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BOJ’s record bond buying highlights challenge for yield control

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TOKYO – The Bank of Japan issued a record $182 billion in government bonds in January.

The heavy buying highlights the central bank’s increasing difficulty in maintaining its policy of yield control as inflation rises well above its 2% inflation target.

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With its persistent intervention drying up bond market liquidity, the BOJ is increasingly relying on a new tool to provide funds to prevent the 10-year yield from breaching its 0.50% ceiling.

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However, some analysts see such moves as a stopgap attempt to buy time until a new BOJ governor, who will succeed incumbent Haruhiko Kuroda in April, begins deliberating an overhaul of Yield Curve Control (YCC).

“The BOJ is attempting all available means to defend YCC, but in doing so is increasing rather than reducing bond market distortions,” said Naomi Muguruma, senior market economist at Mitsubishi UFJ Morgan Stanley Securities.

“It has become a widely held view in the market that YCC will not be sustained under the new BOJ leadership. It would be a big surprise if the BOJ didn’t optimize YCC in April,” she said.

The BOJ’s January bond purchase was the largest amount on record at 23.69 trillion yen ($182 billion), surpassing the previous peak of 16.2 trillion yen marked in June 2022, central bank data showed.

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Controlling the yield curve, the BOJ puts short-term interest rates at -0.1% and the 10-year bond yield at around 0%.

The BOJ’s decision in December to widen the tolerance band around the 10-year yield target raised market expectations of a short-term rate hike and forced the bank to step up bond buying to meet the newly set 0.5% cap for the 10-year period to defend annual returns.

In January, under pressure to iron out market distortions caused by its massive bond purchases, the BOJ converted a capital injection operation into a tool to prevent yields from rising too much.

On Tuesday, the BOJ pumped 1 trillion yen worth of five-year loans against collateral to financial institutions in its second such operation with the revamped instrument.

While the BOJ has previously only offered two- and five-year loans, the revised Fund Supply Operation allows the BOJ to offer funds up to 10 years.

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“Depending on market conditions, an offer of long-term funds such as 10-year loans cannot be ruled out,” said a source familiar with the BOJ’s thinking, a view shared by another source.

While the offering of such long-term loans will be a fresh sign of the BOJ’s determination to maintain YCC, the move’s impact on bond yields could be short-lived as markets continue to price in the possibility of a near-term rate hike, analysts say.

The 10-year bond yield was 0.480% on Wednesday, staying close to the BOJ’s 0.5% ceiling.

The government is expected to present its nominees for the new BOJ governor and two MPs to Parliament later this month. Kuroda’s term ends on April 8 and his two deputies on March 19.

Kuroda will chair his final BOJ policy meeting on March 9-10. His successor’s first meeting will take place on April 27-28, with career central bankers Masayoshi Amamiya and Hiroshi Nakaso seen as strong contenders.

($1 = 130,1800 yen) (Reporting by Leika Kihara and Takahiko Wada, additional reporting by Kantaro Komiya; Editing by Shri Navaratnam, Uttaresh.V and Christian Schmollinger)

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