In recent months, the Japanese yen has faced unprecedented challenges, emerging as one of the weakest major currencies worldwideDespite attempts by the Japanese government to stabilize its value, including policy shifts and public reassurances, the narrative surrounding the yen has been dominated by its continued depreciation against the US dollar.

On April 10, in the New York foreign exchange market, the yen suffered a significant drop, collapsing to an exchange rate of 153.24 yen to the dollar, marking its lowest level since July 1990. This decline came on the heels of the US releasing its Consumer Price Index (CPI) for March, revealing a year-over-year increase that exceeded market expectationsAs a result, the Federal Reserve's anticipated reduction in interest rates for June dwindled, prompting a rise in long-term US interest rates

This development drove investors to favor the dollar, leading them to dump yen holdings.

Reinforcing the urgency of the situation, on April 11, Japan’s Vice Finance Minister, Masato Kanda, acknowledged that speculation was exacerbating the yen's decline, prompting the government to remain open to any necessary countermeasuresThis opened the floor for discussions regarding the potential intervention by authorities to support the yen amid rising market pressures.

Stepping out of Negative Rates

March 2024 marked a crucial turning point as the Bank of Japan announced the abandonment of its negative interest rate policy and yield curve control (YCC). This was the first interest rate hike in 17 years, an act that signaled the government’s intent to combat inflation and stabilize the currency

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However, even with these measures, the yen continued to struggle, having reduced its value against the dollar by about 7% in 2024 alone, solidifying its position as a weak contender in the currency market.

The backdrop of this financial saga is a prolonged period of ultra-low interest rates in Japan — a deliberate attempt to stimulate economic growth in the wake of deflationOver the years, as the Bank of Japan maintained nearly zero interest rates, investors shifted to the US dollar, lured in by better returns as US rates steadily increasedThis created a consistent outflow of cash from the yen and placed significant pressure on its value.

As reported by the US Commodity Futures Trading Commission, the week ending April 2 saw leveraged funds and asset managers' net short positions on the yen reach their highest levels since January 2007, totaling 148,388 contracts

This bearish sentiment indicated investor expectations that the yen would further depreciate against the backdrop of widening interest rate differentials with the US.

Before the CPI figures were revealed, market predictions suggested that the US might lower interest rates three times within the yearHowever, the actual data resulted in traders delaying their expectations, now foreseeing only two rate cuts in 2024. This sudden shift painted a less-than-optimistic outlook for the yen.

The market’s previous assumption that an exchange rate of 152 yen against the dollar would trigger Japanese government intervention was rewritten as the yen slipped past the 153 markFinancial analysts began speculating on the likelihood of imminent government measures to bolster the yen.

On April 11, Japan’s Finance Minister, Shunichi Suzuki, articulated that authorities would consider all options to address currency volatility, expressing that excessive fluctuations in the currency market were unacceptable

Prime Minister Fumio Kishida also echoed sentiments of flexibility in policy measures to tackle the yen's weakness, stressing that no possibilities would be ruled out.

Timing of Possible Intervention

For a number of weeks, forex traders remain acutely aware of the likelihood of Japanese governmental interventionThe last significant intervention occurred in September and October of 2022 when the government spent over 9 trillion yen (approximately $59 billion) buying yen in the market to combat rapid depreciation in the currency.

As of February 2024, Japan's foreign exchange reserves stood at a robust $1.15 trillion, leaving room for the government to act should the yen continue to plummetHowever, opinions diverge on the optimal timing for intervention

Analysts from various financial institutions have raised contrasting viewpoints about the government's likely reactions amidst the ongoing crisis.

Brad Bechtel, head of global foreign exchange at Jefferies Financial Group Inc., believed that the chances of government action had markedly increased, predicting that if the yen reached 154 per dollar, intervention would likely occurConversely, Valentin Marinov from Credit Suisse posited that a breach beyond the watchful 152 range established by the Ministry of Finance and the Bank of Japan might illustrate a higher tolerance threshold, suggesting officials might accept lower yen levels before intervening.

Adam Button, a chief analyst at FOREXLIVE, estimated only a 30% chance of intervention in the current month, citing that the speed of the yen’s decline indicated that it might not be the right moment for such measures

He underscored the reality that while intervention could temporarily reduce the dollar's strength against the yen, its efficacy in bolstering the yen over the long term remains uncertain.

The outlook continues to evolve, especially given the Japanese central bank's ambiguous stance on future interest rate hikesAnalysts are increasingly convinced that US rates will play a pivotal role in influencing the yen’s trajectory moving forward.

Emerging market investor Mobius criticized the Bank of Japan’s fight to defend the yen as a “lose-lose” battleHe anticipates further weakening of the yen as market dynamics unfoldObservers pointed out that while Japanese officials may not welcome the yen’s depreciation, the current trend seems more a reflection of the dollar's strength rather than a direct attack on the yen.

Peter Vassallo, a portfolio manager at BNP Paribas, indicated that while intervention might not take immediate effect, it would be a tactical maneuver to preserve government credibility in the eyes of market participants.

Uncertain Rate Hike Prospects

As the yen's depreciation elevates import costs, which could further inflate prices and stifle weak consumer spending and the overall economy, a profound reckoning is required for the central bank's timing in its next potential interest rate hike.

Bank of Japan Governor Kazuo Ueda had previously stated during parliamentary sessions that monetary policy would not pivot solely due to yen fluctuations and reaffirmed an intention to maintain accommodative monetary conditions for the time being since core inflation trends remain below the central bank's 2% target.

Several experts maintain that if the yen continues its downward spiral, despite interventions from the Ministry of Finance, the Bank of Japan may be compelled to consider raising interest rates sooner than anticipated

Chief economist Shunsuke Kobayashi from Mizuho Securities pointed out that the bank appears cautious towards the risk of a unilateral decline in the yen.

Some analysts suggest a higher likelihood of rate adjustments taking place between October and DecemberNotably, Mari Iwashita from Daiwa Securities envisions potential action as early as July if inflation pressures escalate unexpectedly.

Reuters has reported that government officials expressed concerns that a persisting yen slump could hinder salary increases among small businesses, which in turn could slow down the Bank of Japan's rate hike plans — necessitating a review perhaps until fall at the earliest.

Two sources indicated that an uptick in inflation forecasts could occur at the Bank of Japan’s upcoming meeting on April 26, emphasizing expectations for inflation to hover around their 2% target until 2026. This could underscore intentions to hike rates later in the year.

Nobuyasu Atago, a foremost economist at Rakuten Securities, mandated a cautionary stance, articulating that the Bank is unlikely to consider hikes until the yen's downfall becomes excessively severe.