QE in Japan Nears End: Daiwa Capital Markets

The Bank of Japan’s desperate head fake.

The US stock market was a coiled spring. Stocks had been pushed down relentlessly. Short interest was huge. We’d been expecting a big rally. It just didn’t materialize for longer than a day or two. But on Friday, that coiled spring was released, and stocks bounced nearly 2.5%, to produce the worst January since 2009.

The market had received a couple of central-bank signals that it interpreted as “more free money.” That’s the only thing markets care about anymore.

One of those signals came from the Bank of Japan. As the economy has deteriorated recently, despite years of QE and a near-eternal zero-interest-rate policy, the BoJ decided to cut one of its deposit rates from +0.1% to -0.1%. Headlines screamed Japan had gone “negative,” that it had joined the NIRPs of Europe.

It was a head fake.

It revealed a desperate out-of-options central bank whose scorched-earth monetary policies have led nowhere. And it was a surprise. This is how Daiwa Capital Markets Europe, a subsidiary of Daiwa Securities Group in Japan, explained the phenomenon:

Every time we’ve heard from BoJ officials over the past couple of years there has been one consistent message – imposing a negative interest rate on excess reserves was not on the agenda, not least since it could work against its asset purchase program. And as recently as last week, Kuroda was brazenly asserting that the BoJ was not seriously considering a cut in the interest rate paid on excess reserves.

A year ago, it was the Swiss National Bank that roiled markets when it did what it had vowed it wouldn’t do: abandon the cap on the franc. The franc soared, stocks plunged, currency traders went over the cliff, and everyone learned that central banks, despite their promises, might ruin you.

On Friday, it was the BoJ that pulled that trick. For heightened impact, it rebranded its new promise of wealth creation or whatever as “QQE with a Negative Interest Rate.”

But the head fake goes deeper.

Turns out, the announcement of the negative deposit rate won’t trigger actual negative deposit rates on excess reserves that banks keep at the BoJ because of its tiered system that applies three different interest rates to excess reserves:

  • + 0.1% on average outstanding current account balance held throughout 2015.
  • 0.0% on current account balances related to banks’ required reserves and the BoJ’s provision of credit through its loan support programs.
  • – 0.1% on additional current account balances going forward.

The third category, the only one with a negative deposit rate, doesn’t even have any balances yet. So the impact for now is nil. It only applies to “additional current account balances going forward,” if any. Daiwa:

That means that, on average over the coming year, more than two-thirds of reserves will still earn +0.1%, with a sizable additional share to earn 0%. And so, even assuming that the full proceeds of the BoJ’s asset purchases this year get recycled back into excess reserves at the central bank, on current plans the average interest rate to be applied on banks’ current account balances will be closer to +0.05% than the headline -0.1% figure.

If the BoJ continues buying Japanese Government Bonds (JGBs) from the banks, and banks recycle all of those proceeds as excess reserves at the BoJ, then the average interest rate on those deposits might edge below 0% in “about two years.”

And even that might not happen.

The BoJ also said that it would increase the amounts that earn 0% as balances increase due to QQE. So Daiwa concludes that the excess reserves at the BoJ might never “be subject to a negative average interest rate.”

Banks and other institutions need to hang on to some JGBs “for collateral and asset/liability matching purposes,” and the BoJ cannot buy them all. So now there is “a growing realization at the BoJ” that “the limits to further JGB purchases might not be too far off,” according to Daiwa:

Certainly, we would have doubted its ability to fulfill a larger target.”

So, the BoJ seems to have found itself between a rock and a hard place – up its target for JGB purchases and risk missing it, or introduce negative rates, threatening the achievement of even its current JGB purchase program. It is therefore trying to steer a middle ground, introducing a negative interest rate on bank reserves that isn’t really a negative rate at all.

And once the dust settles on the “BoJ goes negative” headlines and the details of the announcement are digested, the eventual outcome of today’s announcement may be simply to reveal the diminishing options the BoJ finds itself with.

It gets even more interesting, in terms of head fakes. Daiwa points out that “the pressure will remain on the BoJ to ease more.” That’s a pressure on all central banks. More free money, more asset price inflation, that’s what everyone clamors for. And that won’t go away. Central banks opened that can of worms years ago.

But that further easing, when it does happen, will come in form of negative interest rates not QQE, with the BoJ eventually pushing interest rates deeper into the negative. But there’s a conundrum: such a move may well have to come with a tapering of QQE:

In that respect, today’s announcement might be viewed as the first step to phasing in a new monetary policy framework centered on interest rates rather than one centered on asset purchases.

The idea that the BoJ could end its mega-QQE, after the Fed has already ended its QE, would put terror into the minds of those expecting a permanent money-printing Nirvana. And head fakes of NIRP won’t exactly assuage their rattled nerves.

QE came under fire from one of the world’s largest asset managers and investment banks. Read…  Mega Investment Bank Suddenly Pooh-Poohs QE

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  22 comments for “QE in Japan Nears End: Daiwa Capital Markets

  1. Yoshua says:

    The BOJ should start buying government bonds with yields at minus 100%. That would create real free money for the Japanese government. The Japanese government could borrow down its massive debt and have money to spend to kick start some inflation into the system.

    • Chris says:

      Japan isn’t facing deflation…it’s simple depopulation. Consider:

      Japan’s total population peaked in 2010 and has fallen a couple million since.
      But Japan’s 0-14yr/old population segment peaked in 1954 and has fallen 45% to date…45% fewer Japanese young now than over 60yrs ago!!! And the decline in the young isn’t finished and according to OECD, Japan’s population of young will be down over 60% by 2040. These are the declines which will work their way through the entire Japanese population over the next couple decades (in a nation with net emigration, to boot).
      And Japan’s 15-64yr/old population has fallen 12% from peak thus far and will continue falling indefinitely. Declining #s of homebuyers, consumers, tax payers, stock market participants against surging older sellers.
      The only area of population growth is among 65+, 75+, and 85+ yr/olds living far longer than their predecessors. And these folks need to sell assets and receive greater benefits from the state to maintain their retirement…selling assets to a far smaller population of young buyers absent growing income and debt/interest service already as cheap as possible. To understand why NIRP is here…contemplate that last sentence.
      And of course, Japanese laborers are not seeing wage growth despite their far smaller #’s due to offshoring, technology, etc. etc.

  2. rich says:

    I believe the the BOJ will punish the country’s largest depositors, through a network of local Japanese banks, with negative interest rates, and I know for a fact that US banks will do the same thing. Two years ago, I received a letter from one of my banks (with a strong bankrate.com rating), informing me that if my deposits reached a certain level, that I would be charged for anything that eclipsed that level. US banks today have more expensive depositor accountability reporting requirements, and someone (the depositor) will have to cover the costs.

    Earlier this year, JP Morgan stated that it would charge large institutional customers for certain types of deposits. The bank stated the the new rules it had to follow were would make holding money for some clients too expensive.

    Now consider that most US banks already charge checking account customers, who do not maintain a large enough balance, fees that, for all practical purposes, serve the same function as would negative interest rates. So if we have too much money in a US bank, or too little money, those banks will hit us with what amounts to a negative return on principal.

    • Petunia says:

      There is also a big push on the part of the banks to get checking account holders to open savings accounts. You can already see they will take a bigger chunk of the savings accounts when the time comes. I don’t even have to check the new Dodd Frank regulations. The banks never do anything that favors the customers.

  3. B Tilles says:

    An analogy suggests itself. In an ER, a frantic doctor can make a corpse bounce if there’s enough “juice” in those paddles. But it won’t return the deceased back to life. Same is true here. All that economic stimulation and the economy just lies there. The end game? Cremation (hyperinflation).

    • VegasBob says:

      Actually I think the end game is much more likely to be economic collapse long before hyperinflation takes root.

      Hyperinflation is ordinarily possible only if huge amounts of freshly printed/counterfeited ‘money’ are put in the hands of people who go out and quickly spend it, bidding up prices on consumer goods.

      In the US, the Fed has been careful to keep the counterfeit trillion$ it printed up during its QE programs within the banking and financial system and out of the hands of the general public. So naturally, assets held by the already wealthy – stocks, bonds, real estate, and certain collectibles – have skyrocketed in price, while the prices of many consumer goods have been relatively stable to only moderately increasing (if of course you believe the government’s numbers, which are admittedly nonsense).

      One of the principles of drug addiction is that over time, it takes a bigger dose of drugs for the addict to get the same ‘high.’ This is why drug addicts overdose and die. I think the same is true of an economy. At some point, the economy is going to overdose and die from repeated and increasing infusions of monetary heroin.

      • B Tilles says:

        There’s much in what you say that I agree with. But several observations. First, the major episodes of hyperinflation we’re familiar with, Weimar Germany and Zimbabwe are characterized by severe political regime instability. Could President Trump appoint Jim Grant, an avowed deflationist, as head of the Fed? Sure.

        Second, the impact of hyperinflation–as an extreme form of inflation–is to radically reduce the value of all debt. If you owe money (like Germany did to the Allied Powers) it’s awesome. If you’re retired and living on a fixed income you’re devastated.

        So depending on where you stand in the credit queue it can be really cool or just plain cruel.

        • VegasBob says:

          As Mish (Mike Shedlock) always says, the first recipients of freshly printed/counterfeited money are the beneficiaries. They get to spend the funny money before anybody else realizes it has been devalued.

      • Petunia the geek says:

        The hyper inflation seems to be occurring in the luxury markets. A mansion on the outskirts of Palm Beach is selling for $195M, a condo in Miami $173M, designer handbags $11K, all of these things have one thing in common. They are not worth the price tag and are highly inflationary. On the low end no one has any money.

  4. walter map says:

    “It is well that the people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.”

    Henry Ford

  5. Ptb says:

    At about 120 jpy to the USD, they’re probably looking for something a little weaker. Maybe 130? More QE could do it. It was 80 to the USD a few of years ago.

    • Lee says:

      I find it ridiculous to read in various articles about the yen being a currency that traders buy as a ‘safe haven’.

      From a debt/QE point of view the Japanese Yen is the LAST currency that I would buy.

      I was looking for 150 yen per US$ at the end of 2016, but now I don’t know as a result of a couple of changes in the markets.

      First is the price of energy and commodities. As a huge importer of various types of energy products and commodities the fall in the US$ cost of these items has thrown the primary objective of Abenomics into the bin: inflation. (More on that later). Of course this has been partially offset by the fall in the value of the yen. In addition some reactors have come back online and probably others will as well. This has and will cause major changes to the flow of funds in this area.

      Second is that there has been a huge flood of tourists into Japan. In 2015, there were as many visitors to Japan as people leaving Japan. IIRC this is first time something like 45 years and the numbers are huge: 20 million each way.

      This has been and will be a huge boost for the Japanese economy.

      Lastly, as far as inflation is concerned, the official stats regarding inflation are basically, like almost everywhere else in the world, lies. Consumers in Japan have been experiencing inflation rather than deflation over many years. So for Abenomics to get get the government numbers up to whatever % consumer inflation they want would, in the real world, would result in huge inflation rates throughout the real economy.

  6. James McFadden says:

    If a Japanese bank actually had excess reserves that would be subject to a negative interest rate, why wouldn’t it just lend those reserves to a shadow bank subsidiary so it didn’t show the excess reserves on its books? I expect that banks have plenty of ways to avoid the negative interest rates. So who is the “head fake” directed toward? BoJ’s primary interest is protecting bankers and the ill gotten gains that the investor class obtained during their bubble markets decades ago. This has been their policy all along and the reason why the Japanese economy has been stuck – they refused to deflate the financial assets – and the same reason our real economy is stuck – CB policies to protect banks and the inflated assets of the investor class. I suspect this “negative interest” is to prepare the public for negative interest on their bank accounts – and banks will use it as a reason – TINA. The BoJ policy is designed to protect it’s stake holders (banks, investors). This is not a punishment levied on banks for not lending. Something else is afoot.

  7. michael says:

    If I was a Japanese citizen I would buying nothing but gold, silver or tangible assets

  8. Ptb says:

    Average savings account in the US pays far less than 1%. So we’re already getting charged to have money in an account.

  9. kayjay says:

    Unrelated to this post, but an issue with a previous post on this blog.

    Rightfully, and I am grateful for the yeoman’s work, this blog has voiced apprehension and drawn attention to fracking-energy companies’ losses, junk bond and low rated bond losses and commercial real-estate losses which may ensnare banks, shadow banks and of course, dumb hedge funds and their clientele.


    1/ The bond market is supposed to be about 10 to 12 times in value compared to the stock market. What per cent do these loss exposures constitute as a per cent of the entire bond market? Of course, these losses, even when not very substantial, can trigger mass hysteria which possibly can overwhelm other markets. And, the yo-yo behavior of the current stock market suggests great apprehension, with every actor at the exit door wanting to rush out first in case of a real death spiral. I believe that one needs to clarify that: My thinking is that one needs to be vigilant and not a vigilante.

    • Petunia says:

      I don’t think the the percentage will be noticeable as part of the entire bond market. However, the real issue is how the defaults affect the lenders lending into that industry. A high default rate will drive them away from the industry and hamper their ability to lend elsewhere. The losses will affect other borrowers, drying up credit, assuming the lenders survive.

      The apprehension in the stock market maybe that as the defaults occur credit disappears.



    • Toddy says:

      The weak ones will be bought out on the cheap by large banks that didn’t get hurt as badly later-on, during a consolidation phase. As a consumer with less than $100k in the account, you won’t notice a thing beyond some mail alerting you to the takeover and a new logo in the corner.

  11. Raging Ranter says:

    Anyone else find it convenient that these “surprise” central bank announcements always occur early Friday mornings? Last week it was Mario Draghi. This week the BoJ. Both times it was announced late Thursday night or early Friday morning that more central bank liquidity was on the way. Not to be a tinfoil hat conspiracy theorist or anything, but could there be a coordinated global effort among central banks to keep propping financial markets up?

    I say this because Friday is by far the most impactful trading day of the week. A strong Friday often turns into a strong Monday. A terrible Friday even more often turns into a train wreck Monday morning, as market players have all weekend to wring their hands over what happened on Friday. (Think of 1987’s Black Monday – that crash actually started on Friday, and in a big way.) If central banks are trying to prop up markets, they of course would make their announcements when they had the biggest “positive” effect. And that would be Fridays. This Friday, maybe the Fed or the Bank of England will say something that will spark another rally. Watch for it.

  12. d'Cynic says:

    I can think of some ways for a bank to get rid of excess reserves. E.g. increase the amount of more risky loans (that require to hold higher reserves), and simultaneously limit lending to more credit worthy borrowers. Similar to what QE is designed to do – to punish the prudent and reward the reckless.

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