Economic recovery for Japan to stay slow even after rates turn positive

On March 19th, after the Bank of Japan announced the end of its 17-year-long negative interest rate policy, the Japanese stock market remained bullish, while the yen continued its decline against the dollar, contrary to the usual logic of interest rate hikes. Typically, interest rate hikes tighten liquidity, causing stock markets to fall; as rates rise, capital flows in, leading to a rise in exchange rates. However, with the Japanese stock market, especially the yen-dollar exchange rate, breaking through the 150:1 mark again, what logic is implied behind this?

Japanese media indicates that the cessation of the negative interest rate policy merely marks a nominal exit from the Yield Curve Control (YCC) policy maintained for eight years. The Bank of Japan will continue to maintain an accommodative monetary policy environment, unlike the aggressive interest rate hikes seen with the Federal Reserve.

Based on comprehensive reports from Japanese media, in order to mitigate the stimulus and impact of interest rate hikes on the market, the release of information regarding the end of the negative interest rate policy has been more favorable: continued commitment to bond purchases, maintaining accommodation. The Bank of Japan's interest rate policy will be gradual, and given that Japanese rates are still in a low range, its impact on the expectation of a rise in the Japanese stock market is minimal.

It should be noted that the Bank of Japan has only ended negative interest rates, with rates rising to 0-0.1%, so there will be no substantial impact in the short term. Moreover, the status of the yen and the dollar are not equivalent, and Japan cannot sustain aggressive interest rate hikes like the United States. For Japan, which has just emerged from the shadow of deflation, drastic measures are not suitable; what is needed is "gentle healing."

In reality, the Bank of Japan's interest rate hike does not signify a new cycle; Japan's massive monetary easing environment will continue. Japan has a huge government bond market, with a scale of 130 trillion yen, nearly 2.5 times Japan's GDP. More than half of the holders are the Bank of Japan, with the rest mainly being Japanese financial institutions and individual investors. The Bank of Japan stated that if long-term interest rates rise rapidly, it may increase its purchases of Japanese government bonds and conduct fixed-rate purchase operations. In the event of a rapid increase in yields, the Bank of Japan will respond flexibly, such as increasing the amount of Japanese government bond purchases. Due to the enormous size of the Japanese government bond market, a hasty and substantial interest rate hike could lead to a collapse of the government bond market. The government bond market is Japan's largest bubble at present and can be said to be Japan's biggest financial risk, so Japan has always maintained an extremely cautious attitude towards interest rate hikes.

The upcoming March meeting of the Federal Reserve is highly anticipated. On one hand, the Bank of Japan's announcement to end the negative interest rate policy reverses the flow of yen, and the dollar flow is about to face the impact of the yen flow; on the other hand, since the beginning of this year, the continuous rise in inflation data announced by the United States has led to doubts about whether there will be a first interest rate cut in June, and even doubts about whether the Federal Reserve can achieve its 2% inflation target. At this point, the stance of the Federal Reserve becomes crucial.

Analysts at ING Group pointed out in a report: "The yen is struggling, possibly affected by the 'buy the rumor, sell the fact' effect. At the same time, we have repeatedly emphasized that the sustainable rebound of the yen depends to a greater extent on the decline in US interest rates rather than the Bank of Japan's interest rate hikes." Any major changes in the yen will largely be influenced by the Federal Reserve's March interest rate meeting.

Contributed by Ma Yuan, correspondent of Guangming Daily in Tokyo