BOJ commits to being irresponsible

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From Alliance Bernstein:

The last day of October is typically greeted with a flurry of excitement. Halloween trick-or-treating, my wife’s birthday and, this year, an extra surprise from the Bank of Japan (BoJ)—another aggressive monetary policy easing, in the form of an accelerated balance sheet expansion.

In fact, the BoJ’s actions in the afternoon of October 31 can be seen as the final act in a three-part play of the day.

Coordinated Action?
First, the Nihon Keizai Shimbun (Nikkei) newspaper reported that the Government Pension Investment Fund (GPIF) would imminently announce new asset allocation targets, with two big surprises relative to market expectations: holdings of Japanese government bonds (JGBs) were to be reduced from 60% to 35%, and domestic stocks increased from 12% to 25%.

Some shift in both asset classes was anticipated, but this would take the reallocation a step further. Clearly it is an additional negative for the yen, given the unhedged nature of the foreign asset purchases and the fact that the JGB selling puts additional pressure on the BoJ to be on the other side of the adjustment. With JPY127 trillion of assets under management, GPIF is the world’s largest pension fund, and even a small change in allocation can affect financial markets.

Second, the daily Yomiuri Shimbun put some additional shape around a proposed supplementary budget in November— claiming that the government was considering measures of JPY3–4 trillion (or 0.6%–0.8% of GDP). This is being interpreted—rightly in my view—as signaling that Prime Minister Shinzo Abe intends to push ahead with the second tranche of the consumption tax hike as planned next October.

The first tranche of the increase, from 5% to 8% was delivered in April, causing a larger-than-expected slowdown in the economy, and a decision on the second leg, to 10%, is due by year-end.

The prospect of the tax hike being pushed through, in turn, puts the pressure on the BoJ to continue stimulating the economy, acting in harmony with the government to keep the prime minister’s “Abenomics” initiatives on track.

Another Bazooka Easing
And then, on cue, the BoJ delivered another blast from the bazooka. The key measures in the easing were: (1) increasing the money base at an annual pace of JPY80 trillion per annum (from JPY60–70 trillion previously); (2) increasing the annual JGB purchases to about JPY80 trillion (from JPY50 trillion); (3) increasing the average maturity of the JGB purchases to 7–10 years (up to three years longer than before); and (4) tripling the amount of equity ETF (exchange-traded fund) purchases to JPY3 trillion per annum and that of J-REITs (real estate investment trusts) buying to JPY90 billion.

Resetting Inflation Expectations
Note that the BOJ decision was not by a consensus vote. The ballots went five to four, and the announcement was about an hour and a half delayed—cleaning up the blood on the floor, presumably. But it says that BoJ governor Haruhiko Kuroda’s position is strong enough to reinforce the idea of a regime change at the central bank—critical, in my view, for resetting inflation expectations, which have been somewhat dampened in recent months.

With respect to scale, note that this means that the BoJ is now committing to expanding its balance sheet at a pace of 17% of GDP per annum—the equivalent of the US Federal Reserve’s QE1, QE2 and QE3 crammed into one year, with a commitment to keep on doing it until the inflation targets come within reach. The government’s budget deficit, and thus the net bond issuance requirement, is around JPY40–45 trillion.

So the BoJ is buying double what the government is printing— almost fulfilling what Nobel Prize laureate Paul Krugman coined as the “commitment to be irresponsible.”

In any case, the BoJ’s actions show, once again, that we should be wary about pronouncing the death of the Abenomics experiment prematurely. The First Arrow, at least, is still in flight.

About the author
David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal. He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.