All roads lead towards BoJ this week - BBH

Research Team at BBH, suggests that the Bank of Japan's two-day meeting concludes on July 29 and as the meeting begins, Japanese officials will be reminded of the state of the economy.  

Key Quotes

“Despite a relatively tight labor market in terms of a low unemployment rate and a high jobs-to-applicant ratio, consumption remains poor.  

Simply put, the aggressive expansion of the BOJ's balance sheet has not lifted consumer prices, and it is not clear that the asset purchases are even lifting the price of those assets.  Headline CPI in Japan will likely stand at minus 0.4% at the end of H1 16, as will the measure for which the BOJ ostensibly targets, which excludes fresh food.  

The BOJ does not consider its current aggressive monetary stance "helicopter money" but some observers do.  The magnitude of its purchases of government bonds arguably blurs the distinction between monetary and fiscal policy.  The fact that banks disintermediate the process, and seem to be less inclined to do so, does not alter the consequences.  

The BOJ' s stance has three dimensions:  the quantity of assets being purchased, the quality of those assets (hence QQE), and interest rates.  A rate cut, putting the deposit rate into deeper negative territory, or including a greater amount of deposits into the negative rate category would be an affront to Japanese banks, who argue it is disruptive.  The experiment with negative rates has been fascinating but it has not yielded the desired results, but it has weakened the financial system and inflicts a hardship on the elderly.  

Increasing the quantity of assets being purchased is possible, but the current pace of JPY80 trillion is aggressive in at least two ways.  The first is relative to the what other central banks did relative to the size of the underlying economy, and the second is relative to the market.  While much of the focus on the shortage of assets has been in Europe, BOJ purchases are creating liquidity distortions.  

That leaves the quality of the assets that the BOJ purchases to be the least disruptive dial to turn.  ETF purchases, for example, may be an attractive place to pump with newly created central bank credits.  There may be scope in some of the other asset classes the BOJ buys to tweak a little.  

Of course, it is difficult to have much confidence in predictions of what the Kuroda will do.  He himself might not know.  We suspect the risk is greater that Kuroda disappoints expectations rather than announcing another large burst of monetary stimulus.  

We are also concerned that the fiscal plans may disappoint as well.”