Japan’s Yield Curve Control Regime is Coming to America

Earlier this month, Bank of Japan (BOJ) Governor Haruhiko Kuroda commented that Japan’s central planners are considering a 50-year government bond issue as a long-term means of putting a floor under super-long interest rates.  How this floor would be placed is extremely suspect; we’ll have more on this in a moment.  But first, the dual benefits – according to Japan’s central planners…

One, the 50-year government bond would allow the government to lock in cheap long-term funding.  Two, it would give yield-starved investors higher returns.  Cheap funding.  Higher yield.  What’s not to like?

Kuroda, if you didn’t know, is a certifiable madman.  Following a cheap credit induced bubble and subsequent bust of Japan’s property and stock market in the late-1980s, Kuroda and his cohorts at the BOJ have tried anything and everything to re-inflate asset prices.  After nearly three decades they’re still at it.

There’s not a deranged monetary policy idea the BOJ hasn’t pioneered in the name of saving the nation from itself.  Negative interest rates.  Direct purchases of Japanese stocks via exchange traded funds (ETFs).  Government sponsored shopping sprees.  Yet the Nikkei is still down over 40 percent all these years later.

At the same time, Japan has another preeminent distinction.  The country is also pioneering precisely what happens to an economy that has an aging population, burdensome debt obligations, and stagnating growth.  The honest thing to do would be to default, and let the chips fall where they may so the people can get on with it.  Of course, the honest thing to do is rarely the expedient thing to do…

What is Yield Curve Control?

By all accounts, the Japanese economy’s stagnated over the last quarter century.  At the same time, government debt has jumped up and off the chart.  The last we checked, Japan’s government debt has exceeded 238 percent of the country’s gross domestic product (GDP).

Without question, government debt over 238 percent of GDP is an amazing achievement.  It more than doubles, on a percent basis, the U.S. government’s debt to GDP ratio of roughly 105 percent.  It also documents the degree of extreme market intervention that Japan’s central planners have executed.

By this, consider that the way Japan’s government debt has eclipsed 238 percent of GDP is through massive central bank asset purchases.  Specifically, the BOJ owns nearly 50 percent – that’s half – of the Japanese government bond market.  For perspective, a decade ago, the BOJ owned less than 10 percent of the Japanese government bonds market.

One reason BOJ asset purchases have skyrocketed over the last decade is something the central planners call Yield Curve Control (YCC).  To be clear, we’re not making this up.  YCC is, in fact, stated policy of the BOJ.

True to its name, the YCC regime allows the BOJ to intervene in the credit market at both the long end and the short end to shape the yield curve to its liking.  Hence, the Japanese government issues debt.  And the BOJ prints money and buys the debt at their desired maturities to get the yield curve just right – not too steep, not too flat, and definitely not inverted.

Specifically, the floor that a 50 year government bond issuance would put under super-long interest rates would be placed at precisely the right elevation by BOJ purchases.  If this all sounds a little absurd to you, it’s because it is.  This is the ultimate centralized meld of extreme fiscal and monetary planning to contrive a falsified credit market and, by extension, a hyper controlled economy.

Unfortunately, the central planners at the Fed and U.S. Treasury are taking their cues from Kuroda…

Japan’s Yield Curve Control Regime is Coming to America

The central planners at the Fed and the U.S. Treasury, like the central planners at the BOJ, want a yield curve that looks just right.  Namely, they want a yield curve that uniformly steps up like topographic elevation curves step up from California’s Death Valley along the face of the Eastern Sierra to the Mount Whitney summit.

In the Fed’s perfect world, for instance, the 20-year Treasury should yield roughly 2 percent more than the three-month Treasury.  Currently, the yield curve differential between these two maturities is just 0.5 percent.  But at least it’s not inverted.

Remember, an inverted yield curve – when long-term yields (10-year) fall below short-term yields (three-month) – often presages a recession.  Thus, when the yield curve inverts – like Treasuries did between late-May and early-October – America’s central planners are compelled to intervene.  They become eager to import Japanese YCC to American shores to put a floor under long-term yields.

In September, when the Treasury yield curve was inverted, U.S. Treasury Secretary Steven Mnuchin said:

“If there is proper demand we [the U.S. Treasury] will issue 50-year bonds, [and if those are successful the U.S. Treasury] will consider 100-year bonds.”

What Mnuchin didn’t mention, is that if there isn’t proper demand, the Fed will be standing by to buy U.S. Treasuries – and at the proper floor.  Last month, Neel Kashkari, President of the Federal Reserve Bank of Minneapolis, confirmed that the Fed is getting onboard with YCC:

“Kashkari echoed an idea mentioned by Fed Chair Jerome Powell earlier this week that policymakers may want to consider short-term yield curve control.

‘“It’s worth analyzing the potential of yield curve control as yet another policy tool.’

“He [Kashkari] said the U.S. central bank may not want to target yields on 10-year notes the way the Bank of Japan does.  ‘Even if we tried to control the first couple of years of the yield curve that could be another tool in the Fed’s arsenal.”’

Currently, the Fed holds about 13 percent of the near $16 trillion in marketable U.S. Treasury debt.  With YCC, the BOJ went from under 10 percent to nearly 50 percent of the Japanese government bond market in about a decade.

Naturally, U.S. central planners are eager to fund the government via YCC in the years ahead.  Kashkari may say this would be just for the first couple years of maturities.  But once these things are started, there’s no turning back.  They’ll go after the long end of the yield curve when the time comes.  You can darned near count on it.

We don’t like it.  We can’t change it.  Washington demands it.  The next recession guarantees it.

Our prediction: The Fed will own at least 50 percent of the U.S. Treasury market within a decade.

Remember where you heard it first.


MN Gordon
for Economic Prism

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