The Bank of Japan wants to keep interest rates as low as possible for as long as possible. However, they might soon need to adapt.
Japan revised GDP data for the second quarter of 2023, showing slower growth than previously expected. Gross Domestic Product for the period April-June has been revised at 4.8% instead of the massive 6% initially estimated.
So far, Japan has been an outsider in the global financial crisis and especially in the G7 economic bloc. Strong growth, mostly due to a delayed post-pandemic rebound, low inflation and negative interest rates.
But difficulties in China and the United States, the world’s two largest economies and main Japanese trade partners, are starting to catch up with Tokyo’s financial situation.
China, in particular, is facing a desperate real estate market crash, rampant deflation and falling manufacturing output. Japan’s export to the Eastern dragon fell 13.4% in the second quarter, while weak domestic demand resulted in fewer imports too.
“Weak exports to China may be making Japanese manufacturers cautious about investing,” said Takeshi Minami, chief economist at Norinchukin Research Institute, “The hope is that service-sector firms will pick up the slack, though sluggish consumption could discourage them to spend money, too."
Indeed, while inflation remains overall lower than in the rest of the developed world, consumer prices are increasing ever so slightly. Annual inflation rate edged up 3.3% in June, reaching the same level as the United States, except in the latter case it had been falling for one year consecutively.
This resulted in consumer spending decreasing by 0.6% instead of the 0.5% previously measured.
The Tokyo Nikkei did not take the news well, dropping -1.16% after Friday’s bell.
Uncertain monetary policy
The Bank of Japan has consistently pursued a loose monetary policy, allowing interest rates to remain negative to fuel post-pandemic growth.
However, the balance is now exceptionally hard to thread, with inflation rising and sluggish neighboring economies.
At their latest meeting, the BoJ increased the Yield Curve Control (YCC), allowing long-term bonds to yield more compared to interest rates than before. This was the BoJ’s way of hinting at a future monetary tightening.
Japanese Prime Minister Fumio Kishida wants to postpone raising interest rates as much as possible, as he faces all-time low popular support. But the time of tightening interest rates is approaching.
“I won’t be surprised if Japan suffers two straight quarters of contraction during the rest of this year," said Minami, "The chance of an early end to ultra-loose monetary policy is diminishing.”
Other G7 central banks have been raising interest rates without much remorse. The Bank of England and the European Central Bank will continue rate hikes with no end in sight, while the American Federal Reserve is considering a mere pause in hikes, with possible cuts coming later next year. The Bank of Japan will soon need to adapt.
