By ION SIORAS
From 1991 to 2021, inflation in Japan averaged at 0.3%. Since the end of 2021 to today, annual inflation has averaged at 2.8%. Trade frictions and geopolitically driven input cost spikes have brought inflation to Japan’s shores for the fourth time in 30 years. This time may be different however. In 2022 Sushiro, Japan’s largest conveyor belt sushi chain, was forced to raise its lowest priced “100 yen” plates for the first time in 40 years.
Base rates in Japan remain at -0.1% versus 4.0% in Europe and ~5.3% in the US and the UK.
A steady flow of global capital has taken advantage of these interest rate differentials to establish “carry trades” (borrowing to sell the low cost currency and buying higher yielding currencies) and push the yen to its weakest level since 1990 against the dollar and other major currencies.
The Bank of Japan continues to buy Japanese Government Bonds (JGBs) to set long term rates “around a target of 0%” and now owns roughly 54% of the outstanding Japanese government debt stockpile. This is again in contrast with comparable bond yields of around 4% in other developed markets.
In the face of all this, Japanese monetary settings may appear laisse faire to the point of dangerous complacency. The dials of the current policy were set by previous Bank of Japan Governor, Haruhiko Kuroda.
The ”Kuroda bazooka” fired in Mr Kuroda’s first monetary policy meeting in April 2013 was intended to act hand in hand with the government policy of “Abenomics” announced during that period. This bazooka or QQE took the form of an aggressive expansion of the monetary base through interest rate policy and asset purchases by the central bank.
Since his installation in April 2023, current Governor Kazuo Ueda has continued to operate within the framework inherited from his predecessor.
Multiple officials from the Bank of Japan, including Mr Ueda, have spoken of wanting a “virtuous cycle of rising prices and rising wages to develop”. In a conventional economy, talk of wage-price spirals are the stuff of central bank nightmares. Consumer inflation expectations are both poorly understood and difficult to shift, as a decade of global zero interest rate policy demonstrated.
Mr Ueda and his colleagues may finally be getting their wish, however. Annual shuntō (Spring wage offensive) negotiations have just concluded for 2024. RENGO, the confederation of Japanese unions, has announced a 5.3% salary increase for FY2024, after an increase of 3.8% in 2023.
Toyota likewise agreed to a 2024 bonus equivalent to 7.6 months of wages, one of many large Japanese corporates that have announced wage increases sometimes in excess of union demands.
It seems likely that the central bank will commence its exit of negative rate policy, with the first move likely to be raising rates from -0.1% to 0.0% or 0.1%. Other than signalling, such a move should do little to shake entrenched positioning in the market or the case for monetising still wide interest rate differentials.
More interesting will be the commentary around the anticipated path for policy and potential volatility may arise from changes to or the wholesale scrapping of government bond purchases to achieve “yield curve control”.
The April 2024 meeting has been signalled since last year as the most appropriate point for a re-assessment of monetary policy. The BoJ is thus very capable of kicking the can down the road a little while longer, as they seemed to do through much of late 2022 and 2023. However, once interest rate increases have begun and rate differentials narrow, we would expect the yen to end the year stronger against the dollar and other major currencies.
What will be harder to predict will be how global flows of capital may be reshaped by higher Japanese interest rates. Japanese savers and institutions have been a gigantic source of funds in global asset markets in their pursuit of escaping the depressed rates of return in their home currency.
What are the implications of this change in direction? As stated above, we expect further strength in the yen so our Japanese positions in portfolios are unhedged. We also suggest that investors not be unduly disturbed by the equities correcting upon strength of the yen. As long as the wider themes of improving corporate profits remain intact, we believe that Japanese shares are well positioned on a longer-term footing. Japan remains an overweight within Cerno multi-asset portfolios.