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Bond market anomaly creeping into Japan as curve set to invert
[TOKYO] The bond market's economic canary in the coal mine looks poised to hit Japan.
The country's benchmark 10-year yield is on track to fall below its two-year equivalent for the first time since the collapse of the Japanese economic bubble in 1991. Known as an inverted yield curve, longer-term yields below shorter ones are unusual in developed markets and often interpreted as a harbinger of recession.
The phenomenon is much talked about in the US market, especially since the yield curve between three-month and 10-year Treasuries inverted in March. Researchers at the Federal Reserve Bank of San Francisco have called it a "fairly accurate" recession predictor. While the Bank of Japan's (BOJ) policy of yield curve control distorts market signals, the nation's planned sales tax increase and the re-escalation of the US-China trade war seem sufficient to hit growth.
Japan's 10-year yield fell four basis points to minus 0.175 per cent on Friday, while the two-year dropped 1.5 basis points to minus 0.205 per cent. The longer-dated yield is close to the bottom of the trading range tolerated by the BOJ that spans 20 basis points either side of zero.
"There is a great chance that the yield inversion between two-year and 10-year could occur anytime soon," said Eiichiro Miura, general manager of the fixed income investment department at Nissay Asset Management Corp in Tokyo. "Bond markets around the world are becoming more concerned about the fate of the global economy."
While the BOJ is expected to be flexible about managing the 10-year yield, and could tolerate a fall below minus 0.2 per cent, a rapid decline below minus 0.3 per cent could lead them to send a signal to the market, Mr Miura added.
The central bank could widen the 10-year range as one of the options for additional monetary easing if yields move a lot, deputy governor Masayoshi Amamiya told reporters on Thursday. BOJ governor Haruhiko Kuroda said in June that it's appropriate to view the target band flexibly.
The government is scheduled to increase the sales tax to 10 per cent from 8 per cent in October to ease the world's biggest debt load and strengthen the social safety net. The effects of the scheduled consumption tax hike are projected to be smaller this time compared to the previous hike in 2014, Mr Amamiya said. However, a decline in one leading indicator is already signaling economic weakness ahead.
Just a month before the tax increase in 2014, Mr Kuroda had said Japan's economy would continue its moderate recovery. It contracted 7.1 per cent in the second quarter of that year.