The yen was supposed to have comeback to life this year. As of now, that hasn’t happened, and from the looks of it, it may not spring back after Friday’s Bank of Japan policy review either.
(Bloomberg) — The yen was supposed to have comeback to life this year. As of now, that hasn’t happened, and from the looks of it, it may not spring back after Friday’s Bank of Japan policy review either.
The currency has a lot going for it. For starters, it’s unbelievably cheap. Japan’s broad real-effective exchange rate is 2.3 standard deviations below the average based on values going back a decade, an exclusive — if notorious — club that 98.8% of the time no entrant would really want to be a part of.
How we got here is well known after last year’s global policy tightening pummeled the yen, but not so much why the exchange rate is still bogged down. After all, with Kazuo Ueda having taken over as BOJ governor and most participants expecting some kind of tweak to the central bank’s control of the yield curve, you would imagine the currency would have taken the waiting hand in rescue.
There is more to that narrative than meets the eye, with USD/JPY swaying to a sharply different tune than was the case before the end of October. Back then, the exchange rate was moving broadly in line with inflation-adjusted rate differentials. Since then, the currency has all but ignored those fundamentals, with the yen having declined some 2% against the dollar alone on a nominal basis this year.
There may be one reason why the yen has underperformed: if the Federal Reserve stops raising rates after a final increase in May — in line with what its dot plot indicated in March — that would cause inflation-adjusted yield differentials to stop widening in favor of the greenback. A sustained widening of those differentials spurred a large part of the yen’s depreciation in the last couple of years. More importantly, if that factor is no longer operative going forward, the yen would definitely face reduced pressure to decline more in the months to come. Would that, in turn, relieve pressure on the BOJ to act imminently to tweak curve control?
A recent survey of economists suggests that the median expectation is for Japan’s headline inflation to slow below the BOJ’s 2% target by the end of the fourth quarter. And the yield on 10-year Japanese government bonds, which was nudging 0.50% in the runup to Ueda’s takeover, has come off a few notches. That means the BOJ still has time to postpone any new experiments with its yield curve after the December shock, when it doubled the permissible yields on 10-year JGBs to around 0.50%.
All of which, to a great extent, explain why the yen has underperformed. Should the BOJ, however, hint Friday that it may still have some kind of change in mind, speculative positioning on the yen will be revived yet again.
- NOTE: Ven Ram is a cross-asset strategist for Bloomberg’s Markets Live. The observations are his own and not intended as investment advice. For more markets commentary, see the MLIV blog
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