What to expect at the upcoming Bank of Japan (BOJ) meeting as the yen falls

The Japanese yen is hovering near its weakest level since 1998, and authorities have hinted at action to stem the currency’s slide.

Ahead of the Bank of Japan’s interest rate decision later this week, CNBC took a look at whether the Bank of Japan might switch from its ultra-loose monetary policy, as the Federal Reserve maintains its hawkish stance, signaling more rate hikes ahead.

The widening rate differential has caused the yen to weaken significantly, with the Japanese currency down about 25% year-to-date.

Last week, the Bank of Japan reportedly conducted a foreign currency “check”, according to Japan’s Nikkei newspaper — a move largely seen as a readiness for official intervention.

The so-called check, as explained by the Nikkei, involves the central bank “inquiring about trends in the foreign exchange market” and is widely seen as a precursor to physical intervention to defend the yen.

Despite talk of physical intervention in the forex markets, analysts all point to another reason for the yen’s weakness: the Bank of Japan Yield Curve Control (YCC) policy – a strategy implemented in 2016, which set the Japanese government for 10 years. Bond yields are around 0% and are offered to purchase an unlimited amount of JGBs To defend an implied ceiling 0.25% around the target.

The yield curve control policy aims to bring inflation in Japan to the 2% target. On Tuesday, Japan reported that core inflation rose 2.8% from a year ago in August, the fastest growth in nearly eight years and the fifth consecutive month in which inflation exceeded the Bank of Japan’s target.

Defense of this policy will be the central bank’s priority rather than currency intervention, which will be decided by the Ministry of Finance and implemented by the Bank of Japan, said Joy Chiu, senior FX strategist at HSBC.

Talking about foreign exchange intervention at this juncture may not have a material impact. Even an actual intervention may only lead to a significant but short-lived reaction

Joy Qiu

Senior FX Strategist for Asia, HSBC

“The Bank of Japan will conduct bond purchases — theoretically unlimited — to maintain the yield curve control policy,” Chiu told CNBC last week. He added that such monetary operations would be somewhat contradictory to any potential foreign exchange action, given that dollar-yen sales would reduce the liquidity of the Japanese currency.

“Talking about foreign exchange intervention at this juncture may not have a material impact,” Qiu said. “Even an actual intervention may only lead to a significant but short-lived reaction.”

Qiu noted limitations from previous cases when Japan intervened to defend its currency.

Economist says I don't expect it to be the Japanese yen

Goldman Sachs strategists also don’t see the central bank shifting from yield-curve control policy, pointing to its hawkish global peers.

“Our economists expect the BoJ to strongly maintain its YCC policy commitment at this week’s meeting on the back of five other G10 central banks likely to raise interest rates significantly,” they said in a note earlier this week.

Goldman Sachs says although direct intervention should be more likely with price check reports, economists see the chance of the operation succeeding in defending the yen as “less than that.”

End of Abenomics

Monetary policy changes by Japanese authorities are unlikely, and chances are particularly low under Bank of Japan Governor Harukiho Kuroda, UBS chief economist for Japan Masamichi Adachi told CNBC last week.

“One possibility they might offer is to amend the current neutral to cautious guidance forward to become neutral only or delete it,” he said, adding that the probability is a maximum of 20% to 30%.

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One of the first indications of a shift in Japan’s monetary stance is a move away from the economic policy of Prime Minister Fumio Kishida’s predecessor Shinzo Abe, widely referred to as Abenomics, according to Nomura.

“The necessary first step towards normalization would be for Prime Minister Kishida to make clear that his policy priorities have now diverged from Abenomics, and he will not tolerate further yen depreciation,” said Naka Matsuzawa, chief Japanese macro analyst at Nomura last week.

The Bank of Japan’s next two-day monetary policy meeting concludes on Thursday, a day after the US Federal Open Market Committee meeting, where officials are widely expected to raise interest rates by another 75 basis points.

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