BOJ's next challenge - unwinding Kuroda's legacy stimulus

For Bank of Japan Governor Haruhiko Kuroda, Sunday’s general election has brought into focus the challenge of unwinding a massive stimulus programme and yield curve control policy, while not hurting a budding but still fragile economy, the world’s third-largest.

With inflation far below a 2 percent target, the BOJ rules out any near-term exit from Kuroda’s legacy ultra-easy policy. 

But there’s growing alarm within the central bank about how long it can keep the money spigot open, given the rising costs and diminishing returns, people familiar with BOJ thinking say. 

Most of the BOJ’s nine board members and bureaucrats involved in drafting monetary policy feel the next step - though some way off - would be to roll back Kuroda’s radical monetary experiment, with the economy in recovery-mode, they say. 

The political tide is shifting in favour of at least having such a debate. 

Several ruling Liberal Democratic Party (LDP) heavyweights have warned of the rising cost of prolonged monetary easing. Opposition parties, including the new Party of Hope led by popular Tokyo Governor Yuriko Koike, want a departure from over-reliance on monetary policy.

BOJ bureaucrats are drafting a plan. The trick is to retreat from crisis-mode stimulus without giving the impression the bank is embarking on outright monetary tightening. 

Already, the BOJ is proceeding with the first stage of the plan - by whittling down its vast bond purchases to an annual pace of around 50 trillion yen ($443 billion), below a loose pledge to keep it at around 80 trillion yen. 

The next step would be to allow long-term interest rates, which the BOJ has capped at around zero, to rise, more reflecting improvements in the economy, the sources say. The bank could raise the bond yield target or shift it to the shorter end of the curve even before inflation hits 2 percent, as it can maintain easy monetary conditions with its strong balance sheet.