Bank of Japan signals exit from quantitative easing, but …
The time is right but there are barriers, which are global trade headwinds and fragile sentiment
Central bankers try to pack as much ambiguity into a speech as possible. Or as Alan Greenspan of Federal Reserve fame once put it: “I’ve learned to mumble with great incoherence.”
Bank of Japan Governor Haruhiko Kuroda has turned this Greenspan-ism into an art form since taking the governorship in 2013. No major central banker talks more than Japan’s, who is called to testify before parliament more often than reporters can cover.
Yet on Monday, the Bank of Japan head did something extraordinary: he signaled clearly that he’s keen to normalize monetary policy.
Speaking in Nagoya, Kuroda said Asia’s No. 2 economy was no longer in a place where it needed to be “decisively implementing a large-scale policy to overcome deflation.” That is perhaps the most specific hint to date that the BOJ is gearing up for an exit from history’s most aggressive quantitative easing experiment.
There’s only one problem: Donald Trump.
If not for the US president’s escalating trade war, the BOJ would have every reason to withdraw its tentacles. Owning about half of the outstanding government bonds and more than 75% of exchange-traded funds is warping banking dynamics. Kuroda admitted as much Monday.
Commercial banks are having a hard time making money off negligible bond yields – and non-existent spreads between short-and long-term securities.
The economy would be ready for less monetary largess if Trump weren’t sending headwinds Tokyo’s way. Japan is, after all, experiencing its longest expansion since the 1980s and corporate profits are buoyant.
Sentiment quavering, headwinds rising
Yet sentiment is taking hits as Kuroda speaks about monetary normalization. Three straight drops in the BOJ’s quarterly tankan survey of big manufacturers and a trend toward slowing monthly retail sales activity show Trump’s tariffs are muddying the outlook for 2019. So is Prime Minister Shinzo Abe’s plan to hike sales taxes to 10% from 8% next year.
Kuroda’s team also confronts a White House keen to weaken the dollar. Trump’s team is watching with growing ire the Chinese yuan’s march toward 7 to the dollar. Beijing’s sliding currency may troll Trump into a response.
First, a rhetorical one on Twitter. Next, another round of levies on Chinese imports on the top of the $250 billion doing their worst to slam mainland growth – and, by extension, Japan’s.
Any actual move to wrap up BOJ stimulus would send the yen skyrocketing, slamming Japan Inc. The secret behind the modest success Abenomics has had to date is a weak exchange rate boosting exporters.
Unfortunately, Abe has put few notable reform wins on the scoreboard. Monetary easing and corporate governance tweaks are a godsend for investors. But moves to loosen labor markets, cut bureaucracy, increase productivity and make it easier to start new businesses have been too glacial to prod executives to fatten paychecks. Abenomics lacks the virtuous reflation cycle it promised.
That’s keeping the BOJ far from the 2% inflation target. Of course, prices are running into demographic hurdles. With one-fifth of Japanese 70 or older, consumption trends are bound to hit a generational ceiling. Nor are millennials seeing wage growth consistent with rising consumer prices.
Time to get a bit radical
Even so, Kuroda is realizing that sub-zero interest rates aren’t working. Such policies are great for shocking a comatose financial system, but unequal to the task of increasing competitiveness. The BOJ’s best option is experimentation.
Expect policymakers to recalibrate debt purchases, perhaps favoring the middle of the maturity spectrum rather than longer-dated securities. Anything Kuroda can do to help commercial banks boost profits might get them to extend more BOJ credit.
It’s time to throw regional banks a bone with wider spreads between short and long securities, the so-called yield curve. Yet Kuroda also noted that the rural bank industry could do with some serious consolidation.
“The problems they face are structural, so the measures they take must be structural too,” Kuroda said. “Mergers and integration could be among such steps.”
But the steps Kuroda signaled Monday seem more aspirational than practical. The next 12 months of assaults on global trade could be much rougher on Japan than the last. Trump has been anything but ambiguous about that.