The IMF has warned that an abrupt change in Japan’s ultra-loose monetary policy would have “significant spillover effects” on global financial markets and underscores the need for the Bank of Japan to clearly communicate its future policy.
In an interview, Gina Gopinath, the IMF’s first deputy managing director, urged the BoJ to take a flexible approach to controlling government bond yields, as she warned of “significant upside risks” to inflation in the near term.
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She added that Asia’s most advanced economy is at “a delicate juncture”. The BoJ, which is set to have a new governor in April, is under mounting market pressure to back away from long-standing easing as Japan’s core inflation rate climbed to a 41-year high of 4 percent. It faces the challenge of maintaining its accommodative monetary policy stance in order to meet its inflation target while avoiding overshooting and turbulence in foreign exchange and bond markets.
“We still believe it is important that monetary policy remains very accommodative at this point. Yield curve control is part of that toolkit,” Gopinath said during her visit to assess Japan’s economy.
“In the near term, we see significant upside risks to inflation. The increase in flexibility [in managing the yield curve] would help.”
The central bank slightly raised the yield cap on 10-year Japanese government bonds in December, but it has not changed its massive easing measures any further, arguing that price hikes have not led to a rise in wages that would sustain its 2 percent inflation target to reach.
The IMF suggested that the BoJ could consider three options to allow flexibility in long-term JGB yields: widening the 10-year band around the yield target and/or raising the 10-year target; shorten the yield curve target; or switch to a volume target of JGB purchases.
“In the scenario where significant upside inflation risks materialise, the pullback in monetary stimulus needs to be much stronger,” it said in a statement.
Longer-term, however, the IMF expects Japan’s core inflation, which excludes volatile food prices, to peak in the first quarter of this year and gradually decline to below 2 percent by the end of 2024. He expects growth to slow from 1.8 percent in 2023 to 0.9 percent in 2024.
“We still believe that there is not enough evidence that inflation is sustained at the 2 percent target,” Gopinath said.
In December, the BoJ stunned investors by announcing that it would allow 10-year government bond yields to fluctuate 0.5 percentage point above or below its target of zero, replacing the previous 0.25 point range. Last week she presented an expanded lending program to banks to stabilize the yield curve.
During a policy meeting last week, BoJ executives also said the central bank must continue with its current YCC policy, noting that it would take time to sustainably meet its inflation target.
“The bank should carefully explain that it needs to continue monetary easing, that its accommodative policy has not been changed and that it will take some time before the price stability target of 2 percent is sustained and stable, as wage increases are not yet full mature,” the board members said, according to a summary of opinions at the meeting released Thursday.