Low debt yields signal BOJ’s inflation challenge

Sovereign debt yields at a five-month low signal expectations that Bank of Japan Gov. Haruhiko Kuroda will struggle to kindle sustained inflation.

The 10-year Japanese government bond yield declined one basis point to 0.615 percent on Oct. 18, the lowest since May 9, belying concern that the BOJ’s money printing will drive up consumer prices and diminish the value of bonds. The nation’s borrowing costs are the lowest globally and compare with 2.59 percent for U.S. 10-year yields.

Standard & Poor’s said last week it will be “challenging” for the BOJ to meet its 2 percent inflation target without causing a jump in market volatility. Mitsui Life Insurance said it plans to increase JGB holdings by 50 billion yen ($510 million) in the six months through March 31, focusing on super-long-term debt that’s more vulnerable to accelerating inflation.

“Common sense would suggest that it’s impossible for the 2 percent inflation goal to be achieved,” said Chotaro Morita, the chief debt strategist at SMBC Nikko Securities, one of the 23 primary dealers obliged to bid at government debt sales.

Prices “will rise to a certain extent because of the high economic growth rate due to fiscal stimulus and the shrinking supply-demand gap,” but not enough to meet the goal, he said.

Morita said he expects 10-year yields to decline toward around 0.5 percent.

Japanese consumer prices excluding fresh food probably increased 0.7 percent from a year earlier in September, slowing from a 0.8 percent gain in August, according to the median estimate of economists survey before the government report due Friday.

When both fresh food and energy are stripped out, the cost of living was probably unchanged, economists forecast.

Kuroda and his board decided on April 4 to double monthly JGB purchases to more than 7 trillion yen to spur a shift in investments to riskier assets and loans. The benchmark 10-year yield tumbled to an unprecedented 0.315 percent the next day before rebounding to a one-year high of 1 percent in May. It was at 0.62 percent yesterday.

“The shared view in the market is that the BOJ’s bond purchases will lower yields,” said Toshiaki Terada, a researcher at Totan Research, a money-market brokerage in Tokyo. Even so, because of thin liquidity, “the market’s capacity to absorb a large sell-off has declined, so some shock could trigger market turmoil.”

Helping increase consumer prices in Japan is the 11 percent weakening of the yen against the dollar this year. Currency depreciation tends to boost the price of imported goods.

The yen touched 103.74 per dollar on May 22, the weakest since October 2008, as Prime Minister Shinzo Abe pushed ahead with his program of fiscal spending and monetary stimulus to end 15 years of deflation.

Abe’s measures have improved Japan’s near-term economic prospects, and the BOJ’s monetary easing is “bearing fruit,” S&P said in a statement last Friday. The rating company affirmed the nation’s AA-sovereign debt grade, its fourth-highest level, while keeping the outlook negative.

BOJ Deputy Gov. Kikuo Iwata said last week that policy makers will examine their easing measures if 2 percent inflation can’t be achieved in two years. A weaker yen helps Japan’s economy, he said.

Real gross domestic product in Japan will probably expand 1.9 percent in 2013 after growing 1.98 percent last year, according to a poll of economists.

Bloomberg