Financial Markets Panel 15th Meeting Reference Materials Japanese financial markets post-march 11 and BOJ policy response

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1 Financial Markets Panel 15th Meeting Reference Materials Japanese financial markets post-march 11 and BOJ policy response 29 March 211 Tetsuya Inoue Chief Researcher Financial Technology and Market Research Department Nomura Research Institute Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved.

2 1. Financial markets after the shock Money market (1) Source :BOJ O/N call rate slightly increased at first, but it showed a downward trend afterwards on the back of massive injection of funds by the BOJ. Higher volatility in rates rather reflects the pace of its decline. --On the whole, the market have been far more stabilized than in later Uncollaterized O/N call rate (Average) Max Min /1 3/8 3/15 3/23.2 Jan-8 Jun-8 O ct-8 M ar-9 A ug-9 D ec-9 M ay-1 O ct-1 M ar Uncollaterized O/N call rate (H-L Spread) Uncollaterized O/N call rate (SD for 1D: RHS) /1 3/8 3/15 3/23 Jan-8 Jun-8 Oct-8 M ar-9 Aug-9 Dec-9 M ay-1 Oct-1 M ar-11 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 1

3 1. Financial markets after the shock Source:Thomson Reuters Money market (2) Among term-rates in money markets, OIS rates dropped after the policy action by the BOJ on 14 March. While Libor-OIS spread slightly widened, these are not comparable to those during later %.6 %.6 % M 6M 1Y M 6M 1Y.2 3M 6M 1Y /1 3/6 3/11 3/16 3/21 3/1 3/6 3/11 3/16 3/21 3/1 3/6 3/11 3/16 3/21 OIS (%) Libor (%) Libor-OIS(%) Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 2

4 1. Financial markets after the shock Money market (3) Source:Thomson Reuters Treasury Bill rates showed a small volatility at early stage due to cautious bids from banks at the auction during the week. Meanwhile, Tibor (which tends to reflect the liquidity condition of large Japanese banks) remained flat..6.5 %.3.25 % 3M 6M 1Y.6.5 %.4 3M 6M 1Y.2.4 1M 3M 6M /1 3/6 3/11 3/16 3/21 3/1 3/13 3/16 3/19 3/22 3/25 3/1 3/6 3/11 3/16 3/21 TB(%) TB(trading range: % point) Tibor(%) Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 3

5 1. Financial markets after the shock Money market (4) Source:BOJ, Thomson Reuters While repo market remained stabilized thanks to revival of BOJ s repo operation, short-term funding rate of yen in FX swap market (and off-shore deposit market to a lesser extent) jumped for a short period of time. --Interestingly, such volatilities were observed just before the jump in JPY rates..6.5 %.6.5 % S/N S/W 2W 5 4 % Min Max Closing.4 T/N S/N 1W /1 3/6 3/11 3/16 3/21 3/1 3/6 3/11 3/16 3/21-2 3/1 3/6 3/11 3/16 3/21 Repo rate (%) Libor (%) Effective funding rate of yen (FX S/N swap: %) Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 4

6 1. Financial markets after the shock FX market(1) Source:Thomson Reuters JPY jumped against major currencies at the close of 16 March (NY time), reaching as far as 76.23yen against USD. After its drop on 17 March and concerted intervention on 18 March, JPY rates have crawled around 8 low. Short-term volatility jumped as well, but its magnitude was smaller than in late <Upper> USD/JPY and EUR/JPY <Lower> Implied volatilities of USD/JPY and EUR/JPY (1M) USD/JPY EUR/JPY] RHS] 3/1 3/6 3/11 3/16 3/21 USD/JPY EUR/JPY USD/JPY EUR/JPY (RHS) 7 1 Jan-3 Jan-5 Jan-7 Jan-9 Jan USD/JPY EUR/JPY /1 3/6 3/11 3/16 3/21 Jan-3 Jul-4 Jan-6 Jul-7 Jan-9 Jul-1 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 5

7 1. Financial markets after the shock Source:Thomson Reuters FX market(2) Inverse correlation between JPY rates and domestic stock indices became evident again. Moreover, volatility of USD/JPY and VIX index, which was a notable feature during the financial crisis appeared in a very clear manner.. <Left> USD/JPY and Nikkei 225, <Center and Right> Implied volatility of USD/JPY (1M: %) and VIX index USD/JPY VIX RHS USD/JPY VIX USD/JPY Nikkei225(RHS /1 3/6 3/11 3/16 3/ /1 3/6 3/11 3/16 3/21 16 Jan-3 Jan-5 Jan-7 Jan-9 Jan-11 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 6

8 1. Financial markets after the shock Source:Thomson Reuters FX market(3) In comparison with September 21 (when the MOF intervened in the market), JPY depreciated against CHF and AUD, but appreciated against GBP, NZD, TRY. Overall JPY rates against these major currencies may have been driven by the factors specific to these respective currencies rather than factors in Japanese economy/market. 11 JPY cross rates (31 Dec 29=1: Larger value indicates depreciation of JPY) GBPJPY CHFJPY CNYJPY KRWJPY 85 CADJPY AUDJPY SGDJPY HKDJPY BRLJPY MXNJPY NZDJPY THBJPY ZARJPY TRYJPY Dec-9 Mar-1 Jun-1 Sep-1 Dec-1 Mar-11 Dec-9 Mar-1 Jun-1 Sep-1 Dec-1 Mar-11 Dec-9 Mar-1 Jun-1 Sep-1 Dec-1 Mar-11 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 7

9 1. Financial markets after the shock FX market(4) Source:Thomson Reuters Correlation of JPY rates and interest rate differentials in 2Y note disappeared against EMU in middle 21 and against US in later Most recently, however it has re-emerged against EMU probably on the back of change in the outlook of monetary policy by ECB USD/JPY UST2Y-JGB2Y (RHS) JPY rates and 2Y Notes <Left> Against US <Right> Against EMU EUR/JPY BUNDS2Y- JGB2Y (RHS) Jan-1 Apr-1 Jul-1 Oct-1 Jan-11 USD/JPY USDLibor3M- JPYLibor3M (RHS) JPY rates and Libor 3M <Left> Against US <Right> Against EMU Jan-1 Apr-1 Jul-1 Oct-1 Jan-11 EUR/JPY Euribor3M- JPYLibor3M (RHS) Jan-1 Apr-1 Jul-1 Oct-1 Jan-11 Jan-1 Apr-1 Jul-1 Oct-1 Jan-11 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 8

10 1. Financial markets after the shock FX market (5) Just before the JPY jumped, value of net yen short position hit the new record (approximately.65 trillion yen). --And it should be noted that such large position had been accumulated in a very short period of time. On 17 March, value of net yen short position reduced to half the amount of the previous business day for obvious reasons. Value of Net Short (in 1 M il Yen) Source:Tokyo Financial Exchange PLN/JPY SEK /JPY HKD/JPY NOK/JPY ZAR/JPY NZD/JPY CAD/JPY CHF/JPY AUD/JPY GBP/JPY EUR/JPY USD/JPY -3 Value of Jan-7 Gross Jul-7 Dec-7 Jun-8 Dec-8 Jun-9 Dec-9 Jun-1 Dec-1 (in 1 Mil Yen) PLN/JPY SEK/JPY HKD/JPY NOK/JPY ZAR/JPY NZD/JPY CAD/JPY CHF/JPY AUD/JPY GBP/JPY EUR/JPY USD/JPY <Upper> Net yen short position ( 1mn) <Lower> Gross yen position ( 1mn) Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. Jan-7 Jul-7 Dec-7 Jun-8 Dec-8 Jun-9 Dec-9 Jun-1 Dec-1 9

11 1. Financial markets after the shock FX market (6) 3 Investors held large yen short positions against USD and AUD Source:Tokyo Financial Exchange net short USD/JPY net short EUR/JPY Jan-9 May-9 Sep-9 Jan-1 May-1 Sep-1 Jan net short AUD/JPY Net yen short positions ( 1mn) and FX rates Jan-9 May-9 Sep-9 Jan-1 May-1 Sep-1 Jan net short GBP/JPY Jan-9 May-9 Sep-9 Jan-1 May-1 Sep-1 Jan-11 Jan-9 May-9 Sep-9 Jan-1 May-1 Sep-1 Jan-11 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 1

12 1. Financial markets after the shock Some stylized facts Source:BOJ Credit multiplier dropped during the period of Quantitative Easing. While it regained to some extent afterwards, it has gradually declined since later 28. Meanwhile the correlation between monetary base and JPY disappeared in later last year. On the one hand, this should be discussed in the context of relative stances of CBs in concern. But on the other hand, we could not rule out the possibility that we were in a different world than in the financial crisis. Credit Multiplier 11 1 M2+CD/Monetary Base Jan- Jan-2 Jan-4 Jan-6 Jan-8 Jan-1 BOJ s current a/c and JPY 45, 4, 35, 3, 25, 2, 15, 1, 5, Jan- Jan-2 Jan-4 Jan-6 Jan-8 Jan-1 BOJ's current a/c balance 1mn LHS NEER of JPY RHS Reversed Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 11

13 1. Financial markets after the shock Source:Thomson Reuters JGB market(1) JGB yields dropped by approximately 1bp in the area of 5Y to 1Y during the first week after the shock. --The shape of the yield curve is virtually the same as February. And its position is slightly higher than December last year JGB yields (%) 2Y 7Y 2Y(RHS) 5Y 1Y(RHS) Yield spreads in JGB market (%) 2.5 3/1 3/6 3/11 3/16 3/21 JGB yield curve (end of month: %) Y vs 5Y 5Y vs 1Y 2Y vs 1Y /1 3/6 3/11 3/16 3/21 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 1Y 2Y 3Y 4Y 5Y 6Y 7Y 8Y 9Y 1Y 15Y 2Y 3Y 12 Sep-8 Dec-8 Mar-9 Sep-9 Dec-9 Jun-1 Sep-1 Dec-1 Feb-11 Mar-11

14 1. Financial markets after the shock Source:Thomson Reuters JGB market(2) Weekly trading range of JGB yields as well increased 1bp or larger during the week of 14 March. --Nevertheless, standard deviation of weekly yields remained stabilized and far smaller than those in December 21 (when BOJ s dialogue with the markets was criticized) Y 5Y 1Y.16 2Y 5Y 1Y Aug-8 Feb-9 Aug-9 Feb-1 Aug-1 Feb-11 Weekly trading ranges (% point) Aug-8 Feb-9 Aug-9 Feb-1 Aug-1 Feb-11 Standard Deviation of JGB yields(weekly: 13week MA) Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 13

15 1. Financial markets after the shock Source:Thomson Reuters Stock market(1) Major stock indices plunged by 15% during the first two business days. While they rebounded since then, upward momentum has not been so strong. On March 25, closing level was still about 1% lower than the end of February. Nikkei 225 and Topix (<Left> Closing, <Center> % change, <Right> High-Low spread) Nikkei 225 Topix(RHS) Nikkei225 Topix(RHS) 3/1 3/6 3/11 3/16 3/ Nikkei 225 Topix 3/1 3/6 3/11 3/16 3/ /1 3/6 3/11 3/16 3/ Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 14

16 1. Financial markets after the shock Stock market (2) Source:Thomson Reuters It should be noted that strength of rebounds from the recent bottom clearly diversified, because the investors may be looking at factors in relation to supply constraint in respective industries TOPIX Electronic M achinery Transportation Machnery General M achinery 2/28 3/5 3/1 3/15 3/2 3/25 TOPIX Bank Retail Trade Real E state TOPIX(<Left> 28 Feb =1, <Right> 3 Dec 29 =1) TOPIX Electoronic M achinery Transportation M achinery General M achinery 8 Dec-9 Mar-1 Jun-1 Sep-1 Dec-1 Mar TOPIX Bank R etail T rad e R eal E state /28 3/5 3/1 3/15 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 3/2 3/25 Dec-9 M ar-1 Jun-1 Sep-1 Dec-1 M ar-11 15

17 1. Financial markets after the shock REITs and ETF Source:TSE The markets expect positive impacts from enhancing Comprehensive Easing in March. ETF could further benefit from renewed interests by overseas players. 3, 25, Total Those covering Topix 3, 25, Total Those Covering Topix 2, 15, 1, 5, Transaction of ETF at TSE <Left> Turnover (thousand) <Right> Value of trade ( mn) 2, 15, 1, 5, Jan-1 Apr-1 Jul-1 Oct-1 Jan-11 Jan-1 Apr-1 Jul-1 Oct-1 Jan-11 1,8 45, 12 1,6 1,4 1,2 1, Turnover (LH S) Value of trade (R H S) 4, 35, 3, 25, 2, 15, 1, Transaction of REIT at TSE <Left> Turnover (thousand) and Value of trade ( mn) <Right> Index of TSE REIT , Jan-1 A pr-1 Jul-1 O ct-1 Jan Jan-1 Apr-1 Jul-1 Oct-1 Jan-11 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 16

18 1. Financial markets after the shock Source:Thomson Reuters Credit markets (1) Early in the week of 14 March, credit spreads of corporate bonds and their CDS with lower ratings and CP rate increased by 15 to 2bps. --Still their tension has been marginal in comparison with the financial crisis. Anecdotal evidences suggest that corporations plan to issue more CPs and less corporate bonds as pre-cautious actions to secure liquidities. --Until the earthquake, issuance of corporate bonds had been active. Credit spreads of corp bonds (5Y: bp) CDS spread (5Y: bp) CP rates(%) 2 AAA A BBB itrax Japan M 6M Jan-7 Jan-8 Jan-9 Jan-1 Jan-11 Jan-7 Jan-8 Jan-9 Jan-1 Jan-11 Jan-7 Jan-8 Jan-9 Jan-1 Jan-11 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 17

19 1. Financial markets after the shock Credit markets (2) 24, Source: JSDA <Upper Left> Corp Bond Issuance, <Upper Right> Corp Bond Outstanding <Lower Left> CP Issuance. <Lower Right> Equity Finance (all in 1mn) 65, 21, 18, Corporate Bonds Samurai Bonds 6, 15, 12, 9, 55, 5, 6, 3, 45, Jan-7 Jan-8 Jan-9 Jan-1 Jan-11 14, Longer than 6M 3M to 6M 1M to 3M Shorter than 1M 12, 1, 8, 6, 4, 2, 4, Jan-7 Jan-8 Jan-9 Jan-1 Jan Domestic O verseas Total (R H S) Jan-7 Jan-8 Jan-9 Jan-1 Jan-11 Jan-7 Jan-8 Jan-9 Jan-1 Jan-11 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 18

20 1. Financial markets after the shock Source: BOJ Bank loans After the spike of pre-cautious demands during the financial crisis, we observed a sharp drop of bank loans once the markets stabilized. Last year, only regional banks recorded increase of loans backed by demands from municipal government and households. Anecdotal evidences suggest that corporations showed strong pre-cautious demands of funds after the earthquake. Moreover, the markets expect strong demand of loans could be maintained probably due to supply constraints in many industries and investments for recovery in coming months. Loan outstanding by category of banks(y-on-y %) Loan outstanding by category of borrower(y-on-y %) 6 4 % 2 15 % Total City Banks Reg ional Banks Reg ional Banks II -6 Jan-7 Oct-7 Jul-8 Apr-9 Jan-1 Oct Total Manufacturing Non-Manufacturing Household Municipal Mar-4 Sep-5 Mar-7 Sep-8 Mar-1 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 19

21 1. Financial markets after the shock (Reference) Outstanding of loans and deposits Source: BOJ Loan Deposit 35 Loan/Deposit Ratio 7 (RHS) 3 6 Mar-9 Mar-94 Mar-98 Mar-2 Mar-6 Mar-1 1 <Left> Total 2 <Right> City Banks 9 ( trn: %) Loan Deposit Loan/Deposit Ratio (RHS) 6 Mar-9 Mar-94 Mar-98 Mar-2 Mar-6 Mar Loan Deposit Loan/Deposit Ratio (RHS) <Left> 2 Regional Banks <Right> 15 Regional Banks II ( trn: %) 1 Loan Deposit Loan/Deposit Ratio (RHS) Mar-9 Mar-94 Mar-98 Mar-2 Mar-6 Mar-1 6 Mar-9 Mar-94 Mar-98 Mar-2 Mar-6 Mar-1 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 2

22 1. Financial markets after the shock Commodity markets Source:Thomson Reuters During the first quarter, upward movements of prices of crude oil and silver accelerated. --Current level of crude oil price is as high as early 28 just before it stated to jump. --The markets are expecting further upward pressures on prices of crude oil, natural gas and copper due to surge of demands from Japan in coming months. Prices of major commodities (Dec 29=1) Prices of Gold and Crude Oil (USD) CRUDE OIL (WTI) NATURAL GAS CRB INDEX GOLD 9 9 SILVER 85 COPPER /31 1/14 1/28 2/11 2/25 3/11 3/25 12/31 1/14 1/28 2/11 2/25 3/11 3/ CRUDE OIL (WTI) GOLD Jan-7 Jan-8 Jan-9 Jan-1 Jan Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 21

23 1. Financial markets after the shock Portfolio investment (1) Source: MOF Inward investment: Overseas investors bought stock at the record pace in the week of 14 March. But at the same time, they sold large amount of short-term notes (probably TBs), mostly offsetting the inward flow of money. --Meanwhile, it should be noted that, during the first quarter, overseas investors purchased large amount of shorter-term notes. Outward investment: Domestic investors actually bought decent amount of foreign long-term bonds, in spite of the market speculation about repatriation. 3 2 Inward investment (net: 1mn) ST Notes LT Bonds Stock 1 5 Outward investment (net: 1mn) ST Notes LT Bonds Stock 3 2 Net cross-border investment ( 1mn) /2 1/16 1/3 2/13 2/27 3/ /2 1/16 1/3 2/13 2/27 3/13 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved ST Notes LT Bonds Stock 1/2 1/16 1/3 2/13 2/27 3/13

24 1. Financial markets after the shock Source: MOF Portfolio investment (2) From longer-term perspectives, pace of outward investment decelerated (in comparison with later last year) and inward investment gained momentum in the first quarter. --In terms of impacts on FX rates, we should also take account of hedging strategies, because investors could flexibly change them in light of minimal differentials of interest rates among developed countries (and therefore small cost hedging currency risks). 3, 2, Inward investment (net: 1mn) ST Notes LT Bonds Stock 3 2 Outward investment (net: 1mn) ST Notes LT Bonds Stock 1, 1-1, -1-2, -2-3, 1/2 3/13 5/22 8/1 1/1 12/19 2/27-3 1/2 3/13 5/22 8/1 1/1 12/19 2/27 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 23

25 1. Financial markets after the shock Correlation of government notes yields Source:Thomson Reuters In the area of shorter term maturities, JGB have maintained strong correlation with US Treasury Notes but less with Bunds, probably reflects the market outlook of monetary policy in respective markets. And in the area of longer term maturities, JGB rate has crawled in spite of recent rises in yields in both US and European markets. Government note yields (<Left> 2Y, <Center> 5Y, <Right> 1Y: %) US Germany Japan(RHS) US Germany US Germany Japan(RHS) Japan(RHS) /31 1/14 1/28 2/11 2/25 3/11 3/ /31 1/14 1/28 2/11 2/25 3/11 3/ /31 1/14 1/28 2/11 2/25 3/11 3/25 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 24

26 1. Financial markets after the shock Correlation of stock prices Source:Thomson Reuters Stock indices in major markets have shown strong correlation during the first quarter of this year, and such feature remained intact during these weeks. --The markets pay close attention to the potential impacts of supply disruption from Japan on some technology and automobile companies. Major stock indices Topix S&P Topix NASDAQ Topix FTSE DAX /31 1/14 1/28 2/11 2/25 3/11 3/ /31 1/14 1/28 2/11 2/25 3/11 3/ /31 1/14 1/28 2/11 2/25 3/11 3/25 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 25

27 1. Financial markets after the shock (Reference) US stock indices Source:Thomson Reuters Stock prices of energy and material rebounded sharply after the plunge in mid-march. But those of industrial and technology lacks momentum. --There has been a discussion about the effects of the earthquake on such matters as 1)risk aversion driven by nuclear problems, 2)suspension of production in certain areas facing supply constraints of parts, and 3)potential drop in demand for luxurious goods in Japanese markets. S&P indices (End of July 21=1) S&P 5 S&P Financial S&P Industrial S&P Cons. Disc S&P 5 S&P Technology S&P Energy S&P Material /3 9/7 1/12 11/16 12/21 1/25 3/1 9 8/3 9/7 1/12 11/16 12/21 1/25 3/1 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 26

28 2. Policy measures by the BOJ Injection of funds(1) Source:BOJ During the week of 14 March, the BOJ kept conducting fund supplying operations with T+ settlements. In addition, they conducted repo operations with T+2 settlements and operations against pooled collateral with longer-term maturities, reinforcing their commitment in ample supply of liquidity. Operations against pooled collateral with T+ settlements While the operations with T+ settlements suffered from under-subscription, the BOJ conducted them more than once in a business day in order to mitigate the risk of uneven allocation of funds among financial institutions (which could lead to instability of money markets). Operations against pooled collateral other than with T+ settlements Repo operations Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 27

29 2. Policy measures by the BOJ Injection of funds(2) Source:BOJ Operations against pooled collateral with 3 or 6 month terms (fixed rate), which has been conducted as part of Comprehensive Easing, has been subscribed better than until 11 March. At the same time, operations in CP market (both repo and outright purchase) has attracted strong interests by financial institutions, reflecting growing demands of issuance by non-financial corporation toward the end of the fiscal year. Operations against pooled collateral (fixed rate) 9 8 Bid-to-cover ration of operations against pooled collateral with 3 month terms (fixed rate) Asset purchase as part of Comprehensive Easing Asset purchase as part of Comprehensive Easing CP repo operations /1 3/23 5/18 7/8 8/3 1/21 12/13 2/2 3/28 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 28

30 2. Policy measures by the BOJ Outstanding of normal short-term operations ( 1mn) 3, 25, 2, 15, 1, 5, Jan-9 Apr-9 Jul-9 Oct-9 Jan-1 Apr-1 Jul-1 Oct-1 Jan-11 JGB Repo CP Repo Fund supplying opetation against pooled collateral (auction) Outstanding of operations introduced as policy measures ( 1mn) 3, 25, 25, 2, 2, 15, 15, 1, 1, Source:BOJ (Reference) Operations before the earthquake BOJ used Fund supplying operation against pooled collateral (auction) as the sole measure for fine-tuning. --They suspended the repo operations. As part of Comprehensive Easing since October 21, BOJ used Fund supplying operation against pooled collateral(fixed rates)to inject funds with longer maturities. --Initially, the operation with 3M terms were introduced and those with 6M-terms were added. --These operations have been conducted through Asset Purchase Fund launched as Comprehensive Easing. 5, Jan-9 A pr-9 Jul-9 Oct-9 Jan-1 A pr-1 Jul-1 O ct-1 Jan-11 5, Fund supplying operation for supporting corporate USD fund operation (RHS) Fund supplying operation against pooled collateral (fixed rate) Purchase of CP (RHS) Purchase of Corporate Bond (RHS) Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 29

31 2. Policy measures by the BOJ Injection of funds and call rates Source:BOJ In spite of the last month of the fiscal year, current a/c balance had been crawling virtually the same level as February before the earthquake hit. Since then, BOJ aggressively injected large amount of funds, and as a result, the outstanding balance of the current a/c jumped to 42.5 trn on March Technically, these injection of money drastically reduced the needs of banks to satisfy their reserve requirements in the current reserve period. 45, 4, 35, 3, 25, 2, 15, 1, 5, Current a/c during Comprehensive Easing Call and TB rates (%) Current a/c balance Excess Reserve 1/1 1/22 11/12 12/3 12/24 1/14 2/4 2/25 3/ Uncollaterized O/N call rate (Average) Max Min 3/1 3/8 3/15 3/23 3/1 3/6 3/11 3/16 3/21 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved % 3M 6M 1Y

32 2. Policy measures by the BOJ (Reference) Balance sheet of the BOJ Source:BOJ Since the launch of Comprehensive Easing, current account balance had been gradually growing until the turn of the year. The average balance during February 211 was still approximately 18 trn, twice as large as in the fall of 28 and comparable to May 26 (just after the exit from Quantitative Easing). Increase in current account balance has been largely driven by accumulation of operations against pooled collateral (fixed rate). 4, 35, Current account and reserves ( 1mn) Current account Required reserve Excess reserve 2,, 1 mil JPY Composition of assets ( 1mn) REIT ETF Corporate Bond 3, 1,5, Commercial Paper ABS 25, Fund Trust 2, 1,, Other Lending Foreign Exchange 15, 1, 5, Special Fund-supplying Operation Lending against Pooled Collateral Repo 5, Bank Bill Jan-4 Jul-5 Jan-7 Jul-8 Jan-1 Jan-4 Jan-5 Jan-6 Jan-7 Jan-8 Jan-9 Jan-1 Jan-11 JGB TB Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 31

33 2. Policy measures by the BOJ Source:MOF Concerted intervention The MOF and the BOJ conducted intervention in the morning of 18 March as agreed in the teleconference of G7 Financial Ministers and Central Bank Governors. This is the first concerted intervention since 2, and overseas currency authorities of G7 economies intervened their markets. --With its monthly report at the end of March, the MOF announced that aggregate amount of the operations was bln. Statement of G7 pointed out that the reason for the intervention is to mitigate adverse implications of excess volatility and disorderly movements of JPY rates. The same line of discussion could be found in the statement of G7 in October 28 (during the time of the financial crisis). Statement of G7 Financial Ministers and Central Bank Governors (March 18, 211: Excerpt) In response to recent movements in the exchange rate of the yen associated with the tragic events in Japan, and at the request of the Japanese authorities, the authorities of the United States, the United Kingdom, Canada, and the European Central Bank will join with Japan, on March 18, 211, in concerted intervention in exchange markets. As we have long stated, excess volatility and disorderly movements in exchange rates have adverse implications for economic and financial stability. We will monitor exchange markets closely and will cooperate as appropriate. Statement of G7 Financial Ministers and Central Bank Governors (October 27, 28: Excerpt) We reaffirm our shared interest in a strong and stable international financial system. We are concerned about the recent excessive volatility in the exchange rate of the yen and its possible adverse implications for economic and financial stability. We continue to monitor markets closely, and cooperate as appropriate. Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 32

34 2. Policy measures by the BOJ Effective exchange rates Source:BOJ, MOF, BOE <Left> Effective rates of JPY, <Upper Right> REER and FX intervention, <Lower Right> Effective rates of major currencies (Jan 27=1) NEER REER FX Intervention (RHS) REER Jan-91 Jan-95 Jan-99 Jan-3 Jan-7 Jan-11 Effective rates of JPY showed resiliencies after temporary stabilization since the previous intervention. As a result, level of effective rates at the time of concerted intervention seemed not to be far from the level we observed in Meanwhile, JPY appreciated by 5% in Jan-91 Jan-95 Jan-99 Jan-3 Jan JPY USD 14 EUR 13 CHF 12 GBP terms of NEER since the beginning of Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. Jan-7 Oct-7 Jul-8 Apr-9 Jan-1 Oct-1 33

35 2. Policy measures by the BOJ Enhancement of Monetary Easing (14 March, 211) Source:BOJ Economic condition Japan's economy is emerging from the current deceleration phase. The year-on-year rate of decline in the CPI (excluding fresh food) has continued to slow. The Bank has maintained its baseline scenario that Japan's economy is expected to return to a moderate recovery path. The year-on-year rate of change in the CPI is expected to become slightly positive in the near future. However, the damage of the earthquake has been geographically widespread, and thus, for the time being, production is likely to decline and there is also concern that the sentiment of firms and households might deteriorate. Policy action the Bank will provide ample funds sufficient to meet demand in financial markets and will do its utmost to ensure financial market stability With a view to preempting a deterioration in business sentiment and an increase in risk aversion in financial markets from adversely affecting economic activity, the Policy Board decided to increase the amount of the Asset Purchase Program, mainly of the purchases of risk assets, by about 5 trillion yen to about 4 trillion yen in total. After the policy decision, Governor Shirakawa insisted the following points at press briefing. Taking account of the high uncertainties about economic outlook after the earthquake, we think it utmost important to prevent downward pressures on economic activities because of deterioration of economic sentiment and proliferation of risk aversion. Large scale disruption of infrastructure and logistics in Tohoku area and concerns about stable supply of electric supply in metropolitan Tokyo would constraint production activities in these areas for the time being. We allocated larger amount of incremental funds of Asset Purchase Program to buy risky assets, in order to highlight our intension to mitigate negative impacts of risk aversion in a pre-emptive manner. Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 34

36 2. Policy measures by the BOJ Source: BOJ (Reference) Asset purchase program (numbers in red indicate the enhancements this time) JGB TB Asset Transactions Counterparties Rates Conditions of eligibility Maturity Target Amounts ( trn) Purchasing JGB from eligible counterparties Purchasing TB from eligible counterparties Newly designated counterparties Newly designated counterparties Competitive bids (with lower boundary at.1%) Competitive bids (with lower boundary at.1%) to 2 years Amounts Purchased ( trn, as of 28 Feb) CP and ABCP Purchasing CP and ABCP from eligible counterparties Newly designated counterparties Competitive bids (with lower boundary at.1%) CP: with ratings of a-2 or higher ABCP: with ratings of a-1 no larger than 1 billion yen from each issuer Corporate Bond Purchasing corporate bonds from eligible counterparties Newly designated counterparties Competitive bids (with lower boundary at.1%) with ratings BBB or higher (for bonds issued by real-estate investment companies, ratings with AA or higher) 1 to 2 years ETF Investing in trust funds that purchase ETF Newly established trust funds --- (rule for diversification to be introduced) J-REIT Investing in trust funds that purchase J-REIT Newly established trust funds --- (rule for diversification to be introduced) * Eligibility of assets purchased remain mostly the same as eligibility of collateral for market operations Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved

37 2. Policy measures by the BOJ (Reference) Statement of monetary policy (Excerpt: February and January) <Left> 15 February, <Right> 25 January Source:BOJ economy is gradually emerging from the current deceleration phase Japan s exports and production are showing signs of resuming an uptrend. Business fixed investment has started to pick up (labor market conditions) remained severe, but the degree of severity has eased somewhat (consumption) demand has suffered a reverse after the sharp increase seen previously. Housing investment has started to pick up. rate of decline in the CPI (excluding fresh food) has continued to slow as a trend. the recovery seems to be pausing. Business fixed investment has started to pick up (labor market conditions) remained severe, but the degree of severity has eased somewhat (consumption) demand has suffered a reverse after the sharp increase seen previously. Housing investment is showing signs of picking up exports have been somewhat weak home and abroad, production has declined slightly. (CPI is) slowing rend in the pace of decline has continued. expected to emerge from the current deceleration phase and return to a moderate recovery path rate of decline in the CPI is expected to continue slowing upside risks such as faster growth in emerging and commodity-exporting economies due to robust domestic demand and capital inflows from overseas...downside risks associated with continued uncertainties about the outlook for the U.S. and European inflation will rise more than expected if commodity prices increase further due to high growth (abroad) inflation will deviate downward from the baseline scenario due, for example, to a decline in medium- to long-term inflation expectations. expected to gradually overcome the deceleration in the pace of improvement and return to a moderate recovery path the year-on-year rate of decline in the CPI is expected to continue slowing. upside risks such as faster growth in emerging and commodity-exporting economies downside risks associated with uncertainties about the outlook for the U.S. and European economies inflation will rise if commodity prices increase further due to high growth (abroad) inflation will deviate downward from the Bank's baseline scenario due to a decline in mediumto long-term inflation expectations Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 36

38 2. Policy measures by the BOJ Economic outlook by the BOJ (as of January 211) The BOJ maintained relatively bullish outlook of economy and inflation beyond FY 211, largely preserving its outlook in October 21. This will be revised in April 211. (Overall outlook) Compared with the projections presented in the October 21, growth prospects remain broadly unchanged for fiscal 211 and 212. With regard to prices, the domestic corporate goods price index and the CPI (excluding fresh food) will likely be somewhat higher in fiscal 211 mainly due to the rise in commodity prices, but broadly in line with the October projections for fiscal 212. (Risks) there are some upside risks such as faster growth in emerging and commodity-exporting economies due to robust domestic demand and capital inflows from overseas. However, there are downside risks associated with uncertainties about the outlook for the U.S. and European economies and developments in global financial markets. Regarding the outlook for prices, there is a possibility that inflation will rise more than expected if commodity prices increase further due to high growth rates in emerging and commodity-exporting economies, while there is also a risk that the rate of inflation will deviate downward from the Bank's baseline scenario due, for example, to a decline in medium- to long-term inflation expectations (Reference) Summary of semi-annual outlook as of January 211 (Source: BOJ) Real GDP (Annual Growth) CPI (Ex. flesh food) (y-on-y rate) CGPI (y-on-y rate) FY %~+3.4% -.4%~-.3% +.5%~+.6% FY %~+1.7% +.%~+.4% +.7%~+1.2% FY %~+2.2% +.2%~+.8% +.5%~+.8% Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 37

39 2. Policy measures by the BOJ Discussion on BOJ s underwriting of public debts Source:BOJ Some politicians propose that the BOJ should underwrite the special government bonds for raising funds for recovery and reconstruction of the affected area. While it is unclear about the backgrounds for such proposal, followings are the possible ones: 1) In light of huge fiscal deficits, any additional issuance of JGBs could drive up the long-term rates, which would be harmful to recovery of our economy. 2) Since we have been trapped in the deflationary trap for years, risk of inflation (as far as it is modest) would rather be desirable. Against this extraordinary proposal, not only the BOJ but also ministers and bureaucrats in concern are raising the voices of opposition. What they worry the most seems to be the possible negative reactions from the markets and the rating agencies, which could have upward pressures on long-term rates. --Still, the possibility of approval by the Parliament could not be ruled out, because the risk and the cost of such action would not be felt in a short period of time. (Reference) Press briefing by Governor Shirakawa (14 March: excerpt) Public Law of Finance allows the underwriting of public debts by the BOJ only when the Parliament votes to approve it. Therefore, from our point of view, the BOJ does not have the discretion and is in principle prohibited to do so. past experiences suggest that once a central bank starts to underwrite public debts, people would lose confidence in the ability of a central bank to control inflation rates, which results in hyper inflation. Prohibition of underwriting public debts in Japan, as I understand, is based on such experiences both in Japan and overseas. the BOJ would rather make the most of our policy tools given by the relevant laws, in order to support the Japan s economy in returning to a sustainable growth with stability of prices Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 38

40 2. Policy measures by the BOJ Source:BOJ Policy intension by the BOJ to purchase JGBs The BOJ maintains their stance in principle that purchasing JGBs is intended to support efficient management of money markets through reducing the burdens of money market operations. Regarding the JGB purchase as part of Comprehensive Easing, however, the BOJ explained that it would be intended to encourage the decline in longer-term rates as a temporary measure. Statement (March 21) Press briefing by Governor (October 21) continued provision of substantial liquidity is required to ensure stability in financial markets. To put this into action, the Bank decided to further utilize its long-term funds-supplying operations by increasing its outright purchases of Japanese government bonds (JGBs), thereby facilitating smooth money market operations. like previous cases, purchase of JGBs will be increased because of the technical reasons for money market operations, without taking account of the prospective increase in the issuance of JGBs (asked whether it is intended to have effects on long-term rates) we do not have such intensions Statement (October 21) Press briefing by Governor (October 21) taking into account that there is little room for a further decline in short-term interest rates, the Bank will encourage the decline in longer-term interest rates purchase of long-term government bonds through the program will be conducted as a temporary measure, and will serve a different purpose the purchase of JGBs through the program taking into account of the current condition that there is little room for a further decline in short-terms rates, will be conducted in order to encourage the decline in longer-term rates this is a temporary and exceptional measure as part of Comprehensive Easing in order to clarify the differences in purposes, the BOJ will hold such JGBs in the special account for the Asset Purchase Program Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 39

41 2. Policy measures by the BOJ Source:FRB (Reference) Idea of QE2 in the US Chairman Bernanke argued that Fed s purchase of US Treasury Notes would stimulate the economy through Portfolio Rebalancing Effect (as illustrated below). 1) Massive purchase of UST would change the composition of financial assets on macroeconomic scale. 2) FIs and investors would reconstruct their investment portfolio with the funds received from the FRB 3) Such reconstruction would change relative prices (ie. relative yields) of various financial assets 4) Economic activities would be stimulated as a result of change in relative yields of various financial assets Speech by Chairman Bernanke at the conference by FRB Kansas City (August 27, 21) <Excerpt> the Fed's strategy relies on the presumption that different financial assets are not perfect substitutes in investors' portfolios, so that changes in the net supply of an asset available to investors affect its yield and those of broadly similar assets. Thus, our purchases of Treasury, agency debt, and agency MBS likely both reduced the yields on those securities and also pushed investors into holding other assets with similar characteristics, such as credit risk and duration. For example, some investors who sold MBS to the Fed may have replaced them in their portfolios with longer-term, high-quality corporate bonds, depressing the yields on those assets as well. the degree of accommodation delivered by the Federal Reserve's securities purchase program is determined primarily by the quantity and mix of securities the central bank holds or is anticipated to hold at a point in time (the "stock view"), rather than by the current pace of new purchases (the "flow view"). Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 4

42 2. Policy measures by the BOJ (Source: BOJ) Current framework of JGB operation by the BOJ The BOJ has been purchasing JGBs since Historically, the BOJ explained that the JGB purchase should be kept consistent with growth of banknotes, and the operations were conducted in a passive manner. However, since the early years of our previous crisis, the BOJ sometimes referred to its intension to use JGB purchase as part of monetary stimulus in somewhat active manners. 1. Amounts purchased 21.6 trillion yen (annually) <since December 28> 2. Types of bonds to be purchased 3. Ceilings of amounts purchased (annually) Fixed rate bonds (with original maturities of 2, 4, 5, 6, 1, 2 and 3years) Floating rate bonds Inflation indexed bonds Fixed rate bonds: (with remaining maturity of less than 1year): 7.44 trillion yen (with remaining maturity over 1year and less than 1years) : 12. trillion yen (with remaining maturity over 1years and less than 3years):1.2 trillion yen Floating rate bonds:.72 trillion yen, Inflation indexed bonds:.24 trillion yen 4. Frequency of purchase Basically 4times per month (two categories of bonds are purchased per auction) 5. Auction method Conventional (fixed rate bonds: interest rates, floating rate bonds and indexed bonds: prices) 6. Ceiling of outstanding Outstanding amount of bank notes 7. Management of auctions Announcing the amounts purchased for respective categories at each auction (Reference) JGB purchase under Asset Purchase Program as part of Comprehensive Easing (introduced in Nov. 21) 1. Amounts purchased 1.5 trillion yen (increased to 2. trillion yen in March 211): Until June Types of bonds to be purchased Fixed rate bonds with maturing in 1 to 2 years 3. Auction method Conventional (interest rates with lower boundary of.1%) Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 41

43 2. Policy measures by the BOJ (Reference) Composition of JGBs for FY 211 (Source: MOF) Total Financed in the Market FY21 (incl. supplementary budget) FY Market Issuance Non-Competitive Auction etc For Households Bank of Japan Total For FY 211 budget (covering the period from April 211 to March 212), the MOF plans to issue 144 trn yen JGB through auctions (in gross terms). Large part of the issuance is allocated to JGBs with shorter-maturities and TBs. Nevertheless, the MOF plans to issue marginally larger amounts of 4- year and 3-year bonds for FY211. ( trn) FY21 (incl. supplementary budget) FY21 4-year bonds 1.2 (.3 x 4) 1.6 (.4 x 4) 3-year bonds 4.8 (.6 x 8) 5.6 (.7 x 8) 2-year bonds 13.2 (1.1 x 12) 13.2 (1.1 x 12) 1-year bonds 26.4 (2.2 x 12) 26.4 (2.2 x 12) 5-year bonds 28.8 (2.4 x 12) 28.8 (2.4 x 12) 2-year bonds 31.2 (2.6 x 12) 31.2 (2.6 x 12) TB (1-year) 3. (2.5 x 12) 3. (2.5 x 12) TB (6-month).9 15-year floating bonds 1-year indexed bonds Auctions for enhanced liquidity 7.2 (.6 x 12) 7.2 (.6 x 12) Total ( trn) Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 42

44 2. Policy measures by the BOJ (Reference) BOJ s Portfolio of JGB as of December, 21 (Source: BOJ) Composition of Original Maturity(1mil JPY) Composition of Remaining Maturity (1mil JPY) 3, 14, 25, 12, 2, 1, 8, 15, 6, 1, 4, 5, 2, 2Y 5Y 1Y 2Y 3Y Floater Index <1Y <2Y <3Y <4Y <5Y <6Y <7Y <8Y <9Y <1Y <15Y <2Y <25Y <3Y Weighted Average of Duration (Year) Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 43

45 2. Policy measures by the BOJ (Reference) BOJ s Portfolio of JGB as of December, 21 (Source: BOJ) Composition of Fixed Rate Notes(Coupon Rate: 1mil JPY) 6, 5, 4, 2Y Note 5Y Note 1Y Note 3, 2, 1, Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 44

46 2. Policy measures by the BOJ (Reference) Aggregate outstanding of JGB as of March, 21 (Source: MOF) 1,2, Composition of Remaining Maturity (1mil JPY) 1,2, Composition of Scheduled Redemption (1mil JPY) 1,, 1,, 8, 8, 6, 6, 4, 4, 2, 2, <1Y <2Y <3Y <4Y <5Y <6Y <7Y <8Y <9Y <1Y <2Y >2Y Weighted Average of Duration (Year): 6.41 FY21 FY215 FY22 FY225 >FY23 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 45

47 2. Policy measures by the BOJ (Reference) Aggregate outstanding of JGB as of March, 21 (Source: MOF) Composition of JGBs (Coupon Rate or Interest Rate applied to FRN and Indexed Bonds: 1mil JPY) 6, 5, 4, 3, 2, 1, < >3 Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 46

48 2. Policy measures by the BOJ Source:BOJ Banknote Rule As of 28 February, the BOJ held 59.4trn JGBs and issued 78.8 trn banknotes. The difference of the two, which is the room for additional purchase of JGBs under Banknote Rule, was 19.4 trn. The amount was as large as April 26 (just after the exit of QE). The BOJ reiterates the idea that this rule is useful in clarifying their intention to purchase JGBs. 9, 8, 7, 6, 5, 4, 3, 2, 1, Banknote Rule ( 1mn) Outstanding of Bank Notes Margin (RHS) Outstanding of JGB Apr-1 Apr-3 Apr-5 Apr-7 Apr-9 45, 4, 35, 3, 25, 2, 15, 1, 5, Press Briefing by Governor Shirakawa (Excerpt) (March 29) The significance of the rule first, it contributes to efficient management of monetary operations second, it clarifies that our intension to purchase JGBs is not supporting their prices or financing fiscal deficits. (October 21) Existing program of purchasing JGBs is intended to provide funds stably in line with trend growth of demand for banknotes therefore, the BOJ keeps the outstanding of our JGB holdings less than that of banknotes announcement of the rule to the market effectively prevents risk premium from rising by way of clarification that our JGB purchase is not intended to finance fiscal deficits Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 47

49 2. Policy measures by the BOJ 1. Eligible Counterparties FIs that are counterparties in Funds-Supplying Operations against Pooled Collateral at All Offices One shall submit a plan to support strengthening the foundations for economic growth, and obtain the Bank's confirmation that the plan satisfies the conditions 2. Duration of Loans One year in principle, and can be rolled over up to three times (the maximum duration shall be four years). New loans are scheduled to be disbursed quarterly. 3. Total Amount of Loans 4.Loan Rates Shall not exceed 3 trillion yen; at each loan disbursement shall not exceed 1 trillion yen. Loans to each counterparty shall not exceed 15 billion yen. Loan to each counterparty shall be the actual amount of lending and investment carried out during each quarter The Bank's target for the uncollateralized overnight call rate at the time of loan disbursement. 5. Deadline Disbursement: June 3, 212/ Application: March 31, Eligible loans or investment 7.Borrower/Investee Source:BOJ Fund-Provisioning Measure to Support Strengthening the Foundations for Economic Growth The use of funds shall support strengthening the foundations for economic growth in, for example, one of the following areas: (1) Research and development, (2) Setting up a new business, (3) Business reorganization, (4) Investment and business deployment in Asian and other countries, (5) Science and technology research at universities and research institutions, (6) Development and upgrading of social infrastructure, (7) Environment and energy business, (8) Business for securing and developing natural resources, (9) Medical, nursing care, and other health-related business, (1) Business serving the needs of senior citizens, (11) Business in the content creation industry, (12) Tourism business, (13) Regional and urban revitalization business, (14) Agriculture, forestry, and fisheries business; Business linking agriculture, commerce, and industry, (15) Business which supports the creation of housing stock, (16) Disaster prevention business, (17) Employment support and human resources development business, (18) Childcare services business Durations of investments shall be One year or more. Domestic residents (excluding the government, municipal governments, financial institutions, etc.). Foreign corporations with a business establishment in Japan and carrying out a business in the areas identified as contributing to strengthening the foundations for economic growth. Copyright(C) 211 Nomura Research Institute, Ltd. All rights reserved. 48