2 Reasons Why the BOJ Chose to Disappoint Markets This Week

Surprise! The BOJ sure knows how to catch the markets off-guard. When everyone was so sure that Japanese policymakers would announce changes in its monetary policy, they just sat on the sidelines!

In the central bank’s most recent rate statement earlier this week, the BOJ kept interest rates steady at 0.00%-0.10%. The amount of its asset purchase program was also maintained at 60 to 70 trillion JPY per year and it was also decided that the central bank would stick to its one-year fixed-rate loan facility despite calls for approving loans of two years or longer.

This was a big disappointment to a lot of investors. From what I’ve heard, majority of the whiz kids on Wall Street predicted changes in the BOJ’s monetary policy in order to stabilize Japan’s equity and bond markets, as well as tame the yen.

Thus, the BOJ’s decision led to a drop in USD/JPY. The pair declined bit by bit, incurring a loss of about 275 pips for the day.

USD/JPY 15-minute chart

So, why did the BOJ hold off from introducing more stimulus? I’ve come up with two reasons:

#1: The economy is improving.

BOJ Governor Kuroda very proudly announced that Japan’s annual GDP came in at 4.1%, marking the fastest pace of growth among the world’s largest economies.

His newfound optimism reflects the rise in exports, firm business investment and private consumption in the country, as well as increasing industrial production. To top it off, he also sounded confident about the bank’s efforts to end deflation in Japan. In the bank’s statement, he remarked that changes in the CPI would probably “gradually turn positive” soon.

#2: It might put the BOJ’s street cred to question.

Remember, the BOJ wants to hit 2% inflation within a two-year time frame. Currently, the duration of its fixed-rate funds-supplying program is capped at 1 year. If it extends the duration of its program and provides funds beyond two years, the markets may take this as a sign of their lack of dedication towards meeting their inflation target.

Plus, you have to keep in mind that the BOJ launched its bold new program just a couple of months ago. Policymakers probably didn’t see much reason for additional measures just yet, especially since growth in Q1 2013 outpaced forecasts.

So what’s next for the BOJ?

Well, if there’s one thing the BOJ’s inactivity has taught us, it’s that the BOJ ain’t gonna let a few wild swings in bond yields influence its decisions. It seems as though the BOJ will be maintaining its wait-and-see approach in the months to come, waiting for further cues from the economy.

My guess is that the central bank won’t act until we see further economic deterioration, or perhaps if deflationary threats reemerge. What do you think?