Yen Sinks—But Dollar Falls Too

The Yen was hammered last night in the forex market.  In the Bank of Japan meeting there was a decision to keep the overnight lending rate at 0.5%, the lowest among all the major currencies.  All the major currencies increased against the Japanese yen as it became obvious that rate differentials were not going to compress.  But as Boris Schlossberg of DailyFX.com points out, the losses probably had as much to do with the bank’s reluctance to commit to a rate hike in August as they had to do with today’s decision.  The policy makers in Japan admitted that they were more worried about the still-lagging domestic consumer demand than they were about the admittedly undervalued currency.

Carry traders continue to rejoice with the non-move in interest rates.  With no danger of a US rate cut, USD/JPY reached a fresh 5-year high.  There is cause for some worry for carry traders in the currency market.  The undervalued yen has led to an advantage for Japanese companies overseas.  There has already been complaining in Europe about this advantage.  If policy makers in the US jump on this bandwagon as well, it could lead the BoJ to institute a preemptive rate hike.

Going back to the dollar, there are a few signs of continuing dollar strength.  On June 14, we saw PPI numbers that positively surprised the forex market.  Almost all recent data that has come out the US has been higher than expected and supported dollar bids.  And in the last week, high bond yields have continued to suggest an interest rate hike by the Fed.

But today’s data shows creeping signs of dollar weakness.  Home mortgage rates last month reached record highs, as did foreclosures.  With that kind of negative push on the US economy, it might be unwise to raise rates at the time.  In addition, today’s CPI report came in surprisingly tame, with a lower-than-expected rise in prices.  Production at factories, mines and utilities declined last month, and consumer expectations have been underwhelming.  A repeat of this kind of performance in coming days might give the Fed some cover for a rate cut.  And it is that fear that allowed EUR/USD to gain so strongly yesterday.