As USDJPY rises clearly above 160 and heads towards 162, a 40-year high, there are growing questions about why the Japanese government hasn’t stepped in to shore up the yen. After all, it’s only been around a month since the pair popped above 160 and was immediately slapped down by the BOJ. This left many traders with the impression that 160 was the limit that Japanese policymakers would tolerate.
This is a development we discussed earlier in June, as the Japanese government allows the yen to weaken a little more over time. The barrier to intervention would rise, but that doesn’t mean the BOJ will let the yen go into free fall. On the other hand, the recent rise in interest rates puts it in a more difficult position, especially now that the Fed is proving more hawkish than earlier in the year. In fact, it could be argued that a large chunk of the recent USDJPY rise has been on the dollar side rather than on the yen’s.
Why the Rate Hike Didn’t Help
The primary weapon the central bank has to support the currency is the interest rate. After all, the yen is largely driven by the carry trade, with investors seeking to profit from interest rate differentials. The relatively wide gap between the yen and the dollar is particularly interesting for carry traders, given the stability of both currencies.
A rate hike would help close the gap and make selling the yen to buy the dollar less profitable. On the other hand, traders are acutely aware that the BOJ can’t raise rates quickly. The government has a massive amount of debt that it needs to keep rolling over, and higher rates would strain the nation’s finances, which would alter bond vigilantes. Japan would face a problem similar to the UK if the BOJ started hiking as the BOE did. So, the consensus in the market is that once the BOJ hikes, as it did at the last meeting, it will be a long time before it does so again. Essentially, hiking uses up the BOJ’s biggest ammunition, giving carry traders the opportunity to take advantage of the current interest rate for a long time.
The Inflation Problem
The main data event for Japan is Friday’s Tokyo CPI, which comes in advance of the nationwide figure. Typically, the capital’s inflation rate reflects the whole country’s, so it can cause a market reaction if it deviates from expectations. CPI in Tokyo is expected to increase to 1.7% on the headline from 1.4%. The core rate is anticipated at 1.6%, up from 1.3% prior.
The problem is that it’s below the BOJ’s 2.0% target, and it’s not reasonable for the central bank to hike in a low-inflation environment. Now that oil is flowing through the Strait of Hormuz again, Brent prices are back to pre-war levels, so the recent bump in energy costs will likely fade, keeping downward pressure on inflation. All that means is that the data suggests the BOJ has less reason to raise rates in the near term.
Will the USDJPY Keep Rising?
After the last meeting, the BOJ indicated it was broadly supportive of continuing rate hikes, but this was interpreted as a market signal rather than a realistic expectation. Traders might take the threat of higher rates more seriously if inflation pops back above 2.0%.
In the meantime, the question turns back to intervention. Finance Minister Satsuki Ktayama has stuck to standard rhetoric about monitoring the market and being prepared to intervene at any time. This suggests that the risk of intervention at current levels is not imminent. But if the currency pair rises above 162 in a sustained fashion, breaking 40-year highs, the chance of intervention rises markedly.
