Why is the Japanese Yen falling as US CPI exceeds forecasts and Fed officials favour further rate hikes?

• USD/JPY advances as the US Dollar gains support from above-forecast US inflation.
• At least two further rate hikes are needed, says Dallas Fed President Logan.
• The Yen remains under pressure from the sizeable US-Japan yield differential.

Demand for the US Dollar (USD) is supporting gains in USD/JPY on Tuesday, following above-forecast US inflation and hawkish comments from Federal Reserve (Fed) officials. The pair is trading near 158.76 at the time of writing, a gain of 0.55% for the day.

October’s US Consumer Price Index (CPI) increased 0.4% MoM, exceeding expectations of 0.3% while slowing from September’s 0.6%. Excluding food and energy, core CPI advanced 0.3%, unchanged from September’s pace but above the 0.2% forecast. Owing to last year’s government shutdown, the Bureau of Labor Statistics (BLS) did not release annual figures for October.

A 12-basis-point rise in the benchmark 10-year US Treasury yield takes it back to 5.00%, alongside a 0.68% gain in the US Dollar Index (DXY) to roughly 102.38.

The Fed requires “at least two more 25-basis-point (bps) rate increases”, according to Dallas Fed President Lorie Logan, who added that it “may be possible to move more rapidly this winter.” In her assessment, the policy rate remains at least 50 basis points short of a modestly restrictive level. She also highlighted inflationary pressures extending beyond wartime disruptions to energy supplies.

A half-point rate increase in December may be necessary if October core CPI registers “around 0.3% or higher.” That was Fed Governor Christopher Waller’s assessment ahead of the release. According to the CME FedWatch Tool, traders now price in an 89.2% probability of a 25-bps increase, compared with a 10.8% probability of a 50-bps increase.

Pressure on the Japanese Yen persists as US yields rise and the US Dollar strengthens. By contrast, the Bank of Japan (BoJ), whose policy rate stands at 1.25%, continues to raise rates gradually. Japan’s 10-year government bond yield is around 2.17%, some 283 basis points below the equivalent US yield. The possibility of additional Fed rate increases could sustain the wide interest-rate differential between the US and Japan.

Remarks by Fed officials and producer price releases from Japan on Thursday and the US on Friday will draw the attention of USD/JPY traders, as Japan’s economic calendar is relatively light for the remainder of the week.