Joint Japanese-U.S. efforts to shore up the battered yen two weeks ago have heightened market bets the Bank of Japan will need to hike rates faster and further, raising the stakes for the currency at next month's policy meeting.
Co-ordinated intervention between Japan, the U.S. Treasury and South Korea drove the yen about 5% higher in late July and early August, a gain it has since struggled to hold.
But a sharp repricing in rate expectations, on the thinking there is U.S. pressure, has added 25 basis points of priced-in hikes this year as traders warm to the idea the BOJ may at last start to support the yen.
That piles pressure on policymakers to meet those expectations or risk a new slide in a currency that's been pinned to multi-decade lows.
"We need to see a more hawkish BOJ stance, which the market is trying to price in, but at the same time, we need validation," said Moh Siong Sim, currency strategist at OCBC in Singapore. "If they don't do it, the yen will weaken."
U.S. Treasury Secretary Scott Bessent triggered the move by urging Japan to follow up joint intervention with "policy and fundamentals," interpreted as a nudge to Prime Minister Sanae Takaichi to tone down her dovish stance and let the BOJ lift rates.
"With political pressure weakening, there is a possibility that the Bank of Japan could accelerate the pace of its rate hikes," said Takahide Kiuchi, executive economist at Nomura Research Institute.
Markets currently see a 76% chance of a hike in September, according to Tokyo Tanshi data, compared with 24% on July 30.
SOLO TO JOINT INTERVENTION
Locked in a long-term weakening trend driven largely by interest-rate differentials with the U.S., the yen's losses accelerated this year as Takaichi pursued massive stimulus and the BOJ delayed rate hikes. After a bout of record solo intervention by Japan in April-May failed to turn the tide, the U.S. joined in another round of yen-buying.
Japan's finance ministry has pledged it will not hesitate to strike again after the July 30-31 coordinated yen-buying operation with the U.S. Treasury — the first such action since 1998 — pulled the currency back from a 40-year low of 163.99 per dollar. The yen surged to as strong as 155.20 in the ensuing days, but has since weakened back above the 159 level.
The funding facility signals political commitment between Tokyo and Washington to set a ceiling for the dollar-yen rate around 160, said Masahiko Loo, senior fixed income strategist at State Street Investment Management.
"FIMA is less a funding tool and more a deterrence tool, an almost bazooka-like backstop that forces markets to think twice before testing policymakers' resolve," he said.
BOJ RATE HIKE THE 'ONLY REMEDY'
Intervention aside, the BOJ is the next factor to determine whether yen stability holds beyond the next market test.
"In the short-term, the only remedy for the yen's weakness is for the BOJ to raise rates," said Katsutoshi Inadome, senior strategist at Sumitomo Mitsui Trust Asset Management.
Mizuho Securities is among brokerages that have moved up their base case for the next hike to September, pointing to a surprisingly hawkish tone in the BOJ's July Summary of Opinions. Mizuho also raised its terminal rate forecast to 1.75% from 1.50%.
To be sure, the yen faces continued headwinds. Concerns about Japan's fiscal deficit and unfunded tax cuts remain, putting upward pressure on government bond yields and undercutting the lasting impact of intervention, currency strategists at Mitsubishi UFJ Morgan Stanley Securities said in a note.
That puts the pressure back on the BOJ. With bond yields and swap rates already pricing in a September move, another delay by the central bank would be interpreted as "a betrayal of the market," said Rinto Maruyama, senior strategist for FX and rates at SMBC Nikko Securities.
"Market players would lose faith in the BOJ's ability to continue on its rate hike path," Maruyama added. "In that case, the yen would fall and longer-term bond yields would climb as inflation fears mount."
