Written by Laika Kihara
STRESA, Italy (Reuters) – Japan renewed its push to counter excessive decline in the yen at a weekend meeting of Group of Seven (G7) financial leaders, after a recent rise in bond yields to a 12-year high failed to slow the currency's stubborn decline. .
The efforts by the government and the central bank highlight the dilemma facing policymakers as they seek to balance the need to halt a sharp decline in the yen that is hurting consumption, while keeping borrowing costs low to support the fragile economy.
After pressure from Japan, the G7 finance ministers confirmed in a statement issued after their meeting in Italy on Saturday their commitment to warning against excessive fluctuations in foreign exchange rates.
The agreement came after Masato Kanda, Japan's chief currency diplomat, spoke on Friday of the opportunity for renewed intervention in the currency market, telling reporters that Tokyo was ready to act “at any time” to confront the excessive movement of the yen.
“If there are highly volatile movements that have a negative impact on the economy, then we need to take action, and doing so will be justified,” he said.
Bank of Japan Governor Kazuo Ueda, who also attended the G7 meeting, noted that weak consumption or rising bond yields would not hinder monetary policy normalization.
Ueda said on Thursday that the decline in gross domestic product in the first quarter did not change the Bank of Japan's view that the Japanese economy is on track for a moderate recovery. Analysts said the Bank of Japan is likely to raise interest rates in the coming months if the economy moves in line with its expectations.
He also refrained from speaking out against the recent rise in yields to a 12-year high, which was partly driven by market expectations that the Bank of Japan will soon embark on a full reduction in bond purchases.
“Our basic position is for the markets to determine long-term interest rates,” Ueda said on Saturday when asked about recent increases in long-term interest rates in Japan.
These statements came in the wake of a series of hawkish signals from the Bank of Japan, which strengthened market expectations of raising interest rates in the near term, or reducing its huge purchases of bonds.
Ueda ruled out using monetary policy to influence the yen's movement. But he stepped up his rhetoric against the impact that a weak yen could have on inflation, after the currency's decline led to suspicions of government interference in yen purchases on April 29 and May 2.
A Reuters poll showed that many analysts expect the Bank of Japan to raise interest rates in either the third or fourth quarter of this year.
Data cloud forecasts
Ueda also noted the Bank of Japan's willingness to slow interest rates but raise them steadily, if inflation permanently reaches its 2% target in the coming years as expected.
But the data so far has not been promising. Consumption is weak because rising wages have not kept pace with rising costs of living.
Inflation in the services sector, which the Bank of Japan closely monitors as a leading indicator of underlying price trends, also remained steady.
“Services inflation is likely to peak,” said Junichi Makino, chief economist at SMBC Nikko Securities. “It does not look like core inflation will accelerate towards 2%.”
Given these weak signals in the economy, some analysts are turning their attention to whether the Bank of Japan will reduce its bond-buying program as part of efforts to slow the yen's decline.
Ueda ruled out using the Bank of Japan's bond-buying program as a monetary policy tool, after it exited radical monetary stimulus in March. But markets are still focusing their attention on the Bank of Japan's market operations for clues about when it will start tapering.
Some analysts expect the Bank of Japan to make a decision on reducing bond purchases as early as its next policy meeting in June.
Market expectations of a reduction in bond purchases in the near term helped push Japan's benchmark 10-year government bond yield to a 12-year high of 1.005% on Friday.
But the rise in yields failed to give the yen much support. The currency reached 156.98 to the US dollar on Friday, not far from the lowest level in more than three weeks of 157.19 it touched on Thursday.
“While markets seem excited about the chance of a policy shift, the Bank of Japan is likely to be calm about all of this,” said Mari Iwashita, chief market economist at Daiwa Securities, who ruled out the chance of a decision to scale back monetary stimulus in June.
“Moreover, there is no guarantee that such a measure can stop the yen's decline.”
