Why market could be wrong about BOJ’s next governor!

With PM Kishida set to decide on BOJ’s next governor this week, all eyes will be on who will succeed Kuroda-san whom we have long been highly critical of. Although we think a significant monetary policy regime change is inevitable under whoever takes the position, it is the exit policy of BOJ that politicians are highly cautious of.

Policy makers also know they are facing higher costs for government debt refinancing. With Japan’s budget deficit approaching 300% of its GDP, and the country under pressure to raise defence spending, to be partly funded by unpopular tax hikes, the need for more debt issuance seems very likely. 

Indeed, the safest choice seems to be promoting the current deputy governor, Masayoshi Amamiya who has an equally dovish stance as Kuroda and is known to be his closest ally. However, things seem more complicated as support within the ruling LDP for further pursuing policies of Abenomics (which was totally depended on Kuroda’s money printing) has waned greatly and Mr Abe’s tragic death have left the group without its champion–although his hawkish security agenda is now consensus.

So although Amamaiya might seem the steadiest hand, like Kuroda, he is closely associated with Abenomics and his ultra dovish stance seems at odds with Japan’s inflation reality. Worth also noting that BOJ now owns over half the JGB market with the record $180bn of purchases made alone in January, all to suppress the ten-year rates from spiking above its newly raised ceiling.

BOJ’s cumulative paper losses in its JGB holdings although still relatively small has risen ten folds from last year to above Y8trn. Although these paper losses are somewhat irrelevant as the bank holds these bonds to maturity, the optics of Kuroda’s policies which have looked fairly bad for a while is only getting worse. 

This might steer Japan’s PM away from not only Amamiya, but the second market favorite, Hiroshi Nakaso who like Amiyama had served under Kuroda and had also voiced his hesitantcy for accepting the top job, and for very understandable reasons. But Nakaso has quickly found himself another position, to be an advisor to APEC, which we suspect is a very polite way of avoiding rejecting the BOJ role. 

We have also detected some recent changes in the narrative of BOJ with its deputy director, Masazumi Wakatabe who although predicted no policy change in March, he also stated that “Inflation could go in various directions”. We thought this was a big statement as we have been constantly assured by Mr Kuroda that this “cost-push” inflation will begin to simmer off from this quarter.

Indeed, BOJ has consistently underestimated Japan’s inflation gauge in the past year. Ignoring the government’s coming household subsidies (which are also troublesome for its tight budget and will likely prove a temporary relief), we don’t see Japan’s inflation ebbing anytime soon.

In fact, another 4000 food items are due for price hikes this month and electric power firms are all applying to raise their charges to the consumer. Even wage inflation is starting to look encouraging ahead of the “shunto” negotiation season by the end of March. In reality labour shortages have made rising labor costs as another unavoidable development which will also force BOJ’s hand.

Kuroda’s own comments on Friday was equally interesting and seemed to also hint at a surprise choice for perhaps less dovish governor to come. He said “that in general a central bank’s credibility is maintained through keeping inflation stable with appropriate policy, so even if that bank moves toward normalisation it won’t lose market trust.”.

Our favourite, and the big underdog is the former BOJ deputy governor, Hirohide Yamaguchi who like us has been highly critical of Kuroda’s unconventional monetary policies. He has also written much about the playbook of exiting from QE. However, we don’t think Kishida is bold enough to appoint Mr Yamaguchi given growing fears of more attacks on the JGB market.

We thus think there is good likelihood that the government will choose a more neutral governor outside of these three candidates. Nevertheless, we think by not choosing Amamiya or Nakaso, Mr Kishida would be implying an official end to Kuronomics, and could send yen soaring once again.