2024-03-27 07:25:00
[Reuters]- Trends in real interest rates have the highest explanatory power for major currency prices from 2022 onwards (with the exception of the Swiss franc, which has been affected by large-scale domestic currency purchases). The reason why the yen has continued to depreciate even after the Bank of Japan lifted its negative interest rate policy on March 19 is probably because the real policy interest rate has remained in significantly negative territory.
Moreover, as Governor Kazuo Ueda has explained that the accommodative financial environment will continue, there is no prospect of it being resolved, and the yen’s weaknesses are expected to persist. The fact that increases in nominal interest rates have no effect on the appreciation of the yen has already been confirmed by the fact that the yen continued to depreciate even after long-term interest rates rose under yield curve control (YCC).
In the near term, there is a sense that the yen’s strength, such as the lifting of negative interest rates, has been exhausted, and the dollar/yen pair is likely to remain firm. However, in order for the currency to break above the 152 yen mark, which has bounced many times in the past, in addition to a weaker yen, it will also require a stronger dollar.
Looking back at the US Federal Open Market Committee (FOMC) meeting in March, the median on the dot chart remained unchanged at 4.625%, suggesting three rate cuts this year.
Furthermore, Federal Reserve Chairman Jerome Powell also showed a dovish stance, dismissing the upward fluctuations in inflation indicators since the beginning of the year as seasonal and expressing confidence that inflation would come to an end. As many market participants expected, interest rate cuts are likely to begin in June, and the FOMC did not trigger the dollar’s strength.
However, since the market has already priced in three interest rate cuts this year since June, it is unlikely that interest rate cuts will lead to a weaker dollar. In fact, the weighted average value of the dot chart has increased by 10.5bp, 17.1bp, 11.8bp, and 8.3bp for 2024, 2025, 2026, and Longer Run, respectively, compared to December last year. ing. Looking ahead to the end of 2025, the consensus of participants is that 0.7 interest rate cuts will no longer be necessary.
On March 22nd, the New York Fed raised its estimate of the real natural rate of interest for 2025 by 0.1% from last December. There is a high possibility that the timing of the start of interest rate cuts will be delayed and that the extent of the rate cuts will be lower than market expectations, so there is potential upside for the dollar.
The European Central Bank (ECB) is also likely to support the dollar. Based on the Board of Governors’ meeting in March and subsequent statements from multiple senior officials, it appears likely that interest rate cuts will begin in June, and there is a possibility that the rate cuts may be brought forward to April.
In the latest ECB staff forecast, the growth rate of gross domestic product (GDP) and inflation indicators have also been revised downward since December last year, in contrast to the FOMC’s economic outlook, which has been raised across the board.
Inflation rates in the euro zone are declining faster than in the United States, and business confidence is lagging behind that of the United States, so the ECB is likely to cut interest rates further into next year than in the United States. There is room for the euro/dollar pair to fall, and it is likely to act as an indirect factor in the dollar’s appreciation.
For this reason, in the foreign exchange market after the start of 2024, there is a high possibility that the dollar will initially remain firm, and it is only a matter of time before the dollar breaks above 152. In that case, there is a risk that the dollar/yen pair will rise sharply for a while, but some brakes are also likely to be applied, and I would like to point out three points below.
First, continued dollar/yen growth will encourage the Bank of Japan to raise interest rates. At the March meeting, Governor Ueda said, “If the underlying inflation rate rises a little more, it will lead to a rise in the level of short-term interest rates.” The import price index, which is related to the first force in inflation, is linked with a lag of several months to the movement of the simple product of the dollar/yen and dollar-denominated resource prices (for example, crude oil futures). Considering the rise in the dollar/yen rate since the beginning of the year, import inflation is expected to become evident again into the summer.
One year has passed since the government began implementing measures to curb electricity and gas prices, and as the effect of pushing down prices from the previous year wears off, it is likely that Japan’s inflation will exceed its target for the time being.
Of course, this is far from the inflation the Bank of Japan wants and will not necessarily lead to interest rate hikes. Still, for the people, there is no distinction between inflation as a primary force or a secondary force. Even though wage increases are expected to exceed those in FY2023, if real wages continue to fall below the previous year’s level, the Bank of Japan is likely to suppress the rise in imported inflation, and the prescription for this would be to suppress the depreciation of the yen by raising real interest rates. It’s valid.
In the future, we will not only use the Consumer Price Index (CPI), but also the “indicators for capturing the underlying inflation rate (trimmed average, weighted median, mode)” that the Bank of Japan will publish at 2:00 p.m. two business days later. will also attract more attention. In February, the year-on-year growth in all three indicators decreased.
Next is foreign exchange intervention by the government and the Bank of Japan to buy the yen. Officials have been making a series of statements to prevent the yen’s depreciation, and as the dollar/yen pair continues to rise, the possibility of actual intervention will increase. If this happens, the dollar/yen pair’s upward momentum is likely to ease and the topside will become heavier.
However, this effect cannot be underestimated. For example, in the case of the yen-buying intervention in September 2022, which was carried out in the midst of a strong dollar, the dollar/yen pair initially fell, but after 3-4 weeks, it rose at the same or greater rate than other currency pairs. I showed you.
Even after the intervention was implemented the following October after the dollar’s strength peaked out, the decline in the dollar/yen pair was not as wide as it was in the beginning compared to other currency pairs. In addition, as the scale of intervention increases, it will be necessary to sell foreign bonds held in the foreign exchange fund special account.
This would lead to a rise in foreign interest rates and a widening of the difference between domestic and foreign interest rates, suppressing the effects of intervention. In the first place, the Japanese authorities do not appear to be trying to induce a stronger yen, and their intervention will not likely reverse the trend in the yen.
Finally, interest rate cuts are becoming increasingly realistic in other developed countries as well. In addition to the aforementioned Federal Reserve and ECB, the Bank of England (British central bank) also announced a dovish stance at its Monetary Policy Committee meeting in March, and the market is increasingly expecting an interest rate cut in June.
The Swiss National Bank (central bank) has also taken the lead in cutting interest rates, and there are signs that the Swiss franc/yen exchange rate has peaked out. The fact that Japan’s real policy interest rate remains significantly negative indicates that the yen is far from overcoming its weaknesses, but relative comparisons are also important when it comes to exchange rates. Lower interest rates on other currencies could ease the extent of the yen’s weakness, making it more difficult for the yen to fall.
Considering the above, the dollar/yen pair is likely to break above 152 yen in the short term, driven by the weaker yen. On the other hand, in light of the above three brakes, it would be reasonable to assume that the top price is expected to be around 155 yen.
However, the end of deflation, as defined by the government in 2006, is defined as “the end of a situation in which prices have continued to decline, and there is no prospect of a return to such a situation.” Although the Japanese economy has now emerged from deflation, it still faces a negative supply-demand gap. The Bank of Japan, which has signed a joint statement with the government towards overcoming deflation, will also keep the real policy interest rate in negative territory for a long time.
Considering the trade deficit, active foreign direct investment, securities investment, and other potential yen selling flows, we cannot foresee a return to the yen’s strong trend. We have set the forecast range for the next three months at 147 yen to 155 yen, and we expect that we will continue to make repeated adjustments based on future data.
Editing: Kazuhiko Tamaki
(This column was posted on the Reuters Foreign Exchange Forum. It is written based on the author’s personal views)
*Mr. Minoru Uchida is an associate professor at the Faculty of Commerce at Takachiho University and a foreign exchange analyst at FDAAlco. After graduating from Keio University, he joined the Bank of Tokyo (currently Mitsubishi UFJ Bank). He has held positions in market operations and was chief analyst for foreign exchange from 2012 to 2022. Current position since April 2022. In J-money magazine’s Tokyo foreign exchange market survey, it has been ranked No. 1 in the individual ranking for nine consecutive years since 2013. He is an Internationally Certified Investment Analyst, an editorial board member of the Securities Analyst Journal, a visiting researcher at the International Monetary Institute, and a master’s degree in economics (Kyoto Sangyo University).
*The content such as news, trading prices, data and other information in this document is provided by the columnist for your personal use only and is not provided for commercial purposes. there is no. The content of this document is not intended to solicit or induce investment activities, and it is not appropriate to use this content for the purpose of making decisions when trading or buying or selling. This content does not provide any investment, tax, legal, etc. advice that constitutes investment advice, nor does it make any recommendations regarding specific financial stocks, financial investments, or financial products. Use of this document is not intended to replace investment advice from a qualified investment professional. Although Reuters uses reasonable efforts to ensure the reliability of content, any views or opinions provided by columnists are their own and not those of Reuters.
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