We entered this past week geared up for some potential policy shift from both the Fed and the Bank of Japan. What we ended up getting was largely more of the same.
The Bank of Japan did raise its benchmark rate to 0% and ended its yield curve control policy. On the surface, that may seem like a major change (by the BoJ’s standards, I suppose it is), but I think that relatively little has changed. A 10 basis point rate hike is quite small in the grand scheme of things and the central bank itself acknowledged that conditions will remain ultra-accommodative for the foreseeable future. Even the end of yield curve control might not actually be the end. The BoJ will continue making JGB purchases and I fully expect they’ll ramp that up should rates start to rise quickly.
The markets were clearly expecting a little more. In response, Japanese government bond yields held steady, but the yen immediately weakened and shot above the 150 level that we know the BoJ has traditionally stepped in to defend. They might have to in order to prevent the bottom from falling out and that’s where we get a potential currency crisis. The yen crashes. The BoJ is forced to raise rates quickly in order to stop the bleeding. The yen carry trade falls apart and then we’re off to the races. The real risk is that the BoJ is going to be forced to act aggressively way before they want to.
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