Can the Central Bank save both the Currency and Bond markets at the same time?

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Let’s begin with understanding what bonds and currency are, why they exist, and why people use them:

The answer is that currency is what we use to exchange value in our day-to-day life. The main purpose of currency is to facilitate transactions or exchange of value.

However, Bonds are not used as currency.

Bonds are not used in daily transactions or for value exchange. Rather, the main purpose of bonds is to store value or serve as a savings vehicle, where money remains safe.

The key metric or best measure for any currency is its exchange rate with other major currencies. In other words, you can think of it as a measure of purchasing power over time.

The key metric for bonds is the “yield” or, in simpler terms, the “return.”

The market return of a bond is known as its yield.

Yield is the market-set rate for the bond.

Yield is the ultimate income for bondholders, which is why it is the most important metric for bonds.

Remember one very important point: “Government bond yield sets the base interest rate for the economy.”

Now, let’s get to the point:

What does it mean to save the currency market?

In simple terms, it means protecting the currency's value or preventing the currency from losing value.

If the currency falls, that means prices rise, which leads to inflation, hurting people. So, the central bank has a mandate to manage the currency through setting interest rates and foreign exchange rates.

Okay, then what does it mean to save the bond market?

It means keeping bond yields within a lower or tolerable range.

As you know, bond yields form the base layer that sets the interest rate for the entire economy.

If bond yields rise too high, the cost of borrowing will rise as well. This will hurt businesses, consumers, and the economy in general, possibly even leading to an economic crisis.

Therefore, the central bank or government has a mandate to keep bond yields within a tolerable range.

Okay, then how can the Central Bank save the Bond Market?

Assume bond yields are too high in the market due to high inflation. The central bank will intervene through a process known as “Yield Curve Control.”

Yield Curve Control is simply the act of keeping the yield of government bonds within a certain, pre-specified, declared range.

How does the Central Bank do that?

The central bank prints a large amount of money and starts buying bonds. The new demand for bonds drives up bond prices.

In the case of bonds, when prices rise, yields fall.

That’s how the central bank controls the yield for government bonds.

Okay, now how can the central bank save the currency market?

The central bank can save the value of the currency by raising Interest rates.

Remember, Interest rates are the income for currency.

If the income of anything increases, its value becomes stronger.

The same goes for currency: if the central bank raises interest rates, generally, the currency stops falling and starts to strengthen (assuming other factors remain normal).

There is another way: the central bank can sell its foreign reserves in the market for dollars, then use those dollars to buy their own currency from the open market. This will increase the demand for the local currency, causing it to gain value and become stronger.

Yes, these are the 2 main ways.

Now, the most important question of all: can the government save both the currency and bond markets at the same time?

The answer is no.

Why?

If the central bank tries to save the bond market through printing new currency, bond yields may fall, but due to the new supply of currency, the currency's value will collapse.

On the flip side, if the central bank raises interest rates to save the currency, bond yields must rise, which will have a detrimental effect on the economy.

(Interest rates and bond yields are proportionally related.)

So, you know, it’s not possible to save both the currency market and the bond market at the same time. That’s simply not possible—clear as daylight.

Do you know why I discussed all this in detail?

Because the Bank of Japan (BoJ) is trying to save both the yen (Japanese currency) and the JGB (Japanese government bond).

Hope you found this helpful.

That’s all for now.

Thank you for your time.