By Leika Kihara
TOKYO (Reuters) – Bank of Japan Governor Kazuo Ueda said on Thursday the central bank will proceed carefully in exiting ultra-loose monetary policy to avoid causing huge volatility in the bond market.
Ueda said Japan was making progress towards sustainably achieving the central bank’s 2% inflation, with a cycle of rising wages and domestic demand-driven inflation emerging and slowly gaining momentum.
But there was “still some distance to cover” before the BOJ can scrap a pledge to maintain its yield curve control (YCC) and negative interest rate policy, Ueda said.
“It’s quite uncertain how long this distance will be,” he said in an online conference hosted by the Financial Times. “We haven’t determined in what order we would terminate each of the measures we are employing at the moment.”
Under YCC, the BOJ sets a 0% target for the 10-year government bond yield. It also guides short-term interest rates at -0.1% as part of efforts to hit the inflation target in a sustainable fashion.
A series of steps that the BOJ took to phase out YCC, and last week’s sharp upgrade in inflation forecasts, have heightened market expectations that Ueda will soon dismantle the massive stimulus programme of his predecessor Haruhiko Kuroda.
Ueda, however, stressed the need to tread carefully as mismanaging the process of an exit could cause huge volatility in the bond market.
“We hope to be able to exit from this approach without creating such volatility,” Ueda said.
In normalising short-term interest rates, the BOJ will also need to be careful about the impact on financial institutions, borrowers, and aggregate demand, Ueda said. “It is going to be a serious challenge for us,” he added.
On prices, Ueda said Japan’s underlying inflation, which strips out temporary factors, were still “a bit below 2%.”
There was uncertainty on whether inflation will keep rising as the BOJ expects, he said, adding wages would need to grow “a bit higher” than 2% for inflation to sustainably hit the BOJ’s target.
Ueda also pointed to various risks that could hamper the path towards achieving the target, such as whether the U.S. economy could achieve a soft landing and the fate of China’s economy.
When asked about the impact of exchange-rate moves on monetary policy, Ueda said the BOJ will analyse carefully how currency rates would affect inflation and output, and “respond” as needed.
Earlier on Thursday, Ueda told parliament that companies were becoming more active than before in raising prices and wages, signalling his conviction the country was making progress towards sustainably hitting the 2% inflation target.
Whether wage hikes will broaden and firms begin to lift prices will be key to judging whether the BOJ’s inflation target can be met in a sustainable fashion, Ueda told parliament.
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