreign currencies, in pursuit of
higher yields, a process which may already have begun.
That must entail some degree of yen selling.
At the very least, by keeping JGB yields suppressed despite
higher inflation, domestic bond holders are left poorer in real
terms. That may well encourage some of the rentier class,
Japan's expanding regiments of pensioners, to seek employment.
Kuroda notes that the labour participation rate in Japan has
been rising and said it was critical this remains a feature of
the Japanese economy. He wants to create "a work environment
favorable to women and the elderly in order to mitigate labour
force shortages over time".
A cynic might think beggaring Japan's pensioners through
rising negative real returns on their JGB holdings would
certainly tick that box, pushing the elderly back into work.
It is clear from Kuroda's Jackson Hole speech that
engendering higher inflation expectations remains at the core of
the central bank's recipe for Japan to restore "its vitality and
achieve sustained growth".
It is hard not to conclude that a weak yen remains part of
the BOJ's policy prescription.
(Editing by Nigel Stephenson and Hugh Lawson)