Concerns about state of the Japanese economy
Disappointing Japanese data and strong US economic data upended the yen’s performance in recent weeks. Impending economic announcements from the US include the US labour market report, but bigger concerns include the decisions of central banks vis-a-vis policy measures in response to the global economic malaise. Economic leaders from the world’s 20 largest economies agreed at the latest G20 summit that they will update one another about any potential policy moves that will impact upon currency strength, notably devaluations.
The announcement from the G20 ensures that all participating countries will not engage in competitive devaluations of their currencies in an attempt to gain an edge over one another. This is particularly concerning in China and Japan.
After China recently weakened the CNY, competing countries found themselves scrambling to similarly devalue their currencies in order to remain competitive with China on an export level. The G20 summit resolved to prevent surprise decisions from destabilising an already teetering global economy. One of the biggest casualties of a surprise devaluation would invariably be the Japanese yen, but that is unlikely to take place now that an agreement has been hammered out.
Of equal importance for the prosperity of the Japanese economy is the non-farm payrolls report in the US. That announcement will be made at 8.30am on Friday, March 4. The previous NFP figure was 151,000, and the consensus estimate is 190,000 with a forecast of 195,000. The US unemployment rate for February will also be announced at 8.30am on Friday, March 4, and the previous figure was 4.9%, and the consensus figure is 4.9%.
Any positive surprises in US economic performance in key sectors will invariably cause a rally of the USD and weaken the JPY. The strength of the US dollar works in close correlation with the decisions made by the Federal Reserve Bank.
If indeed the dollar is strengthening and the economy is robust, the Fed will have no hesitation in raising interest rates by 25-basis points in March or June to 0.75%. This in turn will have a negative effect on the JPY, EUR, GBP and emerging market currencies overall. A strong USD is a disincentive to investment in emerging market economies, and accelerated capital flight will result. Japan which is presently experiencing a negative interest rate at -0.1%, and a negative GDP growth rate will invariably perform poorly if the Fed decides to hike interest rates in the US. If on the other hand the US economic data points to an increase in unemployment, or a worsening of the balance of trade, or negative performance in the ISM nonmanufacturing PMI, the dollar could weaken.
From the Japanese perspective, there are several upcoming announcements that could move the Japanese yen, including the GDP growth rate (quarter on quarter) for Q4, 2015 and the annualised final GDP growth rate for Q4, 2015. Other factors to look out for include the consumer confidence index for February on Tuesday, March 8, the Bank of Japan interest-rate decision on Monday, March 14, and the balance of trade for February on Wednesday, March 16. These economic announcements will likely move the needle for the Japanese yen if consensus estimates are not congruent with the actual performance figures. Meanwhile, the Japanese CPI inflation report which was released indicates that the Bank of Japan is unlikely to change interest rates from their current level of -0.1%.
Another aspect working in favour of the Japanese yen is the high degree of volatility in financial markets, particularly in Asia-Pacific.
However, just recently the Chinese economy started to turn the corner when steel production increased. Following the Lunar New Year in China, a sharp uptick in steel production was reported in Chinese steel mills and this resulted in a spike in the price of iron ore above $50.30 per tonne. This sparked a frenzy of activity in countries that supply China with iron ore such as Australia, South Africa and others.
When the Chinese economy is booming, there is less demand for the save-haven currency of the JPY. In the event that ongoing volatility is beneficial to the yen, the USD/JPY currency pair will weaken. We have already seen tremendous strength in major averages on Wall Street, including the S&P 500 index which rallied recently. A decline in volatility may not bode well for the Japanese yen, and neither will an improvement in the economic conditions in China.
The USD/JPY currency pair is trading at 114, which is a slight weakening of the yen from the previous level of 113. The currency pair has weakened by 4.51% over the past 52weeks. During the past month, the yen has strengthened against the greenback, following a 4-year decline from a level of approximately JPY 76 to the dollar to as much as 125 to the dollar.
The yen has managed to claw its way back as a result of China weakness, and this is evident in the currency exchange rate with the dollar which started to strengthen around the same time that the Chinese stock market tanked. While the appreciation in the Japanese yen has been marginal, it is clearly evident and looks to be part of a longer term trend that is developing.
The performance of the yen against the greenback will likely be tempered by impending interest-rate hikes in the US. Nonetheless, the yen will strengthen against the euro and the pound – both of which are going to come under increasing pressure midway through 2016 when the referendum on a Brexit approaches. Presently, analysts are eyeing a key 115 support level, but if they yen reverses course and the dollar appreciates, it could be a perfect buying opportunity for those going long on the greenback.