James Smith, Economist at ING, notes that after the Bank of Japan (BoJ)’s surprise decision to implement negative rates, one thing is fairly certain: this is not the outcome they were hoping for. Key Quotes “Although primarily designed to generate JPY weakness, the currency is now 4-5% stronger than before January’s meeting on a trade-weighted basis. Moreover, rather than encouraging interbank lending, volume in the overnight call market has fallen by around 75% since negative rates were imposed. Perhaps most worryingly though, the move has woken up the markets to the possibility of limits on monetary policy. This puts the BoJ in a tricky position as it heads into the next policy meeting on March 15. Until the impact of negative rates in Japan becomes clearer, a further 10bp rate cut risks causing additional damage and uncertainty. It is also fairly unlikely that such a move would fare any better than January’s move in weakening the Yen. However, if markets start to price in further action, the BoJ will be very wary of under delivering. Ultimately, a lot depends on the ECB and how much it delivers on March 10. Unless they deliver a significant positive surprise and barring an increase in global volatility, the BoJ’s preference may well be to hold fire and wait to see how the environment develops in the lead up to its April meeting. Looking beyond the next meeting, there is a growing sense that the BoJ’s ability to add stimulus is diminishing. The limits of quantitative and qualitative easing (QQE) have been discussed for a while now, but with markets currently averse to further rate cuts, there appear to be few tools that will provide a meaningful boost to market sentiment. Furthermore, as was highlighted at the G20 last weekend, attempts to weaken the currency further are not popular outside of Japan, which makes FX intervention look unlikely at current levels. These constraints have prompted some to look back towards fiscal policy, with some talk in the press about a possible supplementary budget in the run up to July’s Upper House elections and even a further delay in the planned consumption tax hike. However, with government debt well above 200% of GDP, the government’s ability to launch large-scale fiscal expansion remains limited. For now then, market concerns about monetary policy limits are unlikely to dissipate and the debate surrounding alternative policies (such as ‘helicopter money’) is only likely to increase over time.” For more information, read our latest forex news.