World’s Last Negative Rate Experiment Nears Its End in Japan

(Bloomberg) — The Bank of Japan is widely expected to scrap the world’s last negative interest rate in the coming weeks, marking the closing act of global central banks’ grand experiment with unorthodox policies.

Governor Kazuo Ueda is forecast to raise the short-term rate from -0.1% either next week or in April in what would be the first rate hike in Japan since 2007, according to economists and bond traders.

The move would mark a step toward mainstream policy after decades of experimentation saw the BOJ amass a mountain of bonds and equities, swelling its balance sheet to 127% of annual output. While all that quantitative easing and the negative rate helped weaken the yen and prevent deeper deflation, it wasn’t until the supply shocks triggered by Covid-19 and Russia’s war in Ukraine that inflation crept above 2% and stayed there.

For the world, it’ll represent closure to the era of negative rates, a radical policymaking approach that was also adopted by the European Central Bank and some continental peers in their battles against falling prices in the 2010s. And just as many there have questioned whether going negative was worth the stress it caused banks and those on fixed incomes, economists are delivering mixed verdicts in Japan’s case too.

“The negative rate did nothing, nothing at all” to stoke inflation, said Kazuo Momma, former BOJ executive director in charge of monetary policy. “Japan’s inflation was driven by price pressures coming from overseas.”

Starting in Denmark, negatives rate were installed in Switzerland, Sweden and the euro zone for varying motivations that ranged from stemming huge inflows into the Swiss franc to fomenting price growth in the wake of the sovereign debt crisis in the case of the ECB.

After more than a decade of deflation, the BOJ went negative in 2016, just a few days after then Governor Haruhiko Kuroda publicly denied considering the move. 

“It was very impactful,” Hiroshi Yoshikawa, a former adviser to the Prime Minister’s key economic panel and emeritus economics professor at the University of Tokyo. “People were shocked and realized just how bad Japan’s economy was.”

At the time, Kuroda said the negative rate could go lower if needed. But after a public backlash, opposition from banks who saw their margins squashed and pension and insurance managers who had to invest overseas to find assets with enough yield, the rate never went deeper into the red. Six months after its rocky start, the central bank announced a policy review as it scrambled to find a way to control bond yields while keeping the negative rate in place.

The global experiment in sub-zero rates continued, too. The stock of bonds that investors received negative yields on eventually peaked at $18.4 trillion in late 2020, according to Bloomberg’s Global Aggregate Index. Then, inflation began to stir and European central banks moved out of negative territory, with the SNB’s September 2022 move leaving the BOJ as the last with subzero rates.

The verdict on the effectiveness of the policy is mixed. 

The ECB has claimed negative rates were a success, with research finding they supported bank lending, improved the transmission of policy impulses into the financial system, stimulated the economy and raised inflation.

In Switzerland, central bank chief Thomas Jordan went further, saying last year that the policy “has proved its worth” and will be redeployed if needed. By contrast, Sweden’s Riksbank exited the policy in late 2019, reckoning that the fallout on its financial system was excessive.

The Federal Reserve never went negative, bottoming out at a range of 0 to 0.25% in March 2020 as the Covid pandemic raged. While they can be helpful in the short term, negative rates can be “counterproductive if implemented over a long time horizon,” researchers there wrote in a paper in September. 

“The main thing we learned about negative interest rates is that they are extremely limited,” said Joseph Gagnon, a senior fellow at the Peterson Institute for International Economics in Washington who formerly worked at the Fed. 

The Fed analysts noted negative rates can be useful to weaken the currency — something targeted by the SNB and Denmark’s Nationalbank. 

Over the last couple of years, when US interest rates shot higher, the yen tumbled to the weakest in three decades. That’s weighed on households and small businesses as import costs pushed higher, but it also helped raise Japan’s overall corporate profits to the highest on record.

That surge in profits helped push the Nikkei 225 stock index to a new record for the first time since 1989 this year. Banks have been leading the charge on bets the shift away from negative rates will improve margins, with some of the biggest lenders preparing for liftoff. 

Read More: Japan’s Biggest Bank Readies for BOJ Rate Liftoff This Month 

But one key stakeholder will be keen to keep borrowing costs low: Prime Minister Fumio Kishida has promised increasing spending for childcare and national defense and will rely on cheap debt to pay for it. Japan has the developed world’s largest pile of government debt when weighed against its gross domestic product, equating to 255%.

Ueda is still keeping his options open, with wage negotiations culminating this month key for confirming whether the economy is in what he calls a virtuous cycle. Members of his board have signaled a hike is looming. 

But even with the days of negative rates in Japan clearly numbered, economists expect borrowing costs will remain close to zero for a good while yet.

–With assistance from Jana Randow, Enda Curran, Craig Stirling and Yasufumi Saito.

©2024 Bloomberg L.P.