Interest rate hikes can't save the yen? Analyst: Even if the Bank of Japan raises interest rates this month, the appreciation potential is limited

According to CNBC, the issue of the depreciation of the Japanese yen seems to be too significant, and the Bank of Japan's interest rate hike this month has not been able to solve it; although there are signs of intervention by the Bank of Japan, the yen has still fallen by 11% so far in 2024. Despite the apparent intervention having a boosting effect and the favorable decline in U.S. bond yields also putting pressure on the overall dollar, the yen-to-dollar exchange rate only rose by less than 2% last week. This indicates that the yen needs more intervention from Japanese authorities to decisively break the downward trend.

The yen has fallen by 11% so far this year, increasing inflationary pressures in Japan, making it possible for the Bank of Japan to raise interest rates at the meeting on July 31, the second hike since 2007. Traders are focusing on the data released on Friday. A survey of economists shows that the inflation rate in Japan is expected to rise slightly to 2.9% in June, well above the Bank of Japan's target of 2%.

Yujiro Goto, head of foreign exchange strategy at Nomura Securities, said, "If the yen remains weak at the July meeting, the Bank of Japan may need to consider raising interest rates early, even when deciding to reduce the speed of purchasing Japanese government bonds." Nomura Securities said in a report on Thursday that this apparent intervention is putting pressure on the Bank of Japan to tighten policy accordingly.

Data from the swap market shows that the likelihood of a 10 basis point rate hike by the Bank of Japan has decreased from 59% before the yen appreciation last Thursday to 51%. This leaves room for a rebound in the yen after the central bank raises interest rates, but even so, any increase may not be enough to break the bearish trend of the yen.

Some analysts believe that if the Bank of Japan announces a reduction in bond purchases while raising interest rates, its actions may be seen as driven by volatile yen movements rather than its mission to stabilize prices. Goto believes that if the Bank of Japan raises rates by 15 basis points, the dollar could fall by 2 to 3 units against the yen, but a rate hike alone is unlikely to be enough to change the trend of the currency pair. Forward trading shows that the likelihood of this appreciation is only about 35%.

Similarly, although Barclays Bank expects the Bank of Japan to raise its rate target to 0.25% this month, it believes that the impact on the exchange rate is limited and expects the dollar-to-yen exchange rate to fall to 160 by the end of this quarter. Last Friday, the yen was trading at around 1 dollar to 158 yen.

Analysis of central bank accounts shows that Japan may have spent about 3.5 trillion yen (22 billion U.S. dollars) to support the yen last Thursday, which appears to be the third intervention this year.

Mitul Kotecha, head of Asian foreign exchange and macro strategy at Barclays in Singapore, said, "Although the weak yen has raised expectations for a rate hike by the Bank of Japan this month, we believe that the yield differentials at home and abroad are too large for a sustained reversal to occur."

Those bullish on the yen are likely to pin their hopes on U.S. retail sales data to be released on July 16, which is expected to show a slowdown in the world's largest economy. This should put further pressure on U.S. Treasury yields, thereby depressing the dollar against the yen. However, if the data is strong, their focus will quickly return to the policy decisions of the Bank of Japan Ray Attrill, the Foreign Exchange Strategy Director at National Australia Bank in Sydney, said, "If interest rates remain unchanged, we are likely to see new selling of the Japanese yen."