The Bank of Japan kept interest rates unchanged, announcing that it will not decide to reduce its bond-buying program until next month, causing the yen to fall close to the "intervention range"

The Bank of Japan (BOJ) maintained interest rates on Friday, but indicated that the reduction in bond purchases will be announced at the July meeting, effectively delaying the normalization of monetary policy.

On June 14, the BOJ announced its latest interest rate decision, keeping the benchmark interest rate unchanged at 0-0.1%. The committee unanimously agreed on the rate decision, aligning with market expectations.

Regarding bond purchases, the BOJ was vague, announcing a reduction in the amount of government bond purchases but currently continuing to buy bonds as decided in March. The plan to reduce bond purchases will be announced at the next July meeting, determining the bond purchases for the next 1-2 years. The BOJ stated that a "Bond Market Working Group" meeting will be held to discuss government bond purchases.

Committee member Nakamura voted against the reduction in government bond purchases, believing that the evaluation of economic activity and inflation progress should be reassessed in the outlook report in July 2024 before deciding on a reduction in purchases. However, he supported the idea of reducing the amount of bond purchases.

As the BOJ did not meet expectations in reducing bond purchases, the Japanese yen fell, and the USD/JPY rose by 70 points in the short term, reaching a high of 157.77.

Nikkei 225 index futures rose, opening up 0.5% at midday, while the TOPIX index rose by 0.7%.

After the interest rate decision, Japanese benchmark 10-year government bond futures continued to rise, up by 70 basis points.

Mild Increase in Inflation Expectations, Economic Uncertainty Persists

On the inflation front, the BOJ stated that the year-on-year core CPI growth rate is currently between 2.0% and 2.5%, with service prices continuing to rise moderately, reflecting factors such as wage growth.

The BOJ expects potential CPI inflation to gradually rise as it anticipates an improvement in the output gap, with medium to long-term inflation expectations strengthening with the continued benign cycle between wages and prices.

In terms of economic growth, the BOJ mentioned that the Japanese economy is experiencing a mild recovery, but some regions are showing weakness. Overall, overseas economies are growing moderately, with exports remaining broadly stable. However, industrial production has continued to decline recently due to the impact of some automakers halting production.

The BOJ also emphasized that the Japanese financial environment remains accommodative.

Looking ahead, the BOJ stated that with continued moderate growth in overseas economies, coupled with accommodative financial conditions and the gradual strengthening of the benign cycle from income to spending, the Japanese economy is expected to continue growing at a pace higher than its potential growth rate. While the transmission effects of rising import prices on consumer prices are expected to weaken, the year-on-year CPI growth rate is projected to be pushed up by the 2025 fiscal year.

However, there remains high uncertainty in Japanese economic activity and prices, including the development of overseas economic activity and prices, commodity prices, and the wage and pricing behavior of domestic companies. In this context, it is necessary to closely monitor the developments in the financial and foreign exchange markets and their impact on Japanese economic activity and prices

BOJ's Slow Action, Market Expectations "Too Advanced"

Previously, the market expected that the Bank of Japan would announce a reduction in bond purchases at the June meeting and a possible 25 basis point rate hike at the July meeting. Now it seems that the market expectations are a bit too advanced.

Analyst Gearoid Reidy stated:

In fact, a characteristic of the Bank of Japan led by Haruhiko Kuroda is that the actions are very slow. It took Kuroda almost a year to raise interest rates to zero. This is one of the reasons why I think the market's speculation that "the Bank of Japan will raise interest rates twice again this year" is too advanced.

Hirofumi Suzuki, Chief FX Strategist at Sumitomo Mitsui Banking Corporation, mentioned that the BOJ has sent a "dovish" signal:

Surprisingly, the Bank of Japan did not make a decision to reduce bond purchases this time. The Bank of Japan stated that it will decide on a specific bond purchase reduction plan for the next one to two years at the next meeting. Therefore, this outcome is considered dovish. For the foreign exchange market, this may be a reason for the depreciation of the yen.

Takeshi Minami, an economist at Norinchukin Research Institute, believes that the Bank of Japan is facing difficulties in determining the appropriate amount of government bond purchases:

They may think that if the Bank of Japan significantly reduces bond purchases without consulting bond market professionals, leading to a surge in yields, it would be a bad thing.

Yen Falls Near "Intervention Zone", JGBs May Resume Decline

Today's decision by the Bank of Japan has a familiar feeling compared to the April meeting, with the action falling short of expectations. The depreciation of the yen may accelerate as it did last time.

Christopher Wong, FX strategist at Oversea-Chinese Banking Corporation, mentioned:

The USD/JPY may challenge the previous high of 160, which should increase intervention risks. However, intervention is at best a choice to slow down depreciation, not a tool to reverse the trend. For USD/JPY to meaningfully decline, the dollar needs to show goodwill or the Bank of Japan needs to signal emergency normalization. These seem unlikely to happen, and the path of least resistance for USD/JPY is upward.

After the Bank of Japan's decision in April, the USD/JPY gradually climbed throughout the day, entering the 160 area on the following Monday, prompting Japanese authorities to intervene. Analysts believe:

FX traders will question how much the Japanese Ministry of Finance is prepared to spend this time after buying a record amount of yen in recent rounds of intervention. If the USD/JPY rises above 158, it may quickly trigger investors to accelerate buying of dollars, with the current distance to touch that area being only a few points.

The performance of JGBs is also not optimistic, with Japanese government bonds falling by about 3% this year. Analysis suggests that once the Bank of Japan's action to unwind short positions ends, JGB futures will resume their recent decline.

This is actually delaying the normalization of monetary policy, leaving uncertainty about what actions the largest holders of Japanese government bonds will take, so investors will demand clearer information about Japanese government bonds and the risk premium will be higher. The implied volatility of JGB futures is at a three-month high, but it may rise further before the next meeting on July 30-31