Yen Could Weaken as BOJ Steps in to Curb Rising Yields

A sharp rise in global government bond yields due to pressure from rising inflation prompted the Bank of Japan (BOJ) to announce it would take steps to curb rising yields.

The BOJ’s proposal includes an offer to buy unlimited Japanese Government Bonds (JGBs) starting Monday. The announcement came after 10-year JGB yields hit 0.230%, which put them in a position to challenge the BOJ’s resolve to defend its implicit 0.25% cap.

By buying government bonds, the central bank will essentially be driving interest rates lower, which should also weigh on the investment appeal of the Japanese Yen.

BOJ to Buy Unlimited 10-year JGBs

The Bank of Japan (BOJ) said last Thursday it would buy an unlimited amount of 10-year government bonds at 0.25%, underscoring its resolve to prevent rising global yields from pushing up domestic borrowing costs too much, Reuters reported.

The offer will be made on Monday, the central bank said in a statement posted on its website after the JGB market closed.

BOJ Announcement Surprises Some Traders

Investors have increasingly expected the BOJ to step in to rein in recent steady rises in yields. But the timing came as a surprise for some players as previous such operations were all announced during JGB market trading hours.

By announcing its plan days in advance, the BOJ sought to discourage players from testing the 0.25% line and pre-empt any breach of that level – without actually having to purchase JGBs, said former central bank board member Takahide Kiuchi.

“If the BOJ announced the offer during market hours, it would have had to buy huge amounts of JGBs. That would be tantamount to strengthening monetary easing, which it wanted to avoid,” he said. “It’s a curve ball by the BOJ.”

BOJ Tries to Prevent Spike in Yields

Naomi Muguruma, senior market economist at Mitsubishi UFJ Morgan Stanley Securities, said the BOJ probably made the announcement as a precaution to avoid yields from spiking this week after a three-day holiday in Japan that begins on Friday.

“It’s uncertain whether JGB yields will slide back because the recent rise was driven by growing market alarm over global inflationary risks and higher U.S. Treasury yields,” she said.

Short-Term Outlook

The financial markets have been zeroing-in on how the BOJ would respond to creeping JGB yields. The offer to buy an unlimited amount of JGBs at 0.25% would be the most powerful weapon the central bank has to control the 10-year yield around its target.

Based on this assessment, rates would drop in Japan, likely widening the spread between U.S. Government bond yields and Japanese Government bond yields, thereby making the USD/JPY a more attractive asset.