BOJ will debate ways to respond to flattening yield curve

The Bank of Japan’s policy review this month will debate unintended consequences of its stimulus program such as a flattening yield curve and potential pitfalls of its purchases of exchange-traded funds, sources familiar with the plans said.

The central bank may fine-tune its policy tools to address problems at its Sept. 20-21 rate review, for example by making its bond buying more flexible, according to the sources, who insisted on anonymity.

But they added that there is no consensus yet on what the best approach would be.

A final decision may not come until days before the review as the nine-member board is divided on whether there is room left to expand stimulus, the sources said.

“The key is to explain why the yield curve has flattened so much just by adding negative rates to asset purchases,” said one. “There may be room to consider steps to address this.”

Earlier, BOJ board member Makoto Sakurai told Reuters the yield curve has flattened more than expected. “One thing we could consider as a policy option is ways to change the shape of the yield curve.”

The debate on the costs of its policies will complement a more prominent element of BOJ comprehensive review, which is to defend its stimulus that combines negative interest rates with huge asset purchases.

WORRIES NOT DISPELLED

Japan’s yield curve flattened markedly after the BOJ in January adopted negative rates, surprising policymakers who did not expect super-long yields to fall so much in response to a step aimed at reducing short-term rates.

The curve has steepened somewhat recently. But the uptick in yields has failed to dispel worries by some central bankers that narrowing margins will hurt commercial banks and impede Japan’s financial intermediation.

However, intentionally steepening the yield curve won’t be easy. Some policymakers favor changing the base money target, which commits to printing money at an annual pace of 80 trillion yen ($772 billion), to a range. They say this would give the BOJ more flexibility in bond buying.

But critics fret that setting a range, such as 70-90 trillion yen, may give markets the impression the BOJ is having trouble buying bonds and might taper future purchases.

Another idea is to set an interest rate target, though this would face opposition from advocates of base money targets such as Deputy Governor Kikuo Iwata.

The BOJ’s decision in July to double its purchases of exchange-traded funds (ETF) has given rise to another headache that may be discussed this month.

While the BOJ doesn’t reveal details of its buying, analysts say it disproportionately benefits a handful of high-priced shares with heavy weightings in the Nikkei average.

The BOJ may discuss making some technical changes helping level out any discrepancies as part of a broader debate on how its policies affect markets, the sources said.

($1 = 103.63 yen)

Source: Reuters