Central banks look for new tools to look at Japan's performance controls

TOKYO / WASHINGTON / FRANKFURT (Reuters) – Japanese-style interest rate ceilings are attracting the interest of global central bankers worried about the economic downturn, especially US Federal Reserve officials seeking to strengthen their options. while the prospects of the global economy are getting darker.

Far from the traditional focus of central banks on short-term rates, the Bank of Japan's "yield curve control" initiative aims to anchor long-term rates that often have a more direct influence on costs. borrowing and consumer spending.

The BOJ has received requests from several central banks, including the Fed, for the operation of the unconventional program, sources close to the case said.

Several senior Fed officials have been discussing the issue in recent months as the US central bank examines how it conducts policies, including governors Lael Brainard and Richard Clarida. Brainard said that she "would like to know more about it," even though she is far from accepting it as an option.

The focus is on the dilemma faced by the world's three major central banks – the Fed, the BoJ and the European Central Bank. Only the Fed has managed to raise interest rates in a reasonable way since the 2007-2009 financial crisis, but is even on the verge of lowering them due to weak global economic conditions and continued weakness in the global economy. 'inflation.

At the global level, it is generally acknowledged that while the major economies have all converged on a world of low inflation, low growth, and low interest rates, the textbook central bank could be dead – without an alternative clear at first.

"I am open to a whole series of political alternatives," said Charles Evans, chairman of the Chicago Federal Reserve. "The most important thing is that whatever we do, we can demonstrate that this tool allows us to fulfill our mandate and that this tool is properly configured."

NEW STANDARDS

The Fed, the BOJ and the ECB have all plunged headlong into an unconventional policy to fight the crisis. Each has purchased billions of dollars of financial badets to flood their money savings into programs called "quantitative easing", an effort that should be repeated in the future, even if its effectiveness is questionable .

The BoJ, however, pushed the limits of the convention more than the others. Three years ago, while short-term rates were already very low in negative territory, the group launched a bold experiment aimed at anchoring long-term interest rates close to zero in order to give life to anemic consumption situation.

Under the control of the yield curve, the bank targets a rate at a given time. It buys the amount of securities needed to achieve this goal, an objective that is easy to communicate to the public and easy to plan for businesses and households.

Fed Brainard discussed this concept at an event organized by the Fed in May.

"Once the short-term interest rates we traditionally target have reached zero," she said, "we could focus on slightly more long-term interest rates – for example, interest rates. interest at one year, and if additional stimulus was needed, perhaps. get off the two-year rate curve. "

In Japan, he had some success, even if he was mixed.

Yield of 10-Year Japanese Government Bonds JP10YT = RR, the point on Japan's yield curve targeted by the BOJ, was mostly close to its goal. Retail sales have increased year-on-year in each of the last 31 months, a period unprecedented in Japan since the early 1990s.

Inflation, however, has not achieved the BOJ's 2% target, and some fear that the program will hurt this effort.

"By capping long-term rates, central banks may be hurting inflation expectations, not lifting them," said Muzuho Research Institute's executive economist, Kazuo Momma, a former chief executive of the BoJ.

OTHER HAZARDS

Maintaining long-term rates in the line could create other risks for the Fed. A sharp rise in yields could force the central bank to buy Treasuries in amounts that may leave the authorities open to the type of criticism they have heard from many quarters about quantitative easing.

The BOJ was forced to offer to buy unlimited loans at 0.11% in July 2018 to prevent long-term rates from exceeding targets as the 10-year yield rose as global yields rose as the Fed was raising rates.

For the BOJ, setting a floor on returns has been revealed even more delicate because reducing too much the purchase of bonds in order to raise a lowered interest rate would contradict its promise to continue to print currency until the goal of inflation is reached.

The outlook for lower interest rates in the United States has lowered yields around the world, including Japan, where the 10-year yield has fallen to a low of nearly three years of -0.195% the month latest.

"The real test for YCC could be when bond yields will remain locked in negative territory for a long time," said a manager familiar with the BOJ's thinking.

NOT FOR THE ECB … BUT THE EDF?

The Fed played with a version of it in 2011 and 2012 selling short-term bonds and longer-term bonds under a program called "Operation Twist". was a time when inflation actually increased.

But explicitly targeting long-term returns again can be a political challenge, renewing concerns about excessive central bank outreach and market intervention.

For the ECB, controlling the yield curve is not an option for a different reason. There is no common bond of the euro area to buy, which means it will have to decide what rate of return of the target country among the 19 members of the euro area.

If it tried to reduce or target the gap between bond yields in different countries, the ECB could be criticized for protecting weak governments.

For the Fed, one of the key elements would be the control it could or would want to have in the Treasury market.

Analysts point out that the BOJ's considerable presence in the JGB market is the key to its success. Years of significant purchases to revive growth have left the BOJ to hold about 45% of the market.

In contrast, the Fed currently holds only about 13 percent of the US $ 15.9 trillion of tradable debt in the US Treasury.

"The BOJ has a huge hold on the bond market," said another official with direct knowledge of BOJ policy. "This makes YCC a very powerful tool."