• The Bank of Japan announced two new policy measures this week, aiming to target the interest rate on the longer-end of the curve at zero, and pledging to let inflation overshoot the target – effectively committing to be slightly irresponsible. Still, a lack of an interest rate cut fanned the view that the BoJ may be running out of ammunition, which together with fears that these moves are too late, has thrown into question the efficacy of the new measures.
  • The Fed also left its policy rate unchanged on Wednesday, albeit only “for the time being.” The case for a rate hike has strengthened, according to the Fed, with three members wanting to lift rates this week-exemplified by a rare triple dissent. The Fed has all but set itself up for a hike later this year, with most members remaining optimistic for the economic outlook. Having said that, future rate hikes are likely to be more gradual, with the Fed’s own projections toned down alongside potential growth estimates.


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This week has been rather an exhilarating one in financial markets. Alongside some weak data on domestic housing activity, investors were treated to two major central bank announcements Financial News- Chart 1midweek. The Bank of Japan was up first, tweaking its stimulative toolkit in a bid to better its odds in the long-running fight against the deflationary mindset. The Fed decision came later in the New York trading day, with officials releasing updated economic projections alongside the highly anticipated policy statement. After the dust settled, the dollar was broadly lower alongside long-term yields, while equities rallied as a result of the central bank action.
The Bank of Japan surprised many investors by adopting a couple of policy measures that were previously thought of as too radical by the bank. The first, referred to as yield curve control, aims to target the interest rate on the longerend of the curve at zero. The BoJ has essentially announced it will buy any 10-year JGBs should their price fall to that level. Secondly, Governor Kuroda pledged to let inflation overshoot the target – effectively committing to be slightly irresponsible. The BoJ also tweaked its QE allocation, aiming to buy more short-term debt to help steepen the yield curve and reweighing ETF purchases towards the domesticoriented Topix index away from the export-heavy Nikkei.
The BoJ did not lower interest rates, merely suggesting that such a move remains a “possible option for additional easing.” Lack of a cut fanned the view that the BoJ may be running out of ammo, which together with fears that these moves are too late, has thrown into question the efficacy of the new measures. The Bank has failed to fend off the deflationary mindset for years, with the pledge to overshoot only helpful if the target can be reached in the first place.

Across the Pacific, the Fed too, left its policy rate unchanged on Wednesday.Financial News- Chart 2 However, this is only “for the time being,” with the case for a rate hike strengthening according to the Fed. FOMC officials appeared optimistic for the U.S. economy, with the first-half weakness believed to be giving way to improving performance currently and job growth “solid, on average.” The Fed expects the labor market to strengthen “somewhat further” and feels that risks are now balanced – a shift from the downside flagged earlier this year.
As such, the Fed has all but set itself up for a hike later this year. Fourteen of the seventeen officials now expect a rate hike later this year. Moreover, three of the ten voting members wanted a hike this week – a rare dissent that highlights divisions on the Committee. The Fed has made significant progress towards its dual objectives, particularly on the jobs front, with most believing the U.S. labor market is nearing full-employment. At the same time, while inflation remains below target suggesting patience, lags in monetary policy and fears that the fully utilized resources will soon begin to manifest on prices level appear to be swaying more members to want to get ahead of the curve.
All this suggests that the Fed will move sooner, but proceed more gradually. Such a scenario is corroborated by Fed members’ own projections, which have been revised lower and suggest a shallower path for future rates. Given the U.S. Presidential elections, we expect the Fed will opt to wait until December to raise rates. This should be a short-enough delay to keep the hawks at bay, while providing enough time to gather evidence of U.S. economic resilience. Having said that, such an outcome is not assured, with risks ranging from global imbalances to U.S. elections far from immaterial.

Michael Dolega,  Senior Economist

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