Background – Back in in September 2016, the Bank of Japan (BoJ) had instituted the Yield Curve Control (YCC) policy, targeting the 10-year bond yield to remain around zero and had widened the band to 0.5% in December 2022. The new Governor Kazuo Ueda to take over the helm this month and talk to end the YCC has been gaining traction.

The Case to end the YCC – Inflation in Japan rose above the 2.0% for the past few months as the weak Yen pushed import prices higher. Reuters survey back in February 2023 pointed to 14 of 26 economists (54%) expecting the YCC to end this year. The new BoJ governor had indicated about the potential change.

What could be preventive of the end – Inflation is also largely driven by the weak Yen, hence, its landscape would change on any reversal in currency weaknesses. Moreover, growth appeared to be subdued and exports has been slowing thus far in 1Q2023. Weakness in technology sector coupled with headwinds among trading partners do not point to potential rebound in shipments soon. Finally, global growth outlook in general has a newly added risk factor given banking sector turmoil in the US and Europe.

IMF and Local Investors’ Perspective – The International Monetary Fund (IMF) urges the BoJ to consider greater flexibility at longer-end yields i.e., determined by market forces. Local investors, meanwhile, have started to eye for a retreat from YCC as observed from net flow position in Exhibit 5. The end of YCC means higher onshore yields. If this trend continues, reallocation to domestic market is likely to re-shape global liquidity situation.

Our Viewpoint – Should inflation remains well above the target level, banking turmoil is proven to be contained, and earnings appeared to have risen sustainably, then the probability for YCC to end is higher. Historical guidance from the Reserve Bank of Australia’s (RBA) experience in abandoning its yield control in November 2021 showed the 10-year yield rose in excess of 100 bps but the caveat was that it came about the same time during global bond market sell-off. Japan, on the other hand, is on its own as other major central banks are already at the tail-end of their respective tightening cycles.

Source: AmInvest Research - 5 Apr 2023