The Bank of Japan is reportedly considering a pause in its quantitative tightening efforts, with sources indicating it may keep its current government bond purchase levels steady beyond the next fiscal year.
This potential move represents a significant shift within the central bank's QT strategy. During its upcoming policy meeting on June 15-16, the BoJ will review the bond-buying reduction plan currently scheduled to run through March of next year and is expected to outline a new framework for the fiscal year starting in April 2027 and beyond.
With markets broadly expecting the existing reduction schedule to remain unchanged, investor attention is focused on whether the BoJ will continue to trim its monthly purchases after fiscal 2026 or maintain them at the current level of approximately ¥2.1 trillion (about $13 billion) per month.
According to four sources familiar with the matter, given the progress already made in shrinking its massive balance sheet, the BoJ is leaning toward halting further reductions. One source noted that even without active cuts, the central bank's bond holdings would still decline significantly as securities mature and roll off its balance sheet naturally. The other three sources expressed similar views, suggesting the BoJ may stop setting annual reduction targets and instead adopt an open-ended commitment to keep monthly purchases at ¥2.1 trillion.
Separately from the QT decision, markets widely anticipate the BoJ will raise its policy rate from 0.75% to 1.0% at next week's meeting. With a nearly 90% probability of a June hike already priced in, investors are now more focused on whether rising inflationary pressures from the conflict in the Middle East might prompt the BoJ to accelerate its future rate hike trajectory.
Two sources indicated that, despite still-accommodative financial conditions, the BoJ currently sees no urgent need to quicken or implement consecutive rate hikes due to the significant economic uncertainties stemming from the Middle East conflict.
Internal Divisions
However, sources caution that the decision to pause QT reductions could be a close call, as the central bank's nine-member policy board is divided. Some members prioritize calming investor sentiment, while others advocate for a steady continuation of bond purchase cuts to further reduce the BoJ's expansive balance sheet.
Under Governor Kazuo Ueda's leadership, the BoJ has been gradually reducing its bond holdings since 2024 as part of its broader exit from decades of ultra-loose monetary policy. It currently trims monthly purchases by ¥200 billion each quarter.
The BoJ still holds about 49% of outstanding Japanese Government Bonds, meaning any policy adjustment can significantly impact bond yields and the financing costs for Japan's substantial public debt. Regardless of whether active reductions continue, the BoJ's bond portfolio is projected to shrink by up to ¥50 trillion annually simply from maturing bonds. In fact, its holdings have already fallen by nearly 20% since peaking at the end of 2023.
The BoJ has stated its QT plan aims to lessen its control over yields while avoiding excessive market volatility. However, with the central bank's gradual retreat creating a risk of insufficient buyers in the bond market, policy execution requires careful navigation. Governor Ueda recently emphasized the need to ensure bond market stability, underscoring a continued focus on preventing sharp yield swings.
Board member Hajime Takata, a former bond strategist, warned in February that the BoJ's reduced purchases could pressure an already supply-heavy bond market. Yet, a pause in reductions is not guaranteed, as some members, including former banker Naoki Tamura, have expressed a desire to continue steadily shrinking the balance sheet. Tamura dissented last June when the BoJ set the current quarterly reduction pace, advocating for a faster pace of cuts.
Earlier this month, board member Junko Koeda stated in a speech that the BoJ should "steadily proceed" with balance sheet normalization, citing its large bond holdings as a "key factor" driving the process.
Political Headwinds
Political resistance to further QT is also expected to intensify, particularly as the government of Prime Minister Fumio Kishida pursues tax cuts and increased spending, partly funded by debt issuance. Japanese government bonds have recently faced selling pressure due to inflation concerns, rate hike expectations, and worries over expanded fiscal spending.
The yield on the benchmark 10-year JGB has risen from around 0.7% when the BoJ began hiking rates to approximately 2.67% currently. Akira Otani, Managing Director at Goldman Sachs Japan and a former senior BoJ economist, noted that inflationary risks from the Middle East, combined with Japan's proactive fiscal stance, are pushing yields higher. Further QT reductions could exacerbate this rise and spark political friction.
Former BoJ official Nobuyasu Atago commented that the rapid rise in JGB yields is making it difficult for investors to buy bonds, likely causing concern within the Ministry of Finance. Given the political headwinds, he argued, the BoJ has little reason to continue balance sheet reduction into the next fiscal year. Ultimately, he stated, the last thing the government wants is higher JGB yields, as a breach of the 3% level for 10-year bonds would further inflate debt servicing costs and strain Japan's already constrained fiscal space.
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