JPY: Banging the QE drum – Rabobank
The fundamentals that drive the JPY are complex, but they can also be boiled down to two main factors, which are the carry trade that tends to weigh on the JPY (given the low interest rate environment in Japan) and risk aversion which (given the unit’s safe properties) tends to lift it, according to Jane Foley, Senior FX Strategist at Rabobank.
Key Quotes
“At the start of last year the yen found support on some worrying geopolitical events. These included concerns that referenced the S. China Sea and also the build-up of anxieties surrounding N.Korea. As the year progressed the situation regarding N.Korea remained tense. However, in the final months of last year the JPY appeared less responsive to news regarding Kim Jong-Un’s nuclear threat. Although September marked the start of a recovery in the USD which drew USD/JPY higher, it is likely that against the backdrop of strengthening world growth that the attraction of yield countered safe haven inflows into the JPY. In essence, strong growth appeared to be deadening the market’s reaction to geopolitical events.”
“In view of the solid backdrop to world growth at the start of this year, it can be inferred that the JPY should remain a poor performer. Measured over the past month there has been little change in USD/JPY but the JPY has indeed underperformed all other G10 currencies. The fact that North Korea reported this week that an inter-Korean communications line would be re-opened and the country will hold high level talks with South Korea next week suggests that geopolitical pressures in the region could ease this year. This also implies a softer tone for the JPY – though geopolitical tensions in the Mid-East or elsewhere could provide support. However, the soft outlook for the yen depends on it continuing to have a role as a funding currency for carry trades. In turn this assumes that the BoJ will maintain its extremely accommodative policy settings.”
“Overnight Governor Kuroda maintained that the BoJ must continue its QQE programme. Despite the current run of strong growth in Japan, CPI inflation remains well below the BoJ’s target and according to Kuroda “the deflationary mindset that took hold in Japan isn’t disappearing easily”. Although Kuroda’s job is up for renewal in the spring, there appears to be a good chance that he will remain at the helm of the central bank. This implies that the Bank’s dovish position is likely to be maintained. It is possible that the BoJ and the SNB become the only two G10 central banks not to back away from extremely accommodative policy settings this year. In view of this risk, we see scope for a weaker JPY this year. Our 12 mth forecast for EUR/JPY stands at 144 and USD/JPY at 116. However, we will be monitoring the BoJ closely given the currency concerns about the “reversal rate”.”
“Kuroda’s mention of the term “reversal rate” in a speech in November heightened the debate about whether or not low yields are curtailing the will of banks to lend. For now, Koruda’s reassurances that he is committed to the currency policy path and Japan’s very low CPI inflation rate should keep the BoJ’s QQE programme on course. However, Japan’s severe labour shortage combined with higher oil prices could stimulate inflation expectations this year which could awaken hopes of more flexibility for the BoJ. In turn this could support prevailing concerns about the side-effects of QE. Already the BoJ has shown concern about how its policy is impacting bank profitability and their ability to lend. In September 2016, the Bank adjusted its QQE programme to include yield curve control. Since then it has been aiming to keep 10 yr JGB yields at zero and preventing them from dropping below. Although Koruda currently appears adamant that no policy change is on the cards, any murmur about a change in course could be a game changer for the JPY.”