During the first quarter of 2022, the Japanese Yen, which is considered to be an anti-risk currency, put in a poor showing, especially as March came to a close. The Japanese Yen Index, which measures the value of the yen against the US dollar, the Australian dollar, the British pound, and the euro, dipped as the S&P 500 and the 10-year Treasury yield rose.
If the stock market and bond rates rise at the same time, it may be tough for the Japanese yen to shine. At least for the time being, Russia's invasion on Ukraine and a more hawkish Federal Reserve have been unable to significantly alter market sentiment. Is there more adversity in store for the Japanese yen?
At first glance, it seems that the Japanese Yen will continue to trend in the same direction in the second quarter. One of the most significant factors contributing to the decline in the value of the yen is the growing divergence in monetary policy between the Bank of Japan and its major peers. With the exception of the Swiss National Bank, the Bank of Japan (BOJ) continues to be one of the most dovish of the G10 central banks.
The rise in the rates on global government bonds continued in the first quarter of this year. When it comes to Treasury rates, the 2-year has increased from 0.75 percent to more than 2.15 percent. As March came to a conclusion, the 10-year Treasury yield hovered at 1.53 percent and was closing in on 2.4 percent. A more hawkish Federal Reserve was a major contributing factor, with policymakers keeping the door open to raising rates in increments of 50 basis points in order to bring price rise under control. Towards the end of March, the chances of such a move taking place by May had increased to a commanding 75 percent.
Increasing global inflation, which seems to be happening practically everywhere with the exception of Japan, has prompted central banks to intervene. In February, Japan's headline CPI rate was 0.9 percent year on year, compared to the United States' headline CPI rate of 7.9 percent year on year. As a result, the Bank of Japan has done essentially little to alter monetary policy in response. The target policy balance rate has stayed at -0.10 percent, and a 0 percent "yield curve control" (YCC) limit on the yield on the 10-year Japanese government bond has been maintained. Will this be different in the future?
Among the most important commodities imported by Japan are crude petroleum and coal briquettes. As a result of Russia's invasion on Ukraine, the costs of these critical inputs have skyrocketed, as the developed world has increasingly turned to other sources of supply. In reality, since Japan is a major energy importer, it is possible that increasing energy costs had a part in the Yen's devaluation.
I've made an educated guess as to where Japan's headline CPI (YoY) rate would go from here in the figure below. A multiple linear regression model, which has been used to quantify the influence of crude oil and coal futures on inflation in the nation since 2015, has been used to reach this conclusion. As inflation tends to trail prices, I've delayed the latter by 8 months in relation to CPI to account for this. As a result, we may use current oil and coal prices to forecast inflation in the next months and years.
It is predicted that Japan's headline inflation rate would exceed 2 percent y/y in May, according to the model. Is it probable that the central bank will make a policy adjustment if this occurs? Most likely not. Before reversing course, the BOJ may want to see evidence of continuously high CPI statistics before making a decision. Furthermore, the central bank has stayed inert in the past when inflation momentarily rose beyond its goal rate of 2%. It seems expected that the Yen will continue to have difficulties in the absence of a market crisis.