With USD-JPY nearing recent, all-time lows, market jitters about intervention by the
Japanese authorities have returned. The Japanese yen (JPY) has strengthened
against more than just the USD – an index measuring its performance against a
basket of trading partners has also approached all-time highs. These gains come
as the US and Europe experience ongoing fiscal pressures and economic growth
slowdowns. In contrast, Japan’s economy appears to be rebounding after this
year’s natural disasters. The JPY, along with the Swiss franc (CHF), has resumed
its traditional safe-haven role as investors flee uncertainty elsewhere.

In the recent past, Japanese official intervention has been aimed at countering FX
volatility and to protest rapid or disorderly JPY appreciation. This differs slightly
from prior episodes – in the mid-1990s or 2003-04 – which sought to weaken the
JPY from levels that policymakers perceived as significantly overvalued. This
week, finance minister Noda escalated his rhetoric against the strong JPY, evolving
from trite warnings about the JPY’s volatility to declaring it “strongly overvalued”.
With senior officials now flagging both valuation and volatility concerns, official
action to weaken the JPY appears imminent if the currency appreciates further.

While intervention appears possible over the next several days, we think it is likely
to be unilateral, rather than a coordinated G7 effort. With Japan’s economy
recovering smartly and the US and euro-area deeply embroiled in problems of their
own, any intervention is likely to be solely Japanese. As such, the prospects for
Japan’s government to weaken the JPY meaningfully appear limited. Market
participants may use any significant rise in USD-JPY as an opportunity to enter
fresh short positions, particularly as the US dollar (USD) remains broadly weak.

The Bank of Japan (BoJ) could encourage JPY weakness through fresh monetary
easing, however. In our experience, interventions accompanied by supportive policy
changes are more successful. Expanding the BoJ’s asset-purchase programme by JPY
5trn to JPY 15trn would boost any official intervention effort. A sustained JPY reversal,
however, hinges on turning the corner on investor risk aversion.