‘Watch It Go’: The Yen And A ‘Quartet Of Grey Swans’

Admittedly, I ran out of creative ways to tell the same story about the yen months ago.

As it turns out, I’m not alone. On Wednesday morning in Hong Kong, one anchor, musing fatalistically on-air, called it “a kite without a string.” “Watch it go,” she shrugged.

The relentless slide found USDJPY eying 145 (figure below).

The yen’s down ~20% in 2022, surpassing 1979 for the largest drawdown ever.

The currency’s worst year on record is a function of policy divergence between the Bank of Japan and its developed market peers, but in this case, “divergence” is insufficient to capture the scope of the disparity.

Central banks in advanced economies are hiking rates at a frantic pace in a desperately belated attempt to tamp down scorching-hot inflation. Japan, by contrast, is buying unlimited amounts of government bonds in order to defend the upper-limit of the trading band in the bank’s yield-curve control regime. On Wednesday, the BoJ redoubled its efforts, as the prior day’s Treasury selloff pushed 10-year JGB yields up near the 0.25% cap.

2022’s global bond selloff, the worst in modern history, has seen yields test the limit again and again (figure above). Haruhiko Kuroda hasn’t wavered. Not yet, anyway.

With Japanese yields capped, the rate differential with Treasurys can only widen when JGB rates are at the upper-limit and US yields are rising. That piles pressure on the yen, as does Kuroda’s defense of the cap, which entails conjuring more yen to buy JGBs.

There are other factors weighing on the currency, virtually all of which are self-fulfilling. Japan notched a record trade deficit in July, for example, the 14th consecutive monthly shortfall, as soaring energy costs and the weak yen drove up the country’s import bill.

This is yet another manifestation of the terms of trade shock that’s rippled across the globe in the wake of Russia’s “special military operation” in Ukraine, and amid the dollar’s inexorable ascent.

“Overseas investment has helped make the yen volatile in times of uncertainty, and in the current cycle, where yield differentials between Japan and the US are huge and Japan’s terms of trade has suffered the same devastating hit from higher energy prices as Europe’s, there have been few reasons to bring money invested abroad back home,” SocGen’s Kit Juckes said Wednesday, as the yen careened through 144 for the first time in nearly a quarter century.

Finance Minister Shunichi Suzuki stepped up the verbal intervention, but it won’t be enough. Suzuki said officials are “watching the markets with a high sense of urgency,” and insisted Japan would “respond as needed” in the event “the moves continue,” but there’s nothing particularly irrational about these “moves.” It’s a fundamentals-based selloff, it’s also a strong dollar story and it’s completely consistent with the BoJ’s insistence on persisting in ultra-accommodative policy settings.

Intervention seems likely at some point (to me anyway), but if it comes, it’ll make for an awkward juxtaposition with Kuroda’s bond-buying. That’d doubtlessly be the subject of the “trilateral” gathering between the BoJ, the MoF and Japan’s financial regulator which would presage official action. Any move would presumably need to be communicated to (or discussed with) Janet Yellen.

A rate hike from the BoJ is probably out of the question and in any case, it’d be far too small to make any difference. The signaling effect would be meaningful, but if Kuroda wanted to “shock and awe,” he’d abandon YCC or at least widen the band. He’s shown no inclination to do any such thing, and count me skeptical that he can be persuaded, absent an existential rout in the currency.

“We are now approaching the level that prompted a joint currency intervention by the US and Japan in June 1998,” Nomura’s FX team noted. The figure on the left (below) gives you some context for this week’s level and movement.

“Based on verbal jawboning, we do not think JPY buying intervention is likely in the near term,” Nomura went on to say, adding that in their view, the BoJ won’t tweak policy at the September meeting due to yen weakness.

There’s also some ambiguity around how to conceptualize of the yen these days. SocGen’s Juckes described “a new paradigm” in which Japan is “very much part of a North Asian block of economies with very strong links, and the yen can’t really be view separately from what is happening to the Korean won, Taiwanese dollar and most of all, the Chinese yuan.”

The yuan is beset, and although officials in Beijing are going with it directionally, they’re leaning harder and harder into the fix in an effort to slow the pace of depreciation. Wednesday’s stronger-than-expected fix was the eleventh straight and the most pronounced versus consensus on record.

Juckes, perhaps sensing a rare opportunity to grab the spotlight in a world where FX is suddenly exciting again, was in rare form. “If these four economies are suffering at the same time, and allowing their currencies to fall, they will export disinflation to the rest of the world, just as we worry about persistent inflation,” he wrote, of the same North Asian block. “Maybe they represent a quartet of Grey Swans doing their own imitation of the four horsemen of the apocalypse.”

Commenting further on Wednesday, Japan’s Suzuki wouldn’t say, specifically, what he might do if the yen keeps falling. “The necessary response is the necessary response,” he explained.