【Special Report ~ FX Market 2018/3/6】Why is the yen strengthening?【Tetsu Emori's Real Trading Strategy】
Tetsu Emori's Real Trading Strategy March 5, 2018 8:45 PM
Broadcaster: ECM
USD/JPY remains in a downtrend and has finally moved to a year-to-date low. The market says "Kuroda's remarks were the turning point," but by that time the yen had already strengthened, so in a real sense it doesn't matter much. Especially since many Japanese market participants had unfounded expectations of yen weakness, this might be a resentment toward Governor Kuroda. I will touch on Governor Kuroda's remarks later, but in any case the yen's appreciation pressure is tremendous.It is well below the theoretical value of 112 yen derived from the U.S.-Japan real interest rate differential. In such times, I judge that political factors are at work. That has been the case historically.
A clear example is the moves around the European debt crisis circa 2010–2011, and the subsequent moves after the U.S. rate hike in December 2015. This is precisely when forex moved due to politics. Western authorities asked Japan, "It’s tough now, could you endure the yen appreciation?" and made it acceptable. Fortunately, or perhaps fortunately, the DPJ government had been in power since September 2009, making it easier for Western pressure. As a result, USD/JPY fell to 75.55 in November 2011.
In March that year, the Great East Japan Earthquake struck, and the public's confidence in the administration plummeted due to the DPJ government's handling, a fresh memory that underscored how big a crisis Japan faced.
However, the atmosphere changed when then-Prime Minister Noda challenged Abe of the LDP and called a dissolution. This served as a turning point; the West effectively notified Japan, "Thank you for enduring the yen strength up to now. You can now allow yen depreciation." This began the turning of the exchange-rate regime. Before the House of Representatives dissolution in September 2012, USD/JPY had fallen to 77.11; thereafter it rose, and by June 2015 it reached 125.85. Prime Minister Abe returned to power at a very favorable time. It was really good luck, and to attribute the yen depreciation to Abe's policies would be a mistake.
Now, while the Abe administration was enjoying yen depreciation, it was unlikely that 125 per dollar would be tolerated by the United States. That level marked the peak of the yen depreciation up to that point. 2015 was also the year when the U.S. considered ending its monetary easing and beginning rate hikes. If dollar strength continued, it would disrupt the rally in stocks and worsen the economy, so dollar strength had to be avoided. In this context, statements by BOJ Governor Kuroda such as "yen strength beyond 125 is not desirable" began to appear, creating an atmosphere that made further yen depreciation harder.
As a result,The first rate hike in December 2015 kicked off another yen-strengthening trend, and USD/JPY has continued to move in that direction up to now.Then, following the June 2016 Brexit referendum, USD/JPY briefly dropped to 99.08. Later that year, the U.S. presidential election brought Trump to victory, lifting U.S. long-term rates and pushing USD/JPY higher, with a December move up to 118.66. However, market expectations proved to be mistaken.The Trump administration's pledges of tax cuts and infrastructure spending would worsen the fiscal situation. In other words, they should have led to a weaker dollar.Moreover, because the Trump administration itself pursued a clearly dollar-weakening policy, the dollar naturally declined.
The current yen strength is also part of that trend and is therefore almost inevitable.The reaction of Finance Minister Aso regarding USD/JPY in recent times is likely due to strong pressure from the United States. In the past, when the yen rose, he intervened in the market and warned against moves, but now Japan cannot act unilaterally or issue admonishing comments as easily. Thus, under the influence of the United States, yen appreciation becomes almost inevitable. Therefore, it is not surprising if the theoretical value of 112 yen diverges. By the way, the theoretical USD/JPY value during the DPJ era was 94.65; it has fallen into the 70s/75s.In other words, the yen has strengthened about 20 yen from the theoretical value. That shows how much political factors were driving yen pressure. While a 20-yen deviation is excessive, a drop of around 15 yen is plausible. Considering this, it isn’t impossible for USD/JPY to fall to around 100.
Now, although market voices may seem to blame Kuroda, there is a tendency to over-interpret his remarks. In the House of Representatives' Policy Committee on the 2nd, the government heard testimony from Governor Haruhiko Kuroda, who has been proposed for reappointment. Governor Kuroda said, "By persisting with aggressive monetary easing, we can achieve the 2% price target," and, "I am resolved to devote myself to finishing the job toward a complete exit from deflation." In later questioning, regarding five years of large-scale easing since his appointment, he stated that "the situation is clearly no longer deflation," and added that "if necessary, further easing will be considered," indicating a willingness to continue policy expansion. However, the side effects of ultra-low interest rates—shrinking banks' net interest margins, deteriorating profits—are prominent, and there are many critical voices about the current policy. Governor Kuroda also admitted that "the earnings power of regional financial institutions has indeed been affected."
Nevertheless, Governor Kuroda has not yielded to the idea of an "exit" from monetary easing, saying that discussing it immediately would not be appropriate, and he has maintained a cautious stance on policy review. In other words, for Governor Kuroda's second term, achieving the 2% price target remains the top priority. In his testimony, he said, "I accepted the reappointment with the resolve to complete the work toward achieving the price target." When he first took office in 2013, he claimed the 2% price target could be reached in about two years. Yet price weakness persisted, and the realization time has been postponed six times. The BOJ now forecasts achieving the target around fiscal year 2019, and for the time being will continue with large-scale monetary easing. The side effects of prolonged ultra-low interest rates—bank earnings pressures and other issues—are growing, and if easing is delayed further, policy management could become even more difficult.
After all, in Europe and the United States, there is a conclusion that inflation cannot be produced by monetary policy. It feels quite odd that only the BOJ continues to pursue it.Governor Kuroda should already understand that the 2% price target cannot be achieved through easing alone. Yet he likely continues because of responsibility for the policy he has pushed and due to strong pressure from Prime Minister Abe.If an exit is proposed now, it is obvious that it would lead to severe yen appreciation and stock declines. If that happens, consumer tax increases starting in October 2019, as advocated by Prime Minister Abe, would sharply cool the economy and the goal of holding the 2020 Tokyo Olympics under his leadership would not be achieved.
Moving forward, governing and managing monetary policy will be quite challenging. There is market chatter that Governor Kuroda may resign mid-term due to concerns about his age. On the other hand, Prime Minister Abe is said to highly value Governor Kuroda's leadership, which contributed to the reappointment. However, if Governor Kuroda, now 73, continues, he would be 78 at retirement. Bank of Japan governors are often busy with overseas trips and Diet duties, and there has never been an instance of serving two full terms (10 years). Market speculators also wonder whether, if Governor Kuroda resigns mid-term, his deputy Amamiya might be promoted. Given that Amamiya has handled policy as part of the BOJ’s policy work so far, such a promotion is plausible.
Amamiya is the figure who has drafted BOJ policy thus far, and his influence on policy is unlikely to be strong. On the other hand, Mr. Wakata(be) (若田部), considered a reflationist, may already have completed that role and could become a figurehead. Nevertheless, there is a sense that Mr. Wakitae’s nomination is linked to Prime Minister Abe acting as a special envoy. There appears to be an intention to rein in Governor Kuroda before he pushes the exit theory.From this perspective, what the BOJ can do is limited, and moving to depreciate the yen through policy seems almost impossible.
With the economy worsening and the situation becoming quite tough, the only way to achieve yen depreciation appears to be to wait for the United States to extend a hand.Nevertheless, Japan's economy is currently improving and corporate earnings are solid. At this stage, requesting the United States to sympathize with a stronger yen would likely not be taken seriously.In short, do not harbor the meaningless expectation that the yen will weaken.However, commentators who had been calling for yen depreciation are starting to mention the possibility of falling below 105 per dollar. Therefore, yen strength might be coming to an end soon. Also, USD/JPY has fallen below the lower bound of the March bear-case range. The current strength of the yen is clearly temporary. A rebound is likely to occur at some point.
Tetsu Emori's Real Trading Strategy
Monthly: ¥4,500
https://fx-on.com/adviser/detail/?id=8592
