By Leika Kihara and Kentaro Sugiyama
TOKYO (Reuters) - The Bank of Japan is likely to allow long-term interest rates to move more widely around its 0% target and reduce purchases of super-long bonds to steepen the yield curve, former deputy governor Kazumasa Iwata said.
The moves will be among steps the BOJ will unveil in March to make its policy more sustainable, said Iwata, who retains close contact with incumbent policymakers.
The central bank may also use its loan programmes to pump money to financial institutions that invest more in green and digital technology, he told Reuters in an interview on Monday.
"In doing so, the BOJ can offer funds at virtually negative rates. That way, the BOJ can indirectly assist efforts to nurture green and digital technology in Japan."
Under yield curve control, the BOJ guides short-term interest rates at -0.1% and 10-year bond yields around 0%. While the policy has kept borrowing costs low, it has drawn criticism for narrowing bank margins and drying up market liquidity.
Iwata said pension funds and life insurers would benefit if super-long yields, such as 30-year yields, "rise a bit more."
"For this to happen, it's better for the BOJ to widen the implicit band it sets for 10-year yields to 60 basis points around its target from the current 40 points," he said.
The central bank could also reduce or terminate purchases of super-long bonds "to ensure the yield curve steeps more," said Iwata, now president of Japan Center for Economic Research.
Expectations that the BOJ will loosen its grip on yields have pushed up Japanese government bond (JGB) yields recently, with the 20-year yield hitting a two-year high on Monday.
Japan's low potential growth and the hit from COVID-19 will keep the country in deflation at least until early 2022, said Iwata, who took part in the BOJ's battle with deflation during his five-year stint as deputy governor until 2008.
"With the COVID-19 shock, Japan's natural rate of interest will fall further," he said. "This is why it's hard to see Japan pull out of deflation any time soon."