USD/JPY: Why Is the Yen Weakening?

[Ben Graham]

The dollar/yen pair surged on Tuesday, despite the overall weakness of the American currency. The U.S. Dollar Index is languidly drifting around the 98 level, while the USD/JPY pair has jumped nearly 200 points in just a few hours, testing the resistance at 156.20 (the lower boundary of the Kumo cloud on the daily timeframe).

This price dynamic is driven by several interrelated fundamental factors.

Takaichi Factor

The catalyst for the growth in USD/JPY was information from the influential Japanese publication Mainichi Shimbun, which reported that Prime Minister Sanae Takaichi expressed serious concerns about further interest rate hikes during a meeting with Bank of Japan Governor Kazuo Ueda. This information is unofficial—according to the government's official report, "the parties discussed economic and financial conditions without specific requests for monetary policy from the Prime Minister."

However, despite the insider information being unconfirmed, it provoked significant volatility in the USD/JPY pair—naturally not in favor of the yen. The Mainichi Shimbun's report sounds quite plausible, considering that the current Prime Minister is a proponent of the so-called "Abenomics," which is based on stimulating the economy (through aggressive government spending) and easing monetary policy.

To remind, in early February, Takaichi consolidated her power: her ruling Liberal Democratic Party secured a constitutional majority in the lower house of parliament, obtaining 316 seats out of 465. Now, Takaichi can implement accommodation policies without regard for the opinions of coalition partners. In particular, the cabinet has already begun preparing to reduce the consumption tax on food from the current 8% to zero, despite this decision leading to annual tax revenue losses of about 5 trillion yen.

Earlier, the Prime Minister approved a large stimulus package worth 21.3 trillion yen. Logically, with such aggressive accommodative policies, Takaichi will need support from the Bank of Japan through soft monetary policy. The insider information from Mainichi Shinbun appears reasonably logical in this context: given the circumstances, one might expect the Prime Minister to pressure the central bank to align its policy with her economic goals.

This is why the market took the insider information seriously, even though the official press release was ignored.

Moreover, Japan's inflation dynamics and economic growth raise questions about the appropriateness of raising rates at upcoming meetings—in March or April.

National Consumer Price Index

According to data released last week, the national consumer price index fell in January to 1.5%, down from 2.1% (with a forecast reduction to 1.6%)—the lowest level since 2022. The index has been decreasing for the third consecutive month and, for the first time in the past 45 months, has fallen below the 2% mark. The core CPI, excluding fresh food prices, decreased to 2.0% (the minimum value since March 2022). A descending trend is also forming here: the indicator has consistently decreased for two consecutive months. The consumer price index, excluding food and energy prices, slowed to 2.6%.

Government subsidies, reductions in fuel taxes, and base effects played a key role in the January inflation slowdown. However, deeper (structural) changes in the Japanese economy are also restraining inflation. For example, Japanese consumers have become much more cautious in their spending, with declines in consumer activity recorded in December and January. Additionally, the "wage factor" has also played a role: real wages (adjusted for inflation) remained stagnant in January.

The downward trend in CPI allows the Bank of Japan to delay the next round of rate hikes, especially amid weak GDP growth data.

Japan's GDP

Key data regarding the growth of the Japanese economy was released last week. It turned out that GDP in the fourth quarter of last year grew by only 0.1% quarter-on-quarter, significantly worse than forecasts (+0.4%). Year-on-year, Japan's economy grew by only 0.2%, barely recovering after a sharp decline in the third quarter (-2.3%).

Such weak dynamics are due, in part, to a consumer demand crisis, trade barriers (U.S. protectionism + diplomatic conflict with China), and a reduction in government investments (the effects of Takaichi's stimulus policy will only fully manifest in the first half of this year).

Conclusions

The combination of slowing inflation (1.5%) and stagnating GDP (0.1%) against a backdrop of "dovish" rumors about Takaichi's pressure on the BoJ has rekindled doubts about the Bank's prospects for further interest rate hikes. The established fundamental backdrop exerts significant pressure on the yen and, consequently, supports USD/JPY buyers.

From a technical perspective, the USD/JPY pair on the four-hour chart is at the upper line of the Bollinger Bands and above all lines of the Ichimoku indicator, which has formed a bullish "Parade of Lines" signal. All of this indicates a priority for long positions. Downward corrections can be used as an opportunity to open long positions, with an initial (and so far only) target of 156.20 (the lower boundary of the Kumo cloud on the daily chart).

The material has been provided by InstaForex Company - www.instaforex.com