Bank of Japan keeps rates very low, warns of sharp declines in Japanese yen

TOKYO (Reuters) – The Bank of Japan kept interest rates ultra-low on Friday and vowed to defend its ceiling on bond yields with unlimited buying, defying a global wave of monetary tightening in a show of determination to focus on supporting a tepid economic recovery.

The yen fell as much as 1.9% and bond yields fell after the decision, which was widely expected but disappointed some market players who had speculated that the Bank of Japan might succumb to market forces and adjust its maximum yield policy.

However, noting the blow that sharp drops in the Japanese yen could wreak on the economy, the Bank of Japan said it should “closely monitor” the impact of exchange rate movements on the economy.

“Recent rapid declines in the yen have increased uncertainty about the outlook and make it difficult for companies to make business plans. They are thus negative for the economy and undesirable,” Bank of Japan Governor Haruhiko Kuroda told a news conference.

At the two-day policy meeting that ended on Friday, the Bank of Japan maintained its 0.1% target for short-term rates and pledged to guide the 10-year yield around 0% with an 8-1 vote.

The central bank also stuck to its guidance to keep interest rates at “current or low” levels, and ramped up a program to buy an unlimited amount of 10-year government bonds at 0.25%.

“Rising interest rates or tightening monetary policy now would add more downward pressure on an economy that is in the midst of recovering from the pain of the COVID-19 pandemic,” Kuroda said, ignoring the chance of a rate hike in the near term.

He also said the Bank of Japan would not tolerate a 10-year yield rising above its implied 0.25% ceiling, and had no plan to increase the upper limit despite pressure from rising global yields.

“There was speculation that the Bank of Japan might adjust policy to address currency movements, but the answer from the central bank was no,” said Shotaro Kogo, an economist at Daiwa Research Institute.

Kuroda’s comments highlight the Bank of Japan’s position as the world’s last peaceful central bank, as its peers have tightened monetary policy to stem rising inflation. Read more

Caught in a dilemma

Central banks across Europe raised interest rates on Thursday, some by amounts that shocked markets, in the wake of the US Federal Reserve’s 75 basis point hike. Read more

The growing policy divergence between Japan and the rest of the world has pushed the yen to a 24-year low against the US dollar, threatening to dampen consumption by driving up already soaring import costs.

The government and the Bank of Japan stepped up their warnings of sharp falls in the Japanese yen, including by issuing a joint statement last week indicating a willingness to enter the currency market if necessary. Read more

“We should carefully monitor the impact that financial and currency market moves can have on the Japanese economy and prices,” the Bank of Japan said on Friday, including a reference to exchange rates in its policy statement for the first time in a decade.

However, such concerns about a weak yen did not prevent the Bank of Japan from defending its target ceiling for the 10-year yield by increasing bond purchases.

The yield cap came under attack from investors who bet the central bank could adjust policy as rising US yields drive long-term interest rates around the world.

The yield on Japanese 10-year government bonds (JGB) reached a six-year high of 0.268% in early trading on Friday, before easing back to 0.22% after the central bank’s monetary policy decision.

Shortly after the announcement, the Bank of Japan made an additional offer to buy unlimited amounts of 10-year JGBs, including those with seven years left to maturity.

The Bank of Japan is in trouble. Since Japan’s inflation rate is much lower than that of Western economies, its focus is on supporting the weak economy at low rates. But cautious policy caused the yen to decline, hurting an economy that relies heavily on imports of fuel and raw materials.

With Kuroda ruling out a rate hike, the onus may fall on the government to stave off any further decline in the yen, including by intervening in the market to prop up the currency.

However, analysts doubt Tokyo’s ability to gain approval from Washington and other G7 members for a joint intervention, or that a unilateral intervention will succeed. Read more

“There is a myth in the market and the public that currency intervention works. But the truth is that there is not much the government or the Bank of Japan can do to stop the yen’s decline,” said Takeshi Minami, chief economist at the Nornshuken Research Institute.

“I think the Bank of Japan will stand idly by and weather the storm.”

(Reporting by Laika Kihara). Additional reporting by Tetsushi Kajimoto, Kantaro Komiya and Daniel Lysink. Editing by Jacqueline Wong, Richard Boleyn and Kim Coogle

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