Tokyo flashes in forex chicken game

Japanese Yen and US Dollar banknotes are seen with an exchange rate chart in this illustrative image taken on June 16, 2022. REUTERS/Florence Lo/Illustration

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HONG KONG, Sept 22 (Reuters Breakingviews) – The Japanese government has reluctantly responded to the US Federal Reserve’s rate-hiking cycle by propping up the staggering yen, the first such intervention since 1998. The “decisive action,” in the words of Vice Finance Minister of International Affairs Masato Kanda allowed the currency to rise to 140 per dollar. But the country’s economic prospects make such an intervention unlikely.

Bank of Japan Governor Haruhiko Kuroda must be a frustrated man. There is no domestic reason for him to raise interest rates; Inflation is slightly above its 2% target, but for the wrong reasons, namely war in Europe and excessive stimulus in the United States. Japan’s 2.2% growth in the last quarter is uninspiring. The BOJ would rather await the outcome of next year’s annual corporate wage negotiations before jumping to hasty policy conclusions.

And yet. Runaway inflation in the United States caught the Federal Reserve off guard, forcing Chair Jerome Powell to aggressively raise interest rates, despite Kuroda sticking to Japan’s ultra-loose monetary policy on Thursday. This will further widen the gap between US and Japanese benchmark bond yields – already well over 3 percentage points – further weighing on the yen. The currency has lost 29% since a peak in December 2020, the most of it since March. Even Japanese exporters, who benefit from a weak currency, are concerned about its volatility – what goes down can bounce back just as quickly.

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That’s why Tokyo decided to use some of its $1.3 trillion in foreign exchange reserves to stem the slide. But Japan’s economic divergence from its Western peers means the best the government can hope for is to moderate the yen’s downward trend.

However, there is a worse scenario. Bond investors have already expressed skepticism about the BOJ’s commitment to keep the 10-year Treasury yield below 0.25%. They pushed the yield above that limit again in June and this week, data from Refinitiv shows. The Tokyo financial world is buzzing with rumors that foreign hedge funds have been aggressively depreciating the yen during the New York and London trading sessions. That could explain the government’s decision to intervene. But if it doesn’t work – and unilateral interventions have a poor record – then the credibility of the Japanese authorities will suffer a major blow. That would make the Bank of Japan’s job even more difficult.

Separate ways

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Japan intervened in the foreign exchange market to support the yen for the first time since 1998.

The Japanese currency has depreciated almost 20% against the dollar this year as the Bank of Japan maintained its ultra-loose monetary policy despite other central banks raising interest rates.

The move initially took the dollar down over 2% to 140.3 yen. The yen was at 141.11 against the dollar by 1225 GMT.

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Edited by Neil Unmack and Oliver Taslic

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