37
The Japanese yen continued its strong upward trend against the dollar, with the USD/JPY pair falling to levels approaching 153 yen per dollar , marking the yen’s strongest level since last February. This move comes just one week after the dollar traded above 160 yen, meaning the Japanese currency has risen by approximately 4% in just a few days .
It is noteworthy that this rise comes this time amid a clear change in expectations of Japanese monetary policy, and not just as a result of the authorities’ intervention in the currency market, which makes the current movement more important for investors.
The yen is exceeding previous intervention levels.
The dollar/yen pair fell to around 153 yen on Tuesday, surpassing levels seen after the rare joint intervention by Japan and the United States in the currency market in July. Japanese authorities spent a record 15.4 trillion yen, or $96.5 billion, to support the currency between July 30 and August 26.
But the current situation looks different.
Instead of the yen’s rise being driven primarily by official currency purchases, interest rate expectations are now playing a larger role in pushing the yen higher. Traders are currently closing short positions on the yen that accumulated over the past few years when Japan offered significantly lower interest rates than most other developed economies. These positions are part of a carry trade strategy, where investors borrow yen at a low cost and then use the funds to buy assets and currencies that offer higher returns in other markets.
However, the increased likelihood of a Japanese interest rate hike makes this strategy less attractive, prompting investors to repurchase the yen to close their positions, thus increasing demand for the Japanese currency.
The Japanese economy gives the Bank of Japan more room to raise interest rates.
The expectations of a Japanese interest rate hike did not come out of nowhere.
Japan’s economic growth figures for the second quarter were revised upward to 1.4% year-on-year , supported by a stronger-than-expected increase in business investment.
Meanwhile, real wages rose 2.4% year-on-year in July, the biggest increase since May 2021, and marking the seventh consecutive month of growth.
Rising real wages are important because they mean consumers’ purchasing power is improving, which gives the economy greater resilience to the higher borrowing costs resulting from interest rate hikes. This is precisely what the Bank of Japan needs before taking further austerity measures. If the economy is growing, investment is improving, and real wages are rising, the case for raising interest rates becomes stronger, even if it means higher borrowing costs for businesses and households.
Markets are almost certain that interest rates will be raised in September.
Swaps markets now show a near 98% probability that the Bank of Japan will raise its interest rate by 25 basis points to 1.25% at its September 18 meeting . Market expectations haven’t stopped there; a further rate hike to 1.50% by January is now almost fully priced in. These figures illustrate how rapidly investor expectations regarding Japanese monetary policy can shift.
For a long time, the yen was the preferred currency for funding carry trades due to Japan’s low interest rates. Now, however, markets are beginning to factor in the possibility that the Bank of Japan will gradually shift from one of the world’s most accommodative central banks to a more hawkish one. Meanwhile, Japanese Finance Minister Satsuki Katayama stated that Tokyo and Washington remain committed to supporting currency market stability, following their recent rare joint intervention in the market.
US inflation data may halt the yen’s rise
But the yen’s strength doesn’t mean the path ahead is clear. The downside of the USD/JPY pair depends on US monetary policy, and the US itself continues to provide reasons to support the dollar. The US economy added 162,000 jobs in August , almost three times the expected amount, which has raised the probability of the Federal Reserve raising interest rates next week to around 60% .
In theory, higher US interest rates should support the dollar against the yen, because they increase the yield differential between dollar-denominated assets and Japanese assets.
But the dollar has not yet benefited from this advantage as expected.
The dollar index fell to around 98.80 on Tuesday, its lowest level in two weeks, amid concerns about the US fiscal situation and investor caution ahead of inflation data releases. This underscores the importance of US price data this week. The PPI and CPI will be the true test for the dollar. Producer price data (PPI) will be released on Thursday , followed by the Consumer Price Index (CPI) on Friday .
If inflation figures come in higher than expected, US Treasury yields could rise, and the dollar could regain some strength, potentially triggering a sharp rebound in the USD/JPY pair even before the Bank of Japan meeting. Conversely, if the data is weak, expectations of a US rate hike could diminish, and pressure on the dollar could persist, giving the yen an opportunity to extend its gains. Thus, the currency market is currently facing a relatively rare situation: the Bank of Japan is poised to raise interest rates, and the Federal Reserve may also do so . The real question is not just which bank will raise rates, but which one will act more quickly than the markets anticipate .
Important levels against the dollar and yen
After falling to near 153 yen, the 153 level has become a key turning point for the USD/JPY pair. Should the yen continue to strengthen, the next support levels are at 152 yen and then the psychologically important 150 yen level . On the upside, resistance appears near 155 yen , an area associated with levels that have previously seen intervention by Japanese authorities. Continued trading below this area would reinforce the notion that the trend has already reversed and that the dollar’s previous rally above 160 yen is now a thing of the past. However, a very strong reading on US inflation could quickly change the picture, pushing up US Treasury yields and driving investors back towards the dollar.
The Japanese yen is currently experiencing its strongest upward trend in months.
After the dollar surpassed 160 yen last week, the pair fell back to around 153 yen within days, a move reflecting a significant shift in expectations regarding Japanese monetary policy. Stronger economic growth, rising real wages, and the near certainty that the Bank of Japan will raise interest rates to 1.25% in September are all factors supporting the yen’s continued strength.
But the dollar still holds one important card: US inflation.
If the CPI data comes in strong, the dollar could receive a significant boost and halt the yen’s upward trend. Conversely, if the data is weak, the yen could find more room to fall, potentially pushing the USD/JPY pair towards 152 and then 150. Currently, the battle between the two currencies appears more complex than simply comparing interest rates. The Bank of Japan is moving towards hawkishness, while the Federal Reserve is grappling with inflation and a robust labor market. Markets are trying to determine which side will be the more hawkish in the coming months.
