Yen buoyed by BOJ’s plan to review YCC

The Japanese yen strengthened against all major currencies following a report indicating that the Bank of Japan (BOJ) plans to discuss potential adjustments to its yield curve control (YCC) policy during its upcoming meeting on Friday.

The BOJ is considering allowing long-term interest rates to exceed the current 0.5% cap by a certain degree. This news triggered a significant rally in the yen, with gains of up to 2% against the euro, the largest since March, and a 1% rise against the dollar.

Market speculations have been rife in recent weeks that the BOJ might cease capping yields on government bonds after making modifications to its approach in late 2022. Traders have been protecting themselves against a potential yen surge if the YCC policy changes.

Shaun Osborne, chief foreign-exchange strategist at Scotiabank, noted that while speculation regarding policy tweaks has been incorrect in the past, rising inflation, increasing wages, and the substantial BOJ purchases suggest that some adjustment to the YCC policy may be imminent.

In December last year, the BOJ announced it would permit Japan’s 10-year bond yields to rise to approximately 0.5%, doubling the previous upper limit of 0.25%. This move triggered a sharp rise in the yen as government bond yields increased, impacting various financial markets, including US stocks, the Australian dollar, and gold.

A change in leadership at the BOJ earlier this year intensified expectations for the end of a decade-long era of ultra-low interest rates that had driven money overseas and adversely affected domestic savers. However, little progress has been observed since then, leading to heightened anticipation for potential policy adjustments.

Win Thin, global head of currency strategy at Brown Brothers Harriman & Co., suggests that any changes to the YCC policy could have ripple effects on global yields, pushing them higher. Additionally, the yen, which has been weighed down by Japan’s ultra-loose monetary policy compared to other countries’ aggressive rate hikes, could experience support from even a small increase in the yield cap.

Bipan Rai, CIBC’s global head of foreign-exchange strategy, predicts that if the BOJ adjusts the tolerance level by 25 basis points, the USD/JPY exchange rate could approach the 135-136 range. On the other hand, a complete abandonment of the yield control policy might lead to USD/JPY nearing 120 over time.

As of 3:49 p.m. in New York, the dollar-yen exchange rate was down 1% at 138.85. The financial markets are closely monitoring the BOJ’s meeting on Friday for any potential decisions on the YCC policy, which could have far-reaching implications for the yen and global yields.