Chief China Strategist
Summary: After my note last Friday and our Head of FX, John Hardy’s article commenting on the potential of Yuan-yen mean reversion in the making, we have received some questions about the merit of the idea. This follow-up note sets out tentative responses to three most raised questions.
Why on earth will the BoJ ever need to address the question of rising inflation? As March CPI came at +1.2% YoY, Core CPI (ex fresh food) at +0.8% YoY, and Core Core CPI (ex fresh food and energy) at -0.8% YoY, the BoJ does not seem to need to worry about inflation at all. On the contrary, the BoJ should be worried about not meeting its 2% price stability target. However, the CPI numbers have been depressed by an one-off reduction in mobile communication plan charges in April 2021. Mobile communication charges account for 2.8% of Japan’s core CPI. According to Nikkei, excluding a 52.7% drop of mobile communication charges, Japan’s Core CPI was about +2.2% YoY in March.
In the April CPI report that is scheduled to released on May 20, the mobile communication base effect from last April will be gone. According Nikkei’s survey, economists are forecasting a 2% print for April Core CPI and for Core CPI to stay above 2% for most of the remaining months this year.
Doesn’t the BoJ consider the incoming jump in Core CPI being ‘temporary’ and pledge to maintain its ‘overshoot’ commitment’? While the BoJ acknowledges that inflation rate will surge in the April CPI data, Governor Kuroda considers the rise in the incoming rises in CPI numbers would be ‘temporary’ and the BoJ should persistently continue with its current aggressive monetary easing.
We acknowledge the fact that under its “overshooting commitment”, the BoJ is committed to “continue expanding the monetary base until the year-on-year increase in the observed CPI (all items less fresh food) exceeds 2 percent and stays above the target in a stable manner. However, with the strong likelihood of Core CPI going above 2%, it will bring the scenario of BoJ adjusting its yield curve control (YCC) policy back to traders’ radar. We agree that it will be premature to look for any such changes in this week’s BoJ monetary policy meeting but traders may start positioning in the coming weeks for the June meeting. Didn’t the U.S. Fed say that inflation was ‘transitionary’ last summer?
Didn’t China’s PBoC cut reserve requirement ratio for forex deposits to stop the renminbi from weakening?. Yesterday, the PBoC cut the reserve requirement ratio for forex deposits by 1 percentage point, bringing it from 9% to 8% effective May 15. There is about USD1.05 trillion equivalent of forex deposits in China so this 1% cut will increase the loanable forex liquidity in the banking system by about USD10.5 billion. Through the cut in the reserve requirement ratio for forex deposits yesterday, the PBoC is sending a signal to the market that it considers the pace of depreciation of the renminbi over the past five sessions excessive.
On the other hand, by cutting only 1 percentage point, and not even reversing the 2 percentage point increase made in last December to prevent the renminbi to appreciate then, the PBoC seems intentionally not to decisively push back the markets’ drive to weaken the renminbi. The 8% level is still much higher than the 5% level over the 14 years from 2007 to as recently as May 2021.
We suspect that the PBoC welcomes an orderly depreciation of the renminbi, in particular to reverse the renminbi’s sharp appreciation versus its trading partners such as the Japanese yen since September last year amid a deteriorating outlook for exports.
2024: The wasted year
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Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
Commodities poised for rebound. The "Year of the Metal" boosts gold and silver, copper awaits rate cuts. Grains may recover, natural gas stabilises. Gold targets $2,300-$2,500/oz, copper's breakout could signal growth.
