Don’t buy the BoJ bluster
Haruhiko Kuroda, the Bank of Japan Governor, has presided over a pick-up in domestic demand and seems loath to have it extinguished by a global growth scare. Last week he hinted that he was ready to do more, and subsequent press leaks point to a further expansion of his quantitative easing program. One reason to think a big bazooka may be rolled out at Thursday’s policy-setting meeting is that a month ago the BoJ mildly expanded its QE operation to a deafening silence; since then the yen has risen 3.5% against the dollar, while the Nikkei 225 is down about -11.5%.
It remains to be seen if the recent wild ride in markets presages a global growth crunch. What is clear is that emerging economies are in a tight spot, US credit markets look sick and China continues to send mixed signals about its currency policy.
Monday saw the release of less than stellar economic data from the eurozone. Such a weak global situation can only hurt Japan’s export-heavy economy, especially if the yen continues to see safe haven flows. Such arguments will be weighed heavily on Thursday as the BoJ considers a preemptive move to support markets.
There is also a political logic that points to more easing. Goosing equity prices has been a key element of Prime Minister Shinzo Abe’s strategy to shore up support for his political goals (the immediate concern is a further unpicking of Japan’s pacifist constitution which needs a two-thirds majority in both legislative chambers). Abe may be mulling a snap election in a bid to consolidate support for his proposed changes and he must deal with Upper House elections in July. In recent years there has been a clear correlation between stock prices and Abe’s popularity, so rest assured he will not oppose further monetary stimulus.
Such a Machiavellian calculus may dovetail with the BoJ’s less political priorities. The BoJ will be happy to pare the yen’s appreciating bias, for this will negatively impact ongoing wage negotiations that are seen as crucial to the domestic reflation goals. The latest Tankan survey suggests that any strengthening of the yen beyond JPY 118 to the dollar will dissuade companies from hiking wages, regardless of labour market tightness. For these reasons, we think it likely that the BoJ will boost its monetary stimulus sooner rather than later. The next question is whether such a policy will be effective.
We have previously argued that the domestic outlook for Japan, while not spectacular, is good enough for corporates to put their huge cash piles to work in a productive manner. In fact, Japan was a standout performer in the latest economic surprise index compiled by Citi. And despite recent market ructions, we are not convinced that global fundamentals have deteriorated on a scale seen in 2008, which is what markets are pricing in. Thus, in a scenario where the global economy muddles through, additional BoJ easing would end up being counter-productive if it further boosts exporters, but in good mercantilist fashion impoverishes consumers.
Lastly, there is the question of whether the BoJ has the capacity to move the market in the direction it wants. Current positioning in the futures market suggests that investors don’t believe that the BoJ can stem yen appreciation. The unit’s 30% depreciation over the last three years has already made it one of the world’s most undervalued currencies when measured in real terms. The effect can be seen in Japan’s current account which is decisively back into surplus territory. Also, there is a widespread view that the BoJ is nearing the technical limitations of its easing programme. As such, it may be that even if Kuroda does pull out his big bazooka, the market is not greatly moved.