USD/JPY: Maintaining a “volatile but stable” outlook

■　The prospect of a widening gap between two-year U.S. and Japanese Treasury yields will lead to a firm price movement in the USD/JPY exchange rate.

 As confirmed in the Aug. 29 issue of 《PRESTIA Insight》*1 at the Aug. 25-27 U.S. Jackson Hole meeting, the Fed emphasized its "priority of controlling inflation, even as it causes pain to households and businesses." Similar views were generally expressed by the major central banks. In contrast, Bank of Japan Governor Haruhiko Kuroda, who participated in the panel discussion, said that "under the current economic situation in Japan, there is no alternative but to conduct continued monetary easing", further emphasizing the difference in views from other major central banks. 

 In this report, we would like to focus on the price movements of the "US-Japan Two-Year Treasury Yield Spread" and "USD/JPY", which are considered vulnerable to monetary policy, as specific indicators of the difference in the direction of US-Japan monetary policy. For example, when the difference between the U.S. and Japanese two-year Treasury yields narrowed to a level of 2.9% on August 2, the dollar also fell to a low of 130 yen. In the opposite price action, the difference between two-year U.S. and Japanese government bond yields widened to a level of 3.5% on Aug. 29, while the dollar rose to just 139 yen. The high degree of connection between the two has been pointed out many times in the past and is not a particularly new topic in the impact of the new crown epidemic since March 2020. However, the difference between U.S. and Japanese two-year Treasury yields is expected to attract more attention with the September policy meetings of the U.S. and Bank of Japan. 

 Based on price movements since March 2020, we estimate that the difference between U.S. and Japanese two-year government bond yields is 3.65%, corresponding to a USD/JPY exchange rate above the ¥140 level. In addition, based on the policy rate outlook (median forecast) in the "Summary of Economic Prospects (SEP)" presented at the June FOMC meeting, the yield on the 2-year US Treasury bond may well rise to the 3.6% level. In addition to the range of earnings, the September FOMC meeting will also focus on changes in the SEP. In addition, the Fed's monetary tightening stance was emphasized at the end of last week, while Japanese 2-year government bond yields were less volatile due to the Bank of Japan's monetary easing policy. Therefore, in the near term, given the prospect of a widening gap between U.S. and Japanese two-year Treasury yields, it should be maintained that the underlying firmness in the USD/JPY market will continue. 

 However, the Fed has now removed its forward guidance on policy rates, stating that "the extent of future rate hikes will depend on the data." As a result, we do not expect the uncertainty surrounding U.S. monetary policy to be removed in the foreseeable future. USD/JPY, which is highly pegged to the two-year U.S.-Japanese Treasury yield spread, will need to cope with occasional periods of instability without panicking. 

*1：PRESTIA Insight 2022.08.29 「The Fed and ECB recognize the need for decisive tightening of monetary policy」