BOJ FOCUS-Yen may nudge BOJ to act but any move seen minor

By Leika Kihara

TOKYO, Aug 16 (BestGrowthStock) – The Bank of Japan may ease monetary
policy further if the yen soars again towards an all-time high
against the dollar and threatens a fragile economic recovery.

Japanese policymakers have been trying to talk down the yen,
which surged to a 15-year high against the dollar last week,
hoping verbal intervention alone will keep yen gains in check.

As long as the yen’s climb is spread over several weeks or
months, the BOJ is expected to stick to its forecast of a
moderate economic recovery and stand pat on policy.

But it is seen ready to act if the dollar plunges at a pace
of 2-3 yen in a single day towards its all-time low below 80 yen.

Still, the BOJ would probably settle for a minor tweak of
policy rather than a radical change such as a return to
quantitative easing. It sees no point in force-feeding money to
banks, which have abundant cash but little use for it when an
uncertain economic outlook is making firms reluctant to borrow.

Prime Minister Naoto Kan and Bank of Japan Governor Masaaki
Shirakawa may meet later this week to discuss the yen’s strength.

Following are some policy options for the BOJ:


Possibility: Most likely

The BOJ set up a funding scheme in December and expanded it
in March under which it offered up to 20 trillion yen ($232
billion) in three-month loans at the policy rate of 0.1 percent.
The decision to set up the scheme was made at an emergency
meeting held a day before Shirakawa met with then-Prime Minister
Yukio Hatoyama.

That failed to boost bank lending, which marked its seventh
straight month of annual falls in June. But it helped push the
yen further away from the November high.

Increasing the amount of funds available, or extending the
duration of loans to six months, could push down interbank
lending rates and indirectly weaken the yen, analysts say.

The BOJ does not rule out this policy option, although
sceptics at the central bank argue that the yen’s drivers are
different now than they were in December.

Investors now view the yen more as a safe haven and are not
focusing on short-term interest rate differentials like they were
in December. Therefore, lowering money market rates this time
might not have the impact it had in December.

“It’s an option but it won’t work both in terms of affecting
currency moves and supporting the economy,” said a source
familiar with the BOJ’s thinking.

That would make the move more of a token gesture to show the
central bank was doing what it could to support the economy.

The launch of the scheme in December pushed three-month yen
LIBOR rates below dollar LIBOR, nudging the yen lower against the
dollar and making it relatively more attractive as a carry trade
funding currency. Yen LIBOR is still below dollar LIBOR.

Market reaction: It could push down longer-term money market
rates, such as six-month yen borrowing costs.


Possibility: Likely

This is a less attractive option for the BOJ, which worries
that increasing bond purchases from current levels of 21.6
trillion yen per year could give the impression it was directly
financing government spending.

Although benchmark 10-year bond yields have already dipped
below 1.0 percent, buying more bonds could be a more effective
way to support the economy because long-term yields still have
room to fall.

Additional buying could also weaken the yen by showing
markets the central bank’s determination to expand fund supply,
some analysts say.

Market reaction: Bond yields might briefly fall, subsequently
pushing down the yen. But there could be a danger of yields
rising if markets felt Japan was losing control over its debt.


Possibility: Less likely

If the government steps up pressure on the BOJ to ease policy
further it may cave in to lawmakers’ calls to set a more rigid
inflation target and commit itself to do more to beat deflation.

But this is highly unlikely for now, as Shirakawa is against
setting a strict price target for fear of binding future monetary
policy, BOJ officials say.

The BOJ may instead opt for a vaguer commitment, such as
pledging to keep rates low until Japan is comfortably out of
deflation. The Federal Reserve’s stated commitment to keep
official rates low for an “extended period” could be a good
example, analysts say.

The challenge would be to make the pledge clear enough to be
effective, but vague enough to leave policy options open.

Market reaction: Two-year bond yields, most sensitive to
monetary policy, might fall. But the move could be short-lived as
such a commitment is effective when markets are starting to
factor in the chance of a rate hike, which is not the case now.


Possibility: Highly unlikely

The BOJ already floods markets with cash as it did during its
five-year quantitative easing policy until 2006. It now targets
interest rates, whereas under its quantitative easing policy it
targeted liquidity.

But it is strongly against reverting to a formal quantitative
easing policy with a liquidity target, as it feels the policy did
little to boost the economy or beat deflation.

Achieving a liquidity target would also be tougher now as
banks are in less need of funds than early this decade, when
Japan was mired in a severe credit crunch, BOJ officials say.

Cutting the policy rate to zero from 0.1 percent is also
among the least favourable options, as it would discourage banks
from trading in the money market and make it hard for the BOJ to
guide short-term rates.

One possibility might be to keep the policy rate target at
0.1 percent, but add a line in the BOJ’s statement to say it will
allow the overnight call rate to slide below the target until
markets stabilise. By doing so, the BOJ would give itself the
option of flooding markets with cash without changing the
official target of keeping the overnight call rate at 0.1

Market reaction: The shift would come as a surprise and
sharply push down money market rates, bond yields and the yen.
($1=86.19 Yen)
(Editing by Michael Watson)

BOJ FOCUS-Yen may nudge BOJ to act but any move seen minor