The USD/JPY continues to hover around its recent highs, with the yen facing strong downward pressure despite recent statements from Japanese authorities.
On January 23, the Bank of Japan kept rates unchanged with an 8-to-1 vote. Governor Kazuo Ueda reiterated the possibility of future rate hikes in case economic projections materialize and the labor market continues to show positive signals. However, political pressure ahead of the snap elections on February 8 has favored a more accommodative policy, hence the decision to keep rates unchanged for now.
The yen’s extreme weakness stems from a series of factors that have created an uncertain landscape. A BOJ reluctant to raise rates while simultaneously launching an expansionary fiscal plan worth ¥21.3 trillion, including a temporary suspension of the 8% consumption tax on food products. Considering the country’s economic context, with a debt-to-GDP ratio exceeding 260% and a failed 20-year bond auction on January 20, serious doubts arise about Japanese fiscal sustainability. It is on these doubts that a sell-off in the bond market has erupted in recent days, with JGB yields reaching critical levels: the 10-year hit 2.38%, the highest since 1999, while the 40-year yield surpassed 4.20% for the first time. The 30-year stands at 3.63%.
If the yen continues to depreciate, Japanese authorities would be forced to intervene, as already happened in 2022 and 2024. Finance Minister Satsuki Katayama stated on January 16 that Japan has “free hands” to address excessive currency movements, while on January 23, the Federal Reserve Bank of New York conducted rate checks on USD/JPY, a signal typically interpreted as a prelude to possible interventions.
As some analysts hypothesize, the intervention could be carried out jointly with the United States (as already happened in 2011). In this case, the effectiveness could be greater, having a stronger psychological impact on investors. Usually, interventions by authorities on currency control have never yielded extraordinary results, except in the very short term. Looking back at the 2022 and 2024 interventions, the effects were only temporary because, as in today’s case, the yen was not “out of line” with fundamentals, or at least not excessively so. Current USD/JPY forecasts based on interest rate differentials would suggest levels between 148-152; the market is pricing instead around 154-160, reflecting expectations of expansionary fiscal policy and low rates.
At the moment, the exchange rate is at a crucial point and in a compression phase, trapped as we said by contrasting forces: a gradual monetary normalization by the BOJ and an expansionary fiscal stimulus, raising concerns about debt sustainability. The downward pressure remains strong, and as things stand, there are no prospects on the horizon for a strong revaluation (and therefore a collapse in the USD/JPY exchange rate).
However, the picture is constantly evolving, and the coming months will be decisive. The ratio was also later affected by the nomination of Kevin Warsh as the next Fed Chair, which led to an increase in the U.S. dollar and the DXY. The market movers to watch are the following:
- US Recession Risk: A marked deterioration in the American economy could trigger a flight-to-quality toward the yen and an unwinding of the carry trade. In this scenario, the price target for USD/JPY would be around 140-145.
- Escalation of Fiscal Tensions: A further deterioration in confidence regarding Japanese debt sustainability could fuel a vicious cycle of bond sell-offs and consequently further yen weakness, pushing USD/JPY beyond 160-165.
- Coordinated Intervention: A joint US-Japan action would have a greater impact and could potentially cause a violent squeeze of short positions.
- February 8 Elections: A landslide victory by Takaichi would consolidate expectations of expansionary economic policies, a sort of “Abenomics 2.0,” with further downward pressure on the yen. A weaker result could moderate expectations for fiscal stimulus. Currently, Polymarket prices Takaichi’s victory at 95%.
