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Emerging market rout may give BOJ less time than it wants

A security guard salutes at the entrance of the Bank of Japan building in Tokyo January 22, 2014. REUTERS/Yuya Shino
A security guard salutes at the entrance of the Bank of Japan building in Tokyo January 22, 2014. REUTERS/Yuya Shino

By Leika Kihara

TOKYO (Reuters) - A sharp selloff in emerging markets is playing into the hands of those in the Bank of Japan who fret a pick up in exports is already lackluster and so may need extra monetary stimulus sooner than later.

Analysts say the plight of emerging economies, some of which are key markets for Japanese goods, will deepen the concern of these pessimists that exports will not rebound enough to offset the economic impact of an increase in a national sales tax in April.

That will shift the balance of risks and make policymakers more inclined towards the need for extra stimulus to pre-empt the impact of the tax rise, rather than wait until after it has been implemented to gauge its effect, they say.

Masaaki Kanno, chief economist at JPMorgan Securities in Tokyo, said many board members may feel it does not make sense to consider extra stimulus until after the sales tax is implemented and they can see the economic impact.

"But if the market turmoil persists and hits global growth, that's enough reason to act in April. A spike in the yen above, say, 100 to the dollar, may also trigger action," Kanno said. The yen is now 102.40 per dollar.

The BOJ announced an intense burst of economic stimulus in April 2013 - pledging to double base money via aggressive asset buying to generate consumer inflation of 2 percent in two years. It injects about $70 billion into the economy each month.

Since then the economy has shown signs of recovery and data earlier on Friday showed the benchmark measure of inflation had reached 1.3 percent, its highest in more than five years.

The economic recovery so far has been driven mainly by domestic demand, but policymakers have expressed disappointment over exports. BOJ Governor Haruhiko Kuroda said on Friday the exports pickup had been "quite modest" mainly because growth in emerging economies had been weaker than expected.

A rebound in exports is seen as key to sustaining the economy's momentum and to offset the potential impact of the sale tax increase to 8 percent from 5 percent on April 1.

That has prompted market speculation the BOJ will add to its stimulus around April, although the BOJ has shrugged off such suggestions by saying the tax's impact will be temporary.

Most board members argue that the BOJ can afford to wait until data is available to show the impact of the tax hike on the economy before considering whether extra monetary stimulus is needed.

If the emerging market woes were to persist though, this argument would weaken because a rebound in exports is seen as key to maintaining the economy's momentum, analysts said.

"There's a chance the U.S. economy may not be able to offset all the impact from the slowdown in emerging economies," one board member warned at a rate review last month, according to minutes of the meeting issued on Monday. The minutes did not reveal the identity of the board member.

Pessimists on the board, such as academics Ryuzo Miyao and Sayuri Shirai, have warned that risks were tilted to the downside, pointing to soft export growth and the chance the damage from the sales tax hike may be bigger than expected.

Even those members with a neutral view on the economy, such as former commercial banker Koji Ishida, see exports as key in sustaining Japan's recovery, suggesting that the board may lean more toward early stimulus if the emerging markets selloff starts to affect global growth.

"The recovery now is spurred by domestic demand such as personal consumption, housing investment and public works spending," Ishida told business leaders in September. "But exports must start to act as driving force."

For now, the BOJ is keeping a watchful eye on developments and sees little need to alter its view that Japan is making steady progress toward meeting its price target. But the recent market rout exposed the shaky nature of the projection.

"The risk of a contagion is slim," said an official familiar with the BOJ's thinking. "Still, there's no room for complacency."

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