Under the pressure of high oil prices, the Bank of Japan staged a "hawkish pause"! Governor Kuroda faced the largest voting dissent during his term, and expectations of a rate hike in June are on the rise.

The Bank of Japan, as expected by the market, continued to maintain its benchmark interest rate unchanged, mainly due to the surge in energy prices triggered by the Iran war and the geopolitical conflict, casting a shadow over the prospects of the Japanese economy, which is heavily dependent on oil and gas imports from the Middle East. The Bank of Japan's decision to maintain the rate at 0.75% this time did not lean towards the dovish side, but rather towards a "pause in a hawkish stance" - especially with a vote of 6 to 3 by the Monetary Policy Committee, marking the largest disagreement during Governor Haruhiko Kuroda's tenure. In addition, the Bank of Japan is facing stagflation pressure from "oil price-driven inflation and war-induced growth suppression". According to a recent monetary policy decision statement, the Bank of Japan, in the two-day policy meeting that ended on Tuesday, kept its policy benchmark interest rate at 0.75% unchanged. Of the 51 economists covered in a survey, around 80% of them had expected the Bank of Japan to make a status quo decision on monetary policy. However, the 6 to 3 policy vote represents the largest disagreement since Kuroda took over as Governor, indicating that pressure is increasing on the Bank of Japan to further tighten monetary policy. In its quarterly outlook report, the Bank of Japan's Monetary Policy Committee raised its core inflation outlook for the current fiscal year to 2.8%, higher than economists' consensus expectations. The committee is currently forecasting economic growth of 0.5% for the same period, significantly lower than the Bank of Japan's previous growth forecast of 1%, These latest forecast revisions imply that policymakers at the Bank of Japan acknowledge the possibility of stagflation in the Japanese economy - a situation that central banks around the world are reluctant to face. In the wake of the new round of geopolitical conflict in the Middle East led by US President Donald Trump - the Iran war, which thoroughly disrupted the market's consensus bet on a rate hike at the Tuesday meeting, the Bank of Japan emphasized in its statement the need to monitor the situation in the Middle East and oil price trends. Many economists are now predicting a rate hike in June. It is reported that the Bank of Japan has revised some of the wording in its statement, especially indicating that it will raise the benchmark interest rate if its economic outlook materializes. The Bank of Japan stated that it will continue to raise interest rates based on actual economic conditions, while the previous wording emphasized that rate hikes depended mainly on economic "improvement" - this change may indicate that the central bank still has enough room to raise rates despite slowing economic growth, given strong inflation. The Bank of Japan also said it will closely monitor global financial conditions. Following the decision, overnight index swap markets showed that interest rate futures traders believed the likelihood of the Bank of Japan announcing a rate hike at its next policy meeting on June 16 rapidly increased from around 50% to 63%; as shown in the chart above, most Bank of Japan observers believe that June may be the appropriate time for the next rate hike. Kuroda has repeatedly warned during his testimony to parliament that if the Bank of Japan hikes rates too slowly, bond yields could face significant upward pressure. Global financial market traders continue to focus on the yen Shortly after the announcement, the yen exchange rate slightly strengthened, with the dollar trading at 159.22 yen. This puts the yen slightly below the 160 level that caught the attention of global forex traders two years ago and prompted the Japanese government to intervene to support the exchange rate. Traders will be watching the Bank of Japan Governor's press conference, usually held at 3:30 p.m. Tokyo time, for more clues about the Bank of Japan's future monetary policy. In April 2024, after a decision to keep rates unchanged, the governor's comments on the yen were seen as unexpectedly dovish, causing a rapid drop in the yen exchange rate and eventually leading to Japanese government intervention days later. According to a Bloomberg survey of economists that ended on April 20, if the Bank of Japan maintains a status quo at the Tuesday meeting, two-thirds of Bank of Japan observers believe there may be a risk of the Ministry of Finance intervening in the foreign exchange market shortly afterwards. The strategy team of BCA Research, a well-known investment firm on Wall Street, recently released a research report stating that yen carry trade is a ticking time bomb in the global financial market, as expectations of a rate hike by the Bank of Japan and the possibility of high inflation stemming from Abenomics could lead to a massive unwinding of this popular hedge fund strategy, potentially causing severe reverse shocks. Yen carry trade, in essence, refers to a highly leveraged cross-market financing and risk exposure strategy using low-yielding yen for borrowing, and investing in higher-yielding assets. However, if risk assets fall or the yen strengthens and Japanese government bond yields skyrocket, this trade will quickly collapse. While the Bank of Japan did not announce a rate hike, this decision is more like a "hawkish pause." The Bank of Japan raised its core inflation outlook for the current fiscal year to 2.8% and lowered its economic growth forecast from 1% to 0.5%, acknowledging to some extent the stagflation shock of "inflation driven by rising oil prices and growth suppressed by war"; moreover, internally, the Bank of Japan still believes that the policy rate of 0.75% is below a neutral level, and if inflation and wage trends persist, a rate hike in June remains an important scenario for the market. For Japanese assets, this is an uncomfortable combination for both stocks and bonds: Japanese stocks may benefit in the short term from the lack of an immediate rate hike, but downward revisions in growth expectations, rising costs of energy imports, and yen volatility will suppress exporters' profit margins and valuation expansion; Japanese bonds face upward pressure on long-term yields as core inflation expectations are raised and policy committee disagreements increase, and the market will continue to price in future rate hikes and higher term premiums. In terms of its impact on global stock and bond markets, the Bank of Japan's decision not to hike immediately has temporarily reduced the tail risk of a sudden massive unwinding of yen carry trades; however, if expectations of a rate hike by the Bank of Japan increase in June, the return of Japanese funds, a certain degree of unwind of carry trade positions, and market sell-off pressures related to rising sovereign long-term bond yields and rising discount rates for risk assets may continue to exist. As for the yen exchange rate, the implication of this decision is a short-term relief and slight boost, but the medium-term outlook still depends on Kuroda's stance and the risk of Ministry of Finance intervention. While the Bank of Japan did not announce a rate hike, this decision is more like a "hawkish pause". The Bank of Japan raised its core inflation outlook for the current fiscal year to 2.8% and lowered its economic growth forecast from 1% to 0.5%, acknowledging to some extent the stagflation shock of "inflation driven by rising oil prices and growth suppressed by war"; moreover, internally, the Bank of Japan still believes that the policy rate of 0.75% is below a neutral level, and if inflation and wage trends persist, a rate hike in June remains an important scenario for the market. For Japanese assets, this is an uncomfortable combination for both stocks and bonds: Japanese stocks may benefit in the short term from the lack of an immediate rate hike, but downward revisions in growth expectations, rising costs of energy imports, and yen volatility will suppress exporters' profit margins and valuation expansion; Japanese bonds face upward pressure on long-term yields as core inflation expectations are raised and policy committee disagreements increase, and the market will continue to price in future rate hikes and higher term premiums. In terms of its impact on global stock and bond markets, the Bank of Japan's decision not to hike immediately has temporarily reduced the tail risk of a sudden massive unwinding of yen carry trades; however, if expectations of a rate hike by the Bank of Japan increase in June, the return of Japanese funds, a certain degree of unwind of carry trade positions, and market sell-off pressures related to rising sovereign long-term bond yields and rising discount rates for risk assets may continue to exist. As for the yen exchange rate, the implication of this decision is a short-term relief and slight boost, but the medium-term outlook still depends on Kuroda's stance and the risk of Ministry of Finance intervention. While the Bank of Japan did not announce a rate hike, this decision is more like a "hawkish pause". The Bank of Japan raised its core inflation outlook for the current fiscal year to 2.8% and lowered its economic growth forecast from 1% to 0.5%, acknowledging to some extent the stagflation shock of "inflation driven by rising oil prices and growth suppressed by war"; moreover, internally, the Bank of Japan still believes that the policy rate of 0.75% is below a neutral level, and if inflation and wage trends persist, a rate hike in June remains an important scenario for the market. For Japanese assets, this is an uncomfortable combination for both stocks and bonds: Japanese stocks may benefit in the short term from the lack of an immediate rate hike, but downward revisions in growth expectations, rising costs of energy imports, and yen volatility will suppress exporters' profit margins and valuation expansion; Japanese bonds face upward pressure on long-term yields as core inflation expectations are raised and policy committee disagreements increase, and the market will continue to price in future rate hikes and higher term premiums. In terms of its impact on global stock and bond markets, the Bank of Japan's decision not to hike immediately has temporarily reduced the tail risk of a sudden massive unwinding of yen carry trades; however, if expectations of a rate hike by the Bank of Japan increase in June, the return of Japanese funds, a certain degree of unwind of carry trade positions, and market sell-off pressures related to rising sovereign long-term bond yields and rising discount rates for risk assets may continue to exist. As for the yen exchange rate, the implication of this decision is a short-term relief and slight boost, but the medium-term outlook still depends on Kuroda's stance and the risk of Ministry of Finance intervention.