The Bank of Japan (BOJ) is considering providing guidance on how it plans to reduce its $5 trillion balance sheet at its upcoming policy meeting. This marks a slow but steady retreat from its extensive monetary stimulus measures. The BOJ’s balance sheet has grown to nearly 1.3 times the size of Japan’s economy due to years of aggressive monetary easing.
Currently, the BOJ has pledged to continue purchasing approximately 6 trillion yen ($38 billion) of government bonds per month to prevent a sudden increase in bond yields after ending negative interest rates and bond yield control in March. While BOJ Governor Kazuo Ueda has mentioned that the bank will eventually decrease bond purchases, the timing of this reduction remains uncertain.
In April, the board discussed the need to reduce the bank’s balance sheet, including the possibility of slowing down monthly bond purchases or outlining a plan for the future. Sources have indicated that the BOJ may discuss tapering at the upcoming meeting, depending on market conditions following the U.S. Federal Reserve’s policy meeting.
If Japanese bond yields remain stable and the yen weakens, the BOJ may decide to slightly reduce monthly bond purchases from 6 trillion yen or adjust the monthly purchase range. However, some board members are against an early taper, so the central bank may opt for vague language committing to reducing future bond purchases instead.
As the BOJ aims to gradually increase short-term interest rates to levels that maintain economic stability, it must also start reducing its substantial balance sheet. This reduction is crucial to ensure that future rate hikes effectively decrease the level of monetary support. Analysts suggest that the BOJ needs to start tapering soon, as its balance sheet is significantly larger than that of the Federal Reserve.
One of the key risks involved in this process is Japan’s precarious fiscal situation, which could be exacerbated by sharp increases in bond yields. The BOJ must tread carefully to avoid destabilizing markets, as years of heavy intervention have made market participants reliant on its presence. Unlike the Fed, which followed a fixed schedule to reduce its balance sheet, the BOJ will continue to communicate its bond purchase plans monthly and reassure markets of a gradual tapering process.
In conclusion, the BOJ’s upcoming decisions regarding quantitative tightening will have significant implications for Japan’s economy and financial markets. It is essential for the central bank to strike a balance between reducing its balance sheet and maintaining market stability to support the country’s economic recovery.