The Bank of Japan shocked markets on Tuesday with a surprise adjustment to bond yield controls that allows long-term interest rates to rise more, a move aimed at easing some of the costs of prolonged monetary stimulus.
Stocks fell, while the yen and bond yields rose after the decision, surprising investors who had expected the BOJ to make no changes to its yield curve control (YCC) until Governor Haruhiko Kuroda steps down in April.
In a move explained as aimed at breathing life back into a dormant bond market, the BOJ decided to let the 10-year bond yield move 50 basis points either side of the 0% target, wider than the previous band of 25 basis points .
But the central bank kept its yield target unchanged and said it would sharply increase bond purchases, a sign that the move was a fine-tuning of existing ultra-loose monetary policy rather than a withdrawal of stimulus.
“Maybe this is a small step to test the strategy and see what the market reaction is and how much it reacts,” said Bart Wakabayashi, head of department at State Street in Tokyo. “I think we’re seeing the first toe in the water.”
As widely expected, the BOJ kept its YCC targets unchanged, set at -0.1% for short-term rates and around zero for the 10-year bond yield, at a two-day policy meeting that ended on Tuesday.
The BOJ also said it would increase monthly purchases of Japanese government bonds (JGBs) to 9 trillion yen ($67.5 billion) per month from 7.3 trillion yen previously.
“Through these steps, the BOJ will aim to achieve its price target by improving the sustainability of monetary easing under this framework,” the BOJ said in a statement, signaling that the move was aimed at extending the YCC rather than phasing it out.
The benchmark Nikkei 225 fell 2.5% after the decision, while the dollar fell 2.7% to a four-month low of 133.11 yen. The 10-year Japanese government bond (JGB) yield rose briefly to 0.460%, close to the BOJ’s recently set implicit ceiling.
Markets are already guessing what the BOJ’s next move might be as Kuroda’s term draws to a close, with inflation expected to remain above the 2% target well into next year.
“They’ve expanded the band and I guess it came earlier than expected. It raises questions about whether this is a precursor to more to come, in terms of policy normalisation, says Moh Siong Sim, currency strategist at Bank of Singapore.
“The writing is on the wall that maybe the sharp yen weakness that we’ve seen in the past was uncomfortable for policymakers … it’s clear that adds to the story of yen strength next year.”
The BOJ’s ultra-low interest rate policy and its relentless bond-buying to defend the yield ceiling have drawn growing public criticism for distorting the yield curve, draining market liquidity and fueling an unwelcome yen fall that inflated the cost of importing raw materials.
Kuroda has repeatedly said he saw no need for the BOJ to adjust the YCC, including taking immediate steps to address the side effects such as the distortion it created in the bond market.