The USD/JPY pair retreated from the local high of 132.92, reached at the start of the current trading week. Buyers of the pair not only failed to approach the boundaries of the 133rd figure, but also failed to hold their positions within the 132nd price level. The price dropped to the base of the 131st figure, and is currently trading in the price range of 130.80–131.50. In my opinion, the current price pullback can be considered as a large-scale correction after an equally large-scale multi-month decline. However, tomorrow may significantly "redraw" the fundamental picture of the pair.
The road downward
The yen has appreciated by more than 2,000 points against the greenback in just a few months. The turning point was the currency intervention, which was carried out again in mid-autumn last year. Then the bearish sentiment on the pair also strengthened thanks to the dollar, which weakened across the whole market at the end of 2022. Against the background of slowing inflation in the U.S., there were rumors in the market that the Fed would lower the rate hike (later proved to be true) and then end the current monetary policy tightening cycle ahead of schedule (not confirmed yet).
The Bank of Japan also contributed to the strengthening of the yen by making a resonant decision in December to expand the permissible range of fluctuations in the yield of 10-year government bonds. Such an unexpected step provoked a broad discussion about the future prospects. Many currency strategists took this as a signal that the Japanese regulator is preparing to abandon the ultra-loose monetary policy it has adhered to for many years. And despite the fact that the current head of the Bank of Japan, Haruhiko Kuroda, persistently refutes such conclusions, the market is still confident that the central bank is on the verge of big changes. That is why the yen ignores verbal signals from Kuroda—the USD/JPY pair continues to move slowly, with large-scale pullbacks, but still moving in a downward direction.
It is obvious that the hawkish expectations of the market are related to the fact that the current head of the Bank of Japan is guaranteed to leave his post in April. The name of his likely successor will be known tomorrow: the Prime Minister of Japan recently announced that the government will submit a corresponding candidate to parliament on February 10.
One of the favorites of the election race is the current BOJ Deputy Governor Masayoshi Amamiya. If the choice falls on him, then we should not expect any revolutionary changes in the policy of the Japanese regulator: Amamiya is considered a supporter of Kuroda, that is, a supporter of the "dovish" strategy.
Another favorite is Hiroshi Nakaso, who also previously served as deputy governor of the Bank of Japan. He is considered a "hawk," so his candidacy will significantly strengthen the position of the yen throughout the market, including against the dollar.
Bank of Japan vs. Inflation
Following the results of its last meeting, the Japanese regulator kept all the parameters of monetary policy in the same form and voiced "dovish rhetoric" at the same time. According to Kuroda, the market misinterpreted the central bank's decision to expand the range of yield fluctuations on 10-year government bonds. He stressed that such a decision was due to "technical factors" (operational adjustment) and does not indicate that the central bank is ready to abandon the "dovish" course.
Regardless of such statements, the market is growing confident that the Bank of Japan, in the second half of this year, will announce a further adjustment of the yield curve management or even abandon it. Also, many experts admit that the Central Bank will begin to take more decisive steps to normalize QE.
Such confidence is fueled by rising Japanese inflation. According to the latest data, the overall consumer price index in Japan rose to 4.0%, excluding food and energy prices – by 3.0%, the price index for corporate goods – by 10.2%. At the end of January, another important inflation indicator was published – the Tokyo consumer price index. It is considered a leading indicator for determining the dynamics of prices throughout the country, so certain conclusions can also be drawn based on the published figures. Thus, Tokyo's overall CPI jumped to 4.4%: the last time the indicator was at this high was in 1981. The remaining components of the report (excluding fresh food prices; excluding food and energy prices) similarly demonstrated upward dynamics, being in the "green zone."
Conclusions
The current dynamics of USD/JPY is due not only to the weakening of the U.S. currency, but also to the stress resistance of the yen. In Japan, inflation is still moving up, while the Japanese regulator refuses (so far) to respond to the current situation by tightening monetary policy parameters. According to a number of analysts (in particular, CIBC Capital Markets), the Bank of Japan will still have to resort to adjusting the monetary policy in the second half of the year if expectations regarding a slowdown in inflation are not justified.
However, much will depend on who will be at the helm of the Japanese regulator—a supporter of Kuroda's policy or a man with a hawkish outlook. Since election results will only be available on Friday, at the moment, it is advisable to take a wait-and-see position for the pair. Tomorrow, we can expect an increased volatility in USD/JPY, the only question is whether it is in favor of the yen or against it.