The Weekly Worldview: Fading Oil Shock, AI Capex and the BoJ‘s Next Step

Research evidence excerpt

The Weekly Worldview: Fading Oil Shock, AI Capex and the BoJ‘s Next Step

IdeaMoil prices are a support, but the structural demand has stepped up the reflation.

Fundamentally, the BoJ likely sees the neutral policy rate somewhere around 1½-2%,

well above the current 1% policy setting. Our forecast for two more hikes would

bring the policy rate to the lower end of this range. Even so, financial conditions

should remain accommodative; lending indicators and corporate financing conditions

show limited evidence of meaningful tightening despite earlier hikes.

The debate on the neutral rate is the key difference between our path and the

market implied BoJ path. Many macro investors appear to expect semi-annual BoJ

hikes and a terminal rate of 2% or higher. We are not so sure, because although

downside risks to growth have diminished, we are not convinced that underlying

inflation is as strong as the market pricing suggests. Lower oil prices should ease CPI

pressure from summer onward, and food inflation—roughly half of current CPI

excluding fresh food and energy—continues to moderate based on leading

indicators.

Exhibit 2: We expect a steeper JGB curve, with higher longer-dated yields

reflecting risks linked to fiscal expansion, while recent USD/JPY strength is likely

driven by broad-based dollar appreciation rather than yen-specific weakness

USD/JPY JGB 10Y Yield and Yen Path

3.0 170.0

160 JGB 10Y (LHS) USD/JPY (RHS) 160.0 2.5

150 2.0 150.0

140.0

140 1.5

130.0

130 Historical FX 1.0 120.0

Intervention Period 0.5 110.0

120 MS Forecasts

USD/JPY 0.0 100.0

Source: Japan MoF, Bloomberg, Haver, Morgan Stanley Research forecasts

Our strategists have adjusted their views, as well. For JPY rates, our BoJ view means

a lower front end, but we do think fiscal concerns remain relevant.