Where next for the Yen

In the mind of good Kazuo Ueda

by Macro D

Let's look at the bigger picture. In Frankfurt, the hawks are already drawing up the list of upcoming demands and will not miss an opportunity to throw the stickiness of dormant inflation in everyone's face; the 10-year Bund currently yields the same or even a few decimal points more than a year ago, when the ECB announced its first rate cut. Across the ocean, compared to when the Fed began cutting rates last September, the 30-year Treasury is now offering 0.80% more, and the 10-year Treasury is offering 0.75% more.

In Japan, things are going much worse: yields have surged on the long end of the curve to historic or decade-high levels. What's happening? The blanket is short, and if you want to cover your face, you end up leaving your feet in the cold. Central banks can directly influence the short end of the yield curve, which reflects monetary conditions. Still, the long end depends on factors such as inflation expectations and government debt forecasts. And this is where things get complicated. In recent months, rates have been falling, and governments are announcing plans to increase debt, either for rearmament or to support the economy, as in the case of the USA. The same concerns and fears about the stability of globalisation are increasing the risk that inflation will rise structurally in the coming years. Governments are putting pressure on central banks, some explicitly and some behind the scenes, to obtain a lower cost of money with which to finance their respective spending plans. On this issue, the most agitated of all is undoubtedly the American President, but up until now, Powell has held the course straight.

In any case, not even in countries where the cost of money has been significantly reduced have we seen a significant reduction in issuance costs. And now, let's come to Japan. Here, they even announced the cut in ultra-long issues to calm people down, and to me, this did not seem like a reassuring reaction because it implies that new debts will have shorter average maturities. Therefore, public accounts will be more exposed to market volatility in the coming years. In Japan, the Yen has depreciated by about 10% against the dollar in 2024, and its real effective exchange rate (REER) is at a "50-year low". This data makes me think and immediately brings me back to my recent decision to temporarily exit the USD/YEN Short trade. I wrote down the reasons that pushed me to this exit, but now that I find myself rethinking the trade.

Let’s dig in.