Bank of Japan Widens Yield Curve Control Band, Triggering Jump in Yen

Haruhiko Kuroda, Bank of Japan Governor, delivers a speech at the Tokyo International Financial Forum 2022 in Tokyo on Nov. 15, 2022. (Kazuhiro Nogi/AFP via Getty Images)

The Japanese yen rose 3 percent against the U.S. dollar on Tuesday after the Bank of Japan (BOJ) modified its yield curve control (YCC) band, allowing long-term government bond yields to trade in a wider range.

The BOJ has decided to raise Japan’s 10-year government bond yields from 25 basis points to 50 basis points as part of efforts to enhance the sustainability of monetary easing, according to its policy statement (pdf).

The bank said that it would also increase monthly purchases of government bonds from 7.3 trillion yen ($55.16 billion) to 9 trillion yen ($67.5 billion) per month.

The yen surged following the move, but Japan’s Nikkei 225 plunged 2.46 percent to 26,568.

BOJ Governor Haruhiko Kuroda said the move was aimed at ironing out distortions in the shape of the yield curve and ensuring the benefits of the bank’s stimulus program are directed to markets and companies.

“Today’s step is aimed at improving market functions, thereby helping enhance the effect of our monetary easing. It’s therefore not an interest rate hike,” said Kuroda, whose term as BOJ governor is due to end in April next year.

“This change will enhance the sustainability of our monetary policy framework. It’s absolutely not a review that will lead to an abandonment of YCC or an exit from easy policy,” he told reporters.

The BOJ maintained its YCC targets, set at minus 0.1 percent for short-term interest rates and around zero for the 10-year bond yield, following a two-day policy meeting that ended on Tuesday.

Japan’s Yield Curve Control

Erik Norland, executive director and senior economist of CME Group, said that Japan’s YCC contributed to its balance sheet expansion to more than four times that of the U.S. Federal Reserve relative to their respective GDPs.

“Should the BOJ opt to end the 0.25 percent cap on [10-year government bonds], the decision could ricochet through the global bond market,” Norland stated in his article published on the CME website on Nov. 29.

“Part of the reason why the yen has been so weak is that with domestic yields capped, Japanese investors have often sought better returns on fixed-income instruments abroad. As such, depressed yields on Japanese government bonds may have prevented yields on foreign bonds from rising further than they might have otherwise,” he added.

Norland said that a potential end to Japan’s YCC could have implications on equity investors, particularly in the Japanese equity market, as some local investors view their equity investments in yen terms.

“If the Japanese yen were to rise on the news of an end to yield-curve control, it could send Japanese stocks lower, at least when seen from a yen perspective. By contrast, a sudden rise in the yen versus the dollar could boost returns to U.S. dollar investors who do not hedge their currency exposure,” he said.

Former BOJ executive Kazuo Momma said on Nov. 24 that the BOJ must eventually abandon YCC and revert to a policy that guides short-term rates around zero, given the rising cost of prolonged easing.

“That’s hard to do next year, when Japan’s economy face headwinds from slowing global growth,” he said in an interview with Reuters. “It’s more likely to happen in 2024, when the economy recovers and there’s more clarity on whether wages would rise sustainably.”

Prolonged ultra-low interest rates have hurt the profits of financial institutions, while the BOJ’s relentless bond buying to defend its yield cap has distorted the shape of the yield curve.

Momma said that BOJ policymakers will likely pay more attention to such side-effects and begin laying the groundwork for an eventual shift away from YCC.

Reuters contributed to this report.