BOJ’s future path could start to emerge during Kuroda’s last lap

Governor Haruhiko Kuroda starts his last full year at the helm of Bank of Japan amid hints of public discontent over rising prices that could shape the direction of the central bank after he leaves or even as soon as coming months.

While Japan’s inflation remains weak compared with the United States and other major economies, it appears to have picked up enough speed to trigger a change in optics.

At a two-day meeting that started Monday, the central bank likely discussed dropping its insistence that downward risks to prices outweigh upward factors for the first time in over seven years, according to people familiar with the matter.

While almost 80% of economists surveyed by Bloomberg believe it is unlikely the BOJ will take any measures this year to address inflation or a weaker yen that is pushing up import prices, some of them see potential government displeasure in an election year contributing to a tail risk scenario for action.

“The biggest topic for the BOJ this year is how households react to inflation and how that influences politicians,” said Hiromichi Shirakawa, chief Japan economist at Credit Suisse Group AG and a former BOJ official. “The public’s hatred of inflation is an extremely important factor in how monetary policy is conducted. That’s clear if you look at the U.S.”

For Prime Minister Fumio Kishida, managing public opinion is critical before national elections this summer that he must win convincingly to shore up longer-term support for his administration.

In October, when gasoline prices hit a seven-year high, Kishida made a show of ordering his ministers to monitor oil prices. His stimulus package also offered support for some fuel-heavy businesses.

“Any policy change this year would come as a result of government pressure on the bank in the face of strong public dissatisfaction with inflation,” economist Izuru Kato at Totan Research said. “I see about a 30% chance of that.”

The government will pick replacements for five of the bank’s nine board members, including Kuroda and his two deputies, within the next 16 months. The selection of two new members starting on the board this summer could serve as an early hint of what is in store for a post-Kuroda BOJ.

Surveyed economists say that in the unlikely scenario the BOJ responds to price pressures or yen weakness, the most likely step would be to adjust its messaging rather than policy.

Beyond a change in communications, 19% of respondents said the BOJ could shift its 10-year bond yield target to a shorter maturity or widen the range around the existing target beyond an upper limit of about 0.25%.

“We see a chance of the BOJ shortening the 10-year yield target to a 5-year one in the second half of this year,” said Takeshi Yamaguchi, chief Japan economist at Morgan Stanley MUFG Securities. “But that’s less for tightening than for the sustainability” of the bank’s yield-curve-control policy, he added.

Still, officials will probably be reluctant to do anything that might reverse a weakening trend in the currency that’s benefiting Japan’s exporters.

The yen has been the world’s worst performing major currency in the past 12 months as the BOJ is seen holding stimulus in place while the Federal Reserve and other central banks tighten as they look to curb inflation.

“The correction of an excessively strong yen is Governor Kuroda’s biggest achievement,” said Shigeto Nagai, who headed the BOJ’s international department in the mid-2010s. “The bank wouldn’t take the risk of reversing that.”

Nevertheless, Japan’s price picture is tricky. Companies are facing the most expensive input prices in decades. While businesses remain reluctant to pass those costs on to shoppers, they can’t keep absorbing higher costs indefinitely.

The country’s key consumer price gauge may also be overstating inflation’s weakness.

The data show core prices edging up just 0.5% in November, but the measure would have reached the BOJ’s 2% target were it not for the impact of phone fees that have been cut sharply under government pressure.

The phone effect will start to fade out from April and the resulting higher price data could fuel angst among Japanese households whose inflation expectations are already running at the highest level since 2008, largely as a result of costlier gasoline.

Most private sector analysts see Japanese inflation cooling later in 2022 as energy prices stabilize and with wage gains likely staying subdued. Stagnant pay, a longstanding problem for the country’s workers, is one reason a majority of economists still don’t see major action from the bank this year or next.

Still, a summer cocktail of higher prices, elections and new board members, could trigger a spike in speculation.

“We believe the markets could temporarily price in the prospect of early normalization with inflation expectations strengthening and actual inflation continuing to surprise to the upside,” Barclays economists led by Tetsufumi Yamakawa, a former BOJ official, wrote in a report last week.