Battered Yen Puts Onus on Central Bank Comments to Turn a Corner

The yen — at multidecade lows — surged earlier this week after comments from Bank of Japan Governor Kazuo Ueda. Now the teetering currency is looking to seize on even more firepower from policymakers.

(Bloomberg) — The yen — at multidecade lows — surged earlier this week after comments from Bank of Japan Governor Kazuo Ueda. Now the teetering currency is looking to seize on even more firepower from policymakers. 

Despite the gains on Monday, the currency has been trading near levels that the government in 2022 spent more than $40 billion defending. Continued weakness prompted Masato Kanda, the vice finance minister for international affairs, to warn earlier this month that the government wouldn’t rule out any options to address yen movements. 

One of those options appears to be enlisting the country’s central bank to chime in — an atypical practice. Bank of Japan Board Member Junko Nakagawa said on Sept. 7 that the monetary authority will closely coordinate with the government in monitoring foreign-exchange rates.  

The timing was right for the Ministry of Finance and the BOJ to get together since markets have been testing daily the willingness of the government to intervene. The yen’s drop has also loosened financial conditions at a time when the BOJ is trying to curb stimulus due to economic “green shoots.” In July, the central bank adjusted its yield curve control program and since then, JGB 30-year yields have shot up to 1.7%, the highest level since 2014, from about 1.2% at the end of June, though the positive impact on the currency has only been a recent development.  

Read more: BOJ Board Member Flags Green Shoots of Progress to Price Goal

Other central bankers are getting into the mix. Over the weekend, the BOJ’s Ueda said in a well-timed interview that information may be available by year-end to judge if wage gains will set the stage for trimming stimulus. That drove the yen up as much as 1.3% on Monday and it settled up 0.8% for the day. Since then, it has given up a majority of that gain, a sign some currency traders dismissed Ueda’s comments as simply adding a layer of verbal intervention.

Signaling as Tool 

That layer, however, may be significant. Signaling was noted in a 2019 study in the American Economic Journal, which found intervention along with communication to be an effective policy tool, “with a success rate in excess of 80% under some criteria.” That research echoed a 1993 treatise on the topic that said outside of the size and scope of action, words can be effective at curbing speculation and potentially turning the tide.

And despite the yen’s pullback in recent days, there are analysts who say Ueda’s words will have an impact. 

“More hawkish rhetoric from the BOJ and the heightened threat of intervention though should help to dampen the scale of any further yen selloff,” Lee Hardman, senior currency analyst at MUFG, wrote in a note this week. The bank sees dollar-yen at 138 by the first quarter of 2024, stronger than the current level of about 147.50.  

Threats of intervention should be consistent with a country’s monetary policy objective to show the words aren’t hollow, Sukudhew Singh, a former deputy governor at Bank Negara Malaysia, suggested in a March opinion article on the International Monetary Fund website. In the case of Japan, monetary authorities are looking to slowly curb stimulus. Analysts at Morgan Stanley see markets pricing in a rate hike in March 2024 with long-term inflation expectations grinding higher. 

Leaving short-term rates low invites carry trades, sending the yen even lower. But Morgan Stanley sees its value relative to the greenback modestly cheap “versus what shadow short rate differentials suggest,” according to Matthew Hornbach, global head of macro strategy. 

Moreover, continuing central bank signaling in combination with rising JGB yields should lift yen implied volatility in the currency, damping the appeal of the carry trade and making the road bumpy for yen short positions. The link between weekly changes in JGB yields and yen volatility has been mostly positive since March 2022.

–With assistance from Carter Johnson.

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