Herding Cats

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by Tyler Durden
Friday, Jan 13, 2023 - 05:26 PM

By Bas van Geffen, CFA, Senior Macro Strategist at Rabobank

Sometimes central bankers must feel like they are herding cats.

In December, the Bank of Japan changed the parameters of its yield curve control policy to support the functioning of JPY bond markets. All the central bank did was to widen the fluctuation range for the 10y JGB yield from plus or minus 25bp to plus or minus 50bp, while the yield target was left at 0.00%. Governor Kuroda stated back then that this should make the yield curve control policy more sustainable, but markets took this as a signal of a potential bigger shift in the BoJ’s policy.

With a wider trading range allowed before the Bank of Japan intervenes, higher rates and higher volatility were a given. As such, Bloomberg reported last week that the Bank should first assess the impact of its previous decision before making more big changes to improve market functioning. Yet, yesterday, Japanese newspaper Yomiuri reported that policymakers will -again?- review the side effects of their highly accommodative policy stance next week, as they remain concerned about distortions in the bond markets.

All the more reason for traders to ramp up speculations of bigger policy shifts to come, forcing the Bank of Japan to intervene like Futurama’s Fry. The central bank spent JPY 4.6 trillion on Thursday –a record amount according to Bloomberg–, and intervened twice today. So much for improving the functioning of the JGB market?

Or – joining the herd of traders betting on further yield rises – is this really the BoJ’s attempt at exiting yield curve control without sparking a similar dumpster fire amongst e.g. LDI shops as the sudden rise in Gilt yields after UK’s mini-Budget? After all, aside from the central bank, Japanese pension funds are amongst the largest holders of JGBs.

The Bank of Japan may still be embracing the higher inflation rates in the country after it has been virtually non-existent for decades. However, they should be careful what they wish for. The Japanese Trade Union Confederation is calling for the highest wage increases since 1995, and PM Kishida has already called on employers to raise wages – which some companies are taking seriously. Fast Retailing announced earlier this week that it will raise Japanese wages by 40%(!)

US CPI data came in bang in line with market expectations, decelerating from to 6.5% y/y in December from 7.1%. That makes the December CPI the latest bit of evidence that inflation has probably peaked, supporting a further slowdown in the Fed’s pace. Several policymakers have already expressed their preference for a shift down to 25bp steps. But others are looking for a little more confirmation.

Bostic, for example said he’s happy to return to 25bp hikes if business contacts confirm the slower CPI. The deceleration in wage increases is also a positive development, but “the economy is still producing more than 200,000 jobs per month, which means that there is still a lot of momentum in the economy.” Bostic added that business leaders agree that business remains strong, and that they do not expect having to lay off staff.

Nonetheless, odds of a ‘regular 25 basis points hike from the Fed are increasing, putting USD on the backfoot. And with ECB communication remaining mostly hawkish, EUR/USD has climbed to around 1.085.

Although ECB officials continue to await signs that underlying inflation is also peaking, they will certainly welcome the latest ECB consumer expectations survey. Respondents’ inflation expectations have declined for the first time in months.