Japan announced an increase in interest rates. This is the first initiative in this direction by the Asian country for almost twenty years.
The last time Japan raised its interest rates was in 2007. Since then, the country of the rising sun has adopted a negative interest rate policy. What does this turning point represent for the market and for the country? What is behind this decision by the Bank of Japan and what consequences could it have?
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Overview of the Japanese economy
Before delving into the merits of Japan’s decision to increase its interest rates, it is important to make a premise about the Japanese economy. Japan, like many other Far Eastern countries, has an economy focused mainly on exports.
In other words, Japan is a major exporter, think of the robotics, automotive, IT, video game markets, etc. All sectors in which the Japanese country plays a global leading role.
Having an export economy, Japan benefits, on the balance of payments, from a weak currency. An increase in interest rates makes the Yen more expensive, and this affects the exchange rate with other currencies.
Japan increases interest rates on the Yen
The Bank of Japan has announced an increase in the interest rate on the Yen which puts an end to the negative interest rate policy which goes from the previous -0.1% to 0%.
In addition to the rate increase, Japan also announced a progressive abandonment of the yield control program, known as YCC. This is active since 2016, the year in which interest rates fell below 0%. Other announcements on Tuesday 19 March also included the suspension of massive purchases of risky assets such as Exchange Traded Funds (ETFs).
The reason for this significant U-turn by the Japanese government is linked to the new strategy for relaunching sustained growth. According to reports from the BoJ, the country’s economy is currently in a vicious circle in which wages and prices are intertwined, specifically wages have increased significantly, allowing the Japanese to cover the increase in prices, but not enough to reduce company profits.
The consequences for Japanese bonds
Japan’s new monetary policy immediately raised the first doubts about consequences and effects, positive and negative, in particular the effects on bonds.
According to Tomoyo Masanao, co-head of Asia-Pacific portfolio management at PIMCO Japan, the medium- and long-term implications could be significant, as the potential scope of this monetary policy change implemented by the BoJ could be greater than what is currently foreseen by the financial markets.
Many investors also believe that the Japanese bond market is expected to offer higher risk premiums and generally higher returns in response to the BoJ’s policy adjustments.
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