The Japanese yen tumbled on Wednesday after newly appointed Prime Minister Shigeru Ishiba stated that Japan's economy isn't prepared for further interest rate hikes, triggering a sharp selloff in the currency markets. The yen plunged approximately 1.8% against the U.S. dollar, reaching a session low of 146.26 per dollar in New York trading, marking its largest single-day drop since February 2023.
Ishiba's comments were followed by similar cautionary remarks from Bank of Japan (BOJ) Governor Kazuo Ueda, further dampening market expectations for any imminent policy tightening from the central bank. The combination of Ishiba's announcement and Ueda's conservative outlook left investors bracing for prolonged yen depreciation, which has been exacerbated by global market factors, including the performance of U.S. Treasury bonds.
Simultaneously, U.S. Treasury yields rose in response to a stronger-than-expected report on the U.S. jobs market. The yield on the 10-year Treasury note climbed five basis points to 3.79%, contributing to the widening interest rate differential between the U.S. and Japan, making the yen less attractive to investors. Federal Reserve Chairman Jerome Powell's recent statements affirming the robustness of the U.S. economy also reinforced market perceptions that the Fed is unlikely to make significant rate cuts this year, further pressuring the yen.
"Powell reiterated that the Fed is more hawkish than the market had anticipated, and now the BOJ is signaling that hikes are not on the table for the time being," said Leah Traub, portfolio manager and head of the currency team at Lord Abbett. "This creates a double whammy for the yen. The market got too bearish on the dollar earlier, and now it has to reposition."
Earlier in August, currency markets were roiled when the BOJ unexpectedly raised interest rates, prompting traders to unwind their positions in carry trades-investments funded by borrowing in yen at low interest rates and investing in higher-yielding assets. The move sparked volatility, and the yen briefly rallied. However, with both the new Prime Minister and the BOJ adopting a more cautious stance, the outlook for Japan's currency has shifted once again.
The market is now anticipating that the Bank of Japan will refrain from any further rate hikes this year, despite initial expectations that the central bank might act to curb inflation. The yen's sharp decline reflects the growing sentiment that the BOJ will prioritize stabilizing the new Ishiba administration rather than pursuing aggressive monetary tightening, especially given the potential political consequences of further rate hikes.
"If the BOJ hikes the policy rate again like it did on August 5, the impact on the Ishiba administration would be significant," said Yuya Yokota, a foreign-exchange trader at Mitsubishi UFJ Trust and Banking Corp. in New York. "So, the BOJ will not hike their policy rate again this year, and the depreciation of the yen will likely continue through the end of the year."
The yen's depreciation could present challenges for Japan's new Prime Minister, who took office during a period of economic uncertainty. Shigeru Ishiba's government must navigate the delicate balance of supporting economic growth while managing inflation, a task complicated by the global economic environment. Inflationary pressures, particularly those driven by rising import costs due to the weaker yen, may further test the administration's economic policies.
The BOJ's decision to hold off on further rate hikes aligns with concerns about potential disruptions to Japan's fragile recovery. While inflation has been a growing concern, Japan's economy has been slow to rebound from the pandemic, and any significant rate hikes could undermine progress. This cautious approach contrasts with other major central banks, including the Federal Reserve, which have adopted a more aggressive tightening stance in recent months.
Meanwhile, the global bond market continues to exert influence on currency markets. The recent rise in U.S. Treasury yields has made the dollar more attractive relative to the yen, accelerating the yen's depreciation. Investors are now reassessing their positions, particularly in light of Powell's recent comments, which signaled that the U.S. economy remains strong enough to withstand higher interest rates.
