BOJ May Resort to More QE If Yen Jumps, Ex-Board Member Says

(Bloomberg) -- The Bank of Japan may resort to its least preferred tool to expand stimulus next time the yen jumps: more government bond purchases.

That’s according to Takahide Kiuchi, a former BOJ policy board member who said the central bank’s favored option -- deepening negative interest rates -- would face opposition from Prime Minister Shinzo Abe’s administration because it would be unpopular among the public. Japan’s currency could quickly appreciate past the 100 mark against the dollar from around 110 now if the global economy deteriorates, he warned.

BOJ May Resort to More QE If Yen Jumps, Ex-Board Member Says

Speculation for BOJ action has grown since Governor Haruhiko Kuroda said last week that he might undertake fresh easing if the yen’s movement hurts the economy and inflation. In an Asahi newspaper interview, Kuroda outlined four options including targeting the monetary base through government bond purchases -- a policy that the BOJ moved away from in 2016.

One possibility is that a strengthening yen prompts the government to increase spending to defend the nation’s export-reliant economy, and the BOJ chimes in by purchasing more bonds, Kiuchi said in an interview in Tokyo.

‘Helicopter Money’

“The government will issue bonds to pay for economic measures, meaning that it will be happy if the BOJ buys more government debt,” said Kiuchi, who supported Kuroda’s first round of quantitative easing in 2013 before becoming a dissenter until his term expired in 2017. “That will be close to helicopter money. I’m totally against it, but it is possible.”

BOJ board member Goushi Kataoka said Wednesday that it’s vital for fiscal and monetary policy to work in tandem to boost inflation expectations. The central bank should try to widen the gap between supply and demand by ramping up its easing measures in pursuit of 2 percent inflation, he said in a speech in Kagawa, western Japan.

Expanding the amount of cash in the banking system through JGB purchases is the BOJ’s least desired approach and could make the nation’s debt market less liquid without benefiting the economy, Kiuchi said. While the BOJ would prefer to target negative rates, moving deeper below the current minus 0.1 percent risks hurting voter sentiment in an election year by suggesting that the economy is in trouble, he said.

The yen surged almost 4 percent against the dollar in the last quarter of 2018 as investors sought a haven from falling stock markets and expectations for more U.S. Federal Reserve rate increases waned. It has since weakened almost 1 percent as markets recovered.

Japan’s currency breaking 100 would hurt exporters by lowering the value of repatriated profits at a time when global demand for their products is slowing, said Kiuchi, now executive economist at Nomura Research Institute Ltd. in Tokyo.

Political pressure could prompt the BOJ to reintroduce the monetary base target at an unprecedented 100 trillion yen ($900 billion) a year, Kiuchi said. Currency issues have gripped debate in parliament recently, and Abe’s ruling Liberal Democratic Party faces local-government polls in April and upper-house elections in Japan’s summer.

Kuroda used to seek an annual 80 trillion yen increase in the monetary base to reach the 2 percent inflation goal, which remains out of sight. But in September 2016, the BOJ introduced so-called yield curve control, which targets a short-term rate and the 10-year yield, and its bond buying is now mainly done to manage those rates.

CLO Warning

Kiuchi also sounded a warning for banks that have been buying investment products abroad in search of returns that have diminished because of the BOJ’s massive easing.

Norinchukin Bank, a lender to Japanese farmers and fishermen, is among financial institutions that have been piling into securities made up of bundled U.S. corporate loans -- a practice that Moody’s Investors Service says carries little risk of large losses because the bank only buys top-rated products.

But according to Kiuchi, if the world economy slips into a recession, companies may struggle to stay in business and holders of even the highest-rated collateralized loan obligations could suffer. He sees a one-in-three chance of a global recession by 2020, posing a test for the CLO market, which has yet to see a default on AAA securities.

“It is possible that CLOs will suffer damage, including their highest-quality portions,” Kiuchi said. “Just because things have been fine so far, doesn’t mean they will stay fine.”

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