With exactly one week remaining until the June FOMC meeting, the market's sentiment regarding the future monetary policy of the United States has become increasingly volatile. Against this backdrop, the USD/JPY pair is experiencing strong fluctuations. Let us have a look at where USD/JPY might go from here.
Why did USD retreat?The optimistic US employment report released last week pushed the dollar up significantly against the yen as speculation regarding potential monetary divergence between the US and Japan resurfaced in the market.
The higher-than-expected payroll data in May led traders to reconsider their outlook on further policy tightening in the United States.
Following the release of the Non-Farm Payrolls report, the market kept its outlook for the June pause unchanged but noticeably increased the likelihood of rate hikes in the following month.
However, yesterday's batch of macroeconomic statistics was not as positive, impacting trader sentiment.
On Monday, the US dollar fell across the board following reports that the US services sector, which accounts for nearly 80% of the American economy, showed rather sluggish performacne last month.
The ISM Non-Manufacturing PMI dropped to 50.3 points in May. This is lower than April's reading of 51.9 and below the forecast of 52.2.
The fresh statistic data brought back a more dovish scenario. Currently, the majority of market participants are pricing in a 23% probability of the Federal Reserve raising rates again in June, compared to over 70% just a week ago.
As for the July hike, it now appears less likely as well.
Weaker hawkish expectations regarding the Fed's future monetary strategy put strong pressure on US Treasury yields, which, in turn, sent USD/JPY into a sharp decline.
Following the release of the ISM data, the dollar-yen pair plummeted by 50 pips in a couple of minutes and lost nearly 0.3% during the day, dropping below the key level of 140 and reaching a low of 139.6.
At present, technical indicators such as the Relative Strength Index (RSI) and Moving Average Convergence Divergence (MACD) suggest USD/JPY is likely to decline further. However, most analysts believe that the pair will enter a consolidation phase in the near future.
Analysts expect the dollar-yen pair to trade sideways over the next few days due to a relative lack of economic events.
The next important trigger for the USD/JPY pair will be the release of the US inflation data for May on June 13, one day before the Fed's interest rate decision.
Consumer price growth statistics will enable traders to form a definite opinion on the future actions of the US central bank. If the market sees stronger inflation dynamics, it may reinforce the market's hawkish expectations, pushing the dollar higher against the yen.
If the data reveals deflationary processes in the US economy, it will further convince investors that the Fed will hit the brakes this month and then switch to a dovish stance. In such a scenario, the dollar may weaken against the Japanese currency.
Why will JPY rally be limited?Following yesterday's trading session\n, the yen exhibited the best performance against the greenback among all major currencies. However, experts have significant doubts about whether its rally will continue further.
The fact that the Federal Reserve may soon shift towards easing its monetary policy is undoubtedly a breath of fresh air for JPY. However, domestic factors are extremely important for the yen as well.
Currently, the interest rate in Japan stands at -0.1%. According to the recent dovish statements by BOJ Governor Kazuo Ueda, it is unlikely to be changed in the near future.
Even in the most optimistic scenario (if the Federal Reserve actually pauses its rate hikes this month), the monetary divergence between the US and Japan will still remain significant, which is a negative factor for the Japanese yen
At present, the yen can get substantial support only if the Japanese central bank takes a hawkish stance. Similar to the Fed, the BOJ is preparing to announce its interest rate decision next week, on June 16.
Considering today's wage data in Japan, analysts have no doubt that the regulator will maintain its status quo in June and continue to adhere to an ultra-loose monetary policy in the coming months.
Today's data revealed that real wages in Japan, adjusted for inflation, fell by 3.0% year-on-year in April.
This indicator has declined for 13 consecutive months. It suggests that the spring wage negotiations, known as "shunto," has not yet yielded the anticipated results.
It is worth noting that the Bank of Japan previously stated on multiple occasions that it would be ready to normalize its monetary policy when inflation becomes stable, which would require wage growth of at least 3%.
The weak wage dynamics in April indicate that the Japanese central bank will need quite some time before considering adjustments to its stimulative policies.
Until then, the yen's growth against the dollar will likely be significantly limited, despite the upcoming monetary U-turn by the Federal Reserve.