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The Bank of Japan is expected to stand pat this Thursday. Economic data actually suggest the need for further policy easing. GDP growth rose 1.9% (QoQ SAAR) in 1Q16 after falling -1.8% in 4Q15, meaning no growth over the past two-quarters.
The 2Q16 growth appears to be weak too, as evidenced by the marginal rise in April industrial production and household spending. Meanwhile, headline CPI has slipped to a negative 0.3% (YoY) in April from 0.1% in 1Q. The core-core CPI has also slowed to 0.9% from 1.1%.
Having said that, it may not be a good timing for the BOJ to take actions at this meeting. The US Fed is widely expected to hold rates steady at the FOMC meeting on 14-15 June. Against the backdrop of a broadly weak dollar, the impact of BOJ easing on the USD/JPY could be discounted.
Meanwhile, the Brexit referendum is scheduled at the end of this month. The BOJ would find it necessary to watch the voting results and the financial market reactions, to judge whether policy easing is urgently needed. A policy moves in 3Q (July/September) appears more likely.
The dollar is expected to regain strength in the coming months as expectations for Fed rate hikes rebuild on the back of still resilient US data. The uncertainties associated with Brexit will subside.
Domestically, Abe’s government is likely to draft a JPY 5-10trn supplementary budget this autumn after the upper house election concludes. This would mean more pressures for the BOJ to support the economy through a coordinated monetary policy response.
When the Fed begins with its hiking cycle, the capital outflows will remain JPY negative until at least beginning of Q3’ 2016. And this figure does not include other public pension funds that follow GPIF and have only just started reallocating (JPY30trn of assets in total) or a similar reallocation by recently privatised Yucho and Kampo.
And we still expect private sector investors to start selling JPY (via lower hedge ratios) as US rates start to rise. Overall, the case for USD/JPY trading much higher in the long-term remains compelling.
With little evidence that corporate Japan is benefitting significantly, we do not see valuation as a constraint on further losses.
