The Japanese Yen (JPY) recovered some of its losses against the US Dollar (USD) on Wednesday, after hitting a one-and-half-month low of 147.45 on Tuesday. However, the JPY still faces downside risks amid diverging monetary policy expectations between the Bank of Japan (BoJ) and the Federal Reserve (Fed).
The JPY gained some positive traction on Wednesday, as traders adjusted their positions ahead of the release of the US Consumer Price Index (CPI) data later in the day. The US CPI is expected to show a 0.2% monthly increase in December, lifting the annual rate to 3.2% from 3.1%. The core CPI, which excludes food and energy prices, is forecast to ease to 3.8% year-on-year from 4.0%.
The inflation data will have a significant impact on the Fed’s future policy decisions, as the US central bank has signaled that it will start raising interest rates this year to contain price pressures. The Fed has also announced that it will accelerate the tapering of its monthly bond purchases, which is expected to end in March.
The JPY, on the other hand, is weighed down by the prospects of a prolonged ultra-dovish stance by the BoJ, which is unlikely to exit its negative interest rate policy anytime soon. The BoJ is facing a challenging economic environment, as Japan was hit by a devastating earthquake on New Year’s Day, which disrupted supply chains and damaged infrastructure. Moreover, the latest data showed that inflation in Tokyo fell by 0.1% in December, while real wages declined by 3.0% in November.
JPY fails to benefit from risk aversion
The JPY, which is traditionally considered a safe-haven currency, failed to benefit from the risk-off mood in the global markets, as investors remained worried about the geopolitical tensions and China’s economic slowdown. The ongoing conflict between Israel and Hamas, as well as the US airstrike on a Houthi missile facility in Yemen, added to the uncertainty and dampened the appetite for riskier assets. Meanwhile, China reported its slowest GDP growth in a decade, as the country grappled with the impact of the Omicron variant and power shortages.
The JPY also faced headwinds from the strong performance of the Japanese stock market, which was boosted by the foreign buying of Japanese shares. According to the data from the Ministry of Finance, foreign investors bought a net 1.2 trillion yen ($8.1 billion) of Japanese stocks last week, their biggest purchase since October. This reduced the demand for the JPY as a funding currency for carry trades, where investors borrow in low-yielding currencies and invest in higher-yielding assets.
JPY outlook hinges on BoJ and Fed decisions
The JPY outlook will largely depend on the outcome of the upcoming monetary policy meetings of the BoJ and the Fed, which are scheduled for next week. The BoJ is expected to keep its policy settings unchanged, but may revise down its economic and inflation forecasts, reflecting the impact of the earthquake and the Omicron variant. The BoJ may also signal that it is ready to provide more stimulus if needed, which could put more pressure on the JPY.
The Fed, on the other hand, is expected to confirm its hawkish stance, and may provide more clarity on the timing and pace of its rate hikes. The Fed may also announce the end of its bond-buying program, which could boost the USD and the US bond yields. The Fed’s policy outlook will be influenced by the inflation data, as well as the upcoming US Retail Sales and Consumer Confidence reports.
The JPY will also react to the domestic data, such as the National Core CPI and the Industrial Production, which are due on Friday and Monday, respectively. The JPY may find some support if the data shows signs of improvement in the Japanese economy, but may face renewed selling pressure if the data disappoints.
