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The Bank of Japan today bought more than 1.5 trillion yen of government bonds to defend its yield curve control target. If the current pace of buying persists, the bank will have bought approximately 10 trillion yen in June. To put that number in context, it is roughly equivalent to the Fed doing more than $300bn of QE per month when adjusting for GDP. This is a truly extreme level of money printing given that every other central bank in the world is tightening policy. It is one of the reasons why we have been bearish on the yen. And as we have long argued, currency intervention in this environment is simply not credible given it is the BoJ itself that is the cause of yen weakness.
More broadly, we worry that the currency and Japanese financial markets are in the process of losing any sort of fundamental-based valuation anchor. The more global inflation picks up, the more the BoJ prints. But the more easing accelerates, the higher the need to press hard on the brake when the (inflation) cliff approaches and the more dangerous it becomes. We are worried we may enter a phase where dramatic and unpredictable non-linearities in Japanese financial markets would kick in. If it becomes obvious to the market that the clearing level of JGB yields is above the BoJ's 25 basis point target, what is the incentive to hold bonds any more? Is the BoJ willing to absorb the entirety of the Japanese government bond stock? Where is the fair value of the yen on this scenario and what happens if the BoJ changes its mind? The BoJ may want to generate inflation, but it needs to be careful how it gets there.


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