The recent experiment of the Bank of Japan with negative
interest rates has not produced any encouraging results till date, and thereby
Japan's central bank is running out of options. Given the current situation of
affairs with the central bank, it's no wonder that analysts are speculating
that the most probable next move of the Bank of Japan will have to be the
massive acquisition of assets from the stock market.
Jonathon
Price, the director of Mergers & Acquisitions for Nikko Holdings who oversees
all corporate allocation of assets explains: "They have tried
using negative rates to stimulate the markets but you and I know that it hasn't
worked, so we are anticipating that their next move will probably be directed
at the stock markets". This further quantitative easing expected of the
bank is due to the fact that inflation still remains well below the 2 percent
mark targeted by the bank. This situation has also resulted in bleak economic
forecasts for the Japanese economy. The next policy announcement from the bank
is scheduled for the 28 of April. It may
then become clear if the government will be making any moves to stem the
strengthening Yen, which is creating concerns among exporters that stand to
lose their competitive advantage due to a stronger Yen and therefore more
relatively expensive exports.
The central bank has traditionally focused its massive 80
trillion Yen, about $700 billion a year quantitative easing budget on the
purchase of Japanese government bonds (JGBs), Japanese Real Estate Investment
Trusts (J-REITs) and selected Exchange Traded Funds (ETFs). But that strategy
seems to be reaching its limitations now as the Bank of Japan currently holds
over 30 percent of Japan's government bonds. Jonathon Price explains further:
"What all this has come down to now, is just a massive build-up of excess
currency reserves in the country's banking system."
The negative interest rates had a negative effect.
Having piled up enough government bonds, the BOJ must have
in desperation turned to negative interest rates in January. As it turns it,
the negative rates policy has not brought about much positive results. Rather
than the expected weakening of the Yen with this policy, the currency instead
continued to strengthen.
A survey of some of Japan's largest manufacturers last week
by the central bank showed that the majority of manufacturers maintain a
negative outlook especially after the disappointment of the negative rate
policy. It will most definitely be disastrous for the BOJ to further pursue
negative rates; therefore a change in policy is most definitely due.
All these conditions indicate a possible change of policy
for the central bank, with the purchase of stock market assets being the most
likely move.
Mr. Price of Nikko holdings explains that the central bank
is expected to increase its purchase of Exchange Traded Funds by about 5
trillion Yen, with a comparable increase in the purchase of J-REITs.
The central bank may also increase its JGB purchases, a move
which is favored over the purchase of foreign bonds or instruments. As the
prime minister, Shinzo Abe has said recently, the Japanese government and
economy must avoid all forms of competitive devaluation and that he thinks the
government must stay away from all manner of intervention in the currency
markets. Without such a strong statement from the prime minister, it would have
been safe to assume that the central bank may try to purchase foreign bonds.
Such a move will most likely bring about the desired weakening of the Yen,
solving one problem at least, but with the prime minister's statement, any such
announcements are not expected in the next policy meeting statement.
Jonathon Price explains that the prime minister's statement
is a bad signal to the market and to investors, meaning that the bank will not
be stepping in to stem the strengthening Yen. This is an especially very
difficult period for corporate Japan as most Japanese corporations are hedged
at 115, therefore the Yen, which is currently at 109 is bleeding them dry and
if it goes lower, then the effects will even be more disastrous.
The Yen is currently at 109.47 Yen to the Dollar, which is
its strongest rate since October 2014.
Although the Yen traded at 120 Yen to the Dollar in January
of this year, its rapid strengthening and sustained strength poses a huge
economical problem to an already economically troubled Japan.
At the current state of the economy, a snowball effect may
even be developing, because if there ever happens to be a widespread posting of
losses from corporate Japan, as a result of a strong Yen, then consumer
spending will fall again and inflation may probably never reach the central
bank's target of 2 percent. There have been hopes of wage increases, which
should then encourage consumer spending and therefore stimulate economic
growth. But with Japanese companies facing tough times, those hopes are now
jeopardized. If these difficulties continue and the firms' losses are
sustained, then the central bank will definitely find itself exactly where it
started.
But the central bank may get it right this time
The Central Bank of Japan has not always gotten it wrong.
"Take for instance the inflation figures", notes Mr. Price, Japan has
the best inflation performance of all the G10 countries. Over the last three
years, the economy was able to reverse a slight economic recession with an
inflation rate of a negative 0.5, into a 1 percent inflation rate. "The
central bank's performance is definitely laudable", adds Mr. Price.
There is also some comforting news from the Tankan report
that was published last week.
Although it basically reported grim economic news, Mr.
Jonathon Price explains something rather interesting: "There was a
substantial improvement of the lending attitude diffusion index of medium and
small businesses within the fourth quarter from positive-20 to
positive-17."
This was before the adoption of negative interest rates in
January, but Mr. Price considers this metric to be a good indicator of domestic
demand, because according to him "small and medium enterprises comprise an
essential part of every economy which includes real estate and construction.
You can therefore use this metric to gauge economic growth."
As had happened with the Swiss Francs a few years ago, it is
also very possible that the rise of the Yen is due to increased international
demand of the currency because it is a safe-haven currency. In such a situation
as it also happened in Switzerland, the foreign influx of cash was so enormous
that it started to actually hurt the economy, especially exports.
Another reason for the strengthening Yen may be the
weakening U.S Dollar, although a weak Dollar alone will never make a strong
Yen.
Another reason, and a very probable reason at that, is that
the strengthening of the Yen is caused by speculative traders who are covering
their large Yen positions. These are people who bet heavily on the
effectiveness of the Bank of Japans policies and quantitative easing efforts.
They are reportedly closing those positions now to cut their loses.
Established in 2006, Nikko Holdings is
an independent, full-service brokerage, wealth management and business
management provider dedicated to providing wealth preservation solutions from
Asia to Europe for affluent individuals, families and Institutions.
Corporate headquarters based in Tokyo, Japan, which
are responsible for the oversight of more than $6.5 billion-worth
of assets on behalf of esteemed clientele located in Europe, and
Asia.
