Japan’s government is facing a choice between unappealing options as it attempts to manage the strength of the yen relative to the dollar.
In a move co-ordinated with American counterparts, Japanese policymakers have bought up the yen to move it from around 164 yen per dollar to 156.5.
Further action is considered likely, due to the historic lows that have been evident in recent months.
The big concern from the Japanese perspective is inflation, with the weakness of the currency forcing up the cost of everything the country imports. However, intervening further carries its own risks.
While America wants one of its key trading partners to remain on sound economic footing for multiple reasons, its willingness to intervene so overtly in this instance has a more direct reason driving it.
The fear on American shores is that Japan may be forced to dump some of its estimated $1.1trillion of US treasuries holdings on the market to support the yen and buy back its own bonds.
That would have a serious knock-on impact for US costs of public borrowing, US Federal Reserve policy and the dollar.
AJ Bell investment director, Russ Mould, said: “Monty Python’s ‘Money Song’ feels a bit dated now, given its references to what it terms the lure of the lira and the romance of the ruble, let alone the glitter and glory of the guinea, but it gets one thing right in that it does not mention the Japanese yen at all.
“Such is the currency’s decline this decade that both Washington and Tokyo are stepping in to support it, although America’s involvement is unlikely to be for altruistic reasons.
“Treasury Secretary Scott Bessent will be more worried about the prospect of Japan selling some of its huge US government bond holdings than the debt and inflation woes of Prime Minister Sanae Takaichi.
“One worry is that the Bank of Japan will have to revert to quantitative easing and start buying Japanese government bonds (JGBs) hand over fist in an effort to rein in Tokyo’s borrowing costs, which are rising relentlessly in response to lofty supply and another ongoing concern of inflation,” Mould continued.
“In this respect, the Bank of Japan may be trapped between two unappealing policy options. But if Tokyo really was worried about defending the yen, then getting Ueda and the BoJ to act in a decisive manner would be the easiest way to do it.
“Instead, the USA is stepping in to help, but its motives are not wholly charitable.”
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Sree Kochugovindan, senior research economist at Aberdeen Investments, said: “This marks the first coordinated intervention since 2011 to stem yen appreciation following the Great East Japan Earthquake.
“The yen has surged overnight on speculation there may be further intervention ahead. The Japan government bond (JGB) curve has flattened as short end yields price in faster pace of BoJ rate hike expectations.
“Overnight index swaps are pricing 93% probability of 25bp hike in October while a September hike is now a coin toss.
“In the near term, the combination of intervention risk, US backing and a more hawkish BoJ increases the likelihood of further short-covering in dollar/yen, especially given stretched speculative short-yen positioning,” Kochugovindan added.
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“Further appreciation could also have implications for other markets as carry trades unwind.
“Over the longer term, however, intervention alone is unlikely to reverse the trend without further BoJ normalisation and narrower rate differentials.”
Tom Stevenson, investment director, Fidelity International, added: “As if investors did not have enough to think about with bonds and shares, this week has seen currencies back in focus too.
“Often a trigger for big movements in markets can be something unexpected or poorly understood. And the Japanese yen looks like it might fit the bill this summer.
“The US has not bought yen in this way for 30 years, an indication that it is concerned about the currency, which is reflecting worries about the impact of rising oil prices in Japan as well as the affordability of an ambitious fiscal stimulus plan under new Prime Minister Sanae Takaichi.
“How these moves play out in financial markets is always unpredictable. But Japan looks like being an important focus as the summer unfolds.”
