On March 19, 2024, the Bank of Japan (BOJ) marked a historic shift by ending its policy of negative interest rates. The first rate hike in 17 years, signifies a potential turning point for the Japanese economy, its stock market, and the Japanese yen. Here are some quick takes:
Impact on the Japanese Economy:
- Inflationary Pressures: The primary motivation for ending negative rates is likely to declare its victory over deflation. Rising global energy and commodity prices, coupled with ongoing supply chain disruptions, have pushed inflation in Japan above the BOJ’s target of 2%. While the rate hike itself is modest, it could signal the BOJ’s view that the inflation outlook has changed from deflationary to one that is slightly inflationary. The recent wage-hike agreement was seen as a critical aspect of the changed economic environment.
- Stimulus Reduction: The negative rate policy aimed to incentivize lending and boost economic activity. Its removal could lead to tighter credit conditions for businesses and consumers. However, the BOJ continues to implement alternative measures to maintain some level of stimulus, such as quantitative easing (purchasing government bonds). Note that at 0-0.1%, interest rates in Japan is still extremely low, in the global context.
- Growth Prospects: The impact on economic growth is minimal. While curbing inflation is necessary for long-term stability, there is little need for tighter monetary policy which could dampen economic activity in the short term. The BOJ downgraded its assessment of consumer spending, signalling a need to carefully adjust monetary policy to achieve sustainable growth.
Implications for the Stock Market:
- Long-Term Potential: A more stable and predictable monetary environment could ultimately benefit the stock market. Investors might regain confidence, leading to increased investment activity and potentially higher valuations in the long run. Note that Japanese stocks have benefited from the benefits of corporate reforms. Sustained economic growth will be another tailwind for Japanese equities.
The Yen’s Future:
- Potential Appreciation: The rate hike could lead to a strengthening of the Japanese yen but it is doubtful that the JPY can rally strongly given the significant difference between interest rates. US rates are at 5.25% while the ECB’s is at 4%.
Uncertainties and Challenges:
- Wage Growth: A key challenge lies in achieving sustained wage growth. If wages don’t rise alongside inflation, consumers might face a decline in purchasing power, negating the benefits of curbing inflation. It is not clear if SMEs are following the trend of offering wage hikes, an issue brought up by the dissenters.
- Debt Burden: Japan has a high national debt burden. Rising interest rates could increase the government’s borrowing costs, posing a fiscal challenge. Again, it is doubtful that we would see aggressive rate hikes in Japan.