By: Andrea Cohen
Now that we know how the elections in Japan ended, we should take a look at what’s in store for the Bank of Japan (BoJ), its monetary policy and the JPY.
As a reminder, the Liberal Democratic Party (LDP) and it’s political ally, the New Komeito Party (NKP) have won together 325 seats in the Lower House of the National Diet (294 and 31 respectively). With 480 seats in total, 325 is more than two-thirds. This portion is very significant because under the Japanese constitution, a two-third majority in the lower house can overrule the vote (and the veto) of the upper house. The upper house is still under the (borderline) control of Democratic Party of Japan (DPJ) but these results make this control irrelevant. In short – the elections ended up with LDP and its leader Shinzo Abe having a lot of power and the ability to implement pretty much any policy they decide on.
Abe has been a long opponent of the current line of action by BoJ and Noda’s government (DPJ leader and incumbent Prime Minister). The stalemate at which the Japanese economy is was at the center of the campaign and growth is the LDP’s main concern. Abe contended that monetary policy is not accommodating enough and that the BoJ is not aggressive enough in fighting deflation.
What is to be Expected:
First, the stance on fighting deflation is about to be taken up a notch. Right now, the BoJ’s inflation target is 1%. The market (as reflected in the inflation-indexed bond market) doesn’t think that the government will succeed in reaching this target anyway. Abe intends to force the BoJ to increase that target to 2% (force how? In a minute…) Although the aggressiveness alone is worth a few more basis points in expectations, the increase seems to be unwarranted. Unless Abe’s real goal is 1%, the 2% is not realistic, as the BoJ clearly lacks the power to even reach its current, more modest target.
Next there is the BoJ’s balance sheet. For the third time in the recent months, the BoJ last week increased the size of its asset purchase program. This is essentially Japan’s QE and Abe is pushing for making it even larger. This stimulus program should inject more funds into the market and help kick-start the economy. With interest rates at practically zero, the BoJ can’t use this tool to stimulate the economy.
It is important to note that the BoJ mandate is inflation, not growth. Unlike the Federal Reserve’s dual mandate, growth is not the BoJ’s problem. Abe addressed that by saying that the new government may change the law and make BoJ also accountable for job creation in addition to inflation. The independence of the BoJ was also threatened by statements about changing the law in a way that will align the BoJ goals with those of the government.
It is also important to note that in a few months (in April) the term of the President of the BoJ, Shirakawa is ending. As BoJ President is appointed by the Prime Minister, Abe already hinted that if the BoJ doesn’t “play nice”, then he’ll appoint a more cooperative (read: submissive) president.
Everything we hear and see from Japan indicates a more aggressive monetary policy and a weaker JPY. Abe himself mention 90 and a more acceptable level for the USD-JPY. This is a good opportunity to consider a long USD-JPY play, but with a horizon of at least a few months.