Japanese Yen edges higher vs weaker USD; bulls seem hesitant amid Iran risks

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USD/JPY remains depressed for the second straight day, though the downside seems limited.
Softer US CPI print tempers Fed hike bets, undermining the USD and weighing on spot prices.
Escalating US-Iran tensions support the USD, while the US-Japan rate gap should cap the JPY.

The USD/JPY pair struggles to capitalize on the previous day's late rebound from the vicinity of mid-161.00s, or the weekly low, and trades with a mild negative bias for the second straight day on Wednesday. Spot prices slip below the 162.00 mark during the Asian session, though the downside potential seems limited.

The US Dollar (USD) remains on the back foot as softer-than-expected US consumer inflation data, released on Tuesday, forced traders to scale back their expectations of Federal Reserve (Fed) rate hikes. Furthermore, looming intervention risks offer some support to the Japanese Yen (JPY) and turn out to be another factor capping the USD/JPY pair. However, escalating US-Iran tensions support the safe-haven USD, while economic risks stemming from the Middle East conflict hold back the JPY bulls from placing aggressive bets.

The US military launched another set of airstrikes against Iran on Tuesday, while Iran retaliated with attacks on US military assets in Gulf countries. Moreover, US President Donald Trump warned that the US would strike Iranian bridges and power plants unless Tehran returns to the negotiating table. This keeps the geopolitical risk premium in play and acts as a tailwind for the USD. Meanwhile, Japan's economy is highly vulnerable to energy supply disruptions in the Strait of Hormuz, which might continue to undermine the JPY.

Adding to this, the persistently wide interest rate differential between the US and Japan keeps the so-called carry trade active. This turns out to be another factor that contributes to keeping a lid on any meaningful appreciation for the JPY and warrants some caution before placing aggressive bearish bets on the USD/JPY pair. Traders now look to the release of the US Producer Price Index (PPI), which, along with Fed Chair Kevin Warsh's second day of congressional testimony, might influence the USD and provide some impetus.

Japanese Yen FAQs

What key factors drive the Japanese Yen?

The Japanese Yen (JPY) is one of the world’s most traded currencies. Its value is broadly determined by the performance of the Japanese economy, but more specifically by the Bank of Japan’s policy, the differential between Japanese and US bond yields, or risk sentiment among traders, among other factors.

How do the decisions of the Bank of Japan impact the Japanese Yen?

One of the Bank of Japan’s mandates is currency control, so its moves are key for the Yen. The BoJ has directly intervened in currency markets sometimes, generally to lower the value of the Yen, although it refrains from doing it often due to political concerns of its main trading partners. The BoJ ultra-loose monetary policy between 2013 and 2024 caused the Yen to depreciate against its main currency peers due to an increasing policy divergence between the Bank of Japan and other main central banks. More recently, the gradually unwinding of this ultra-loose policy has given some support to the Yen.

How does the differential between Japanese and US bond yields impact the Japanese Yen?

Over the last decade, the BoJ’s stance of sticking to ultra-loose monetary policy has led to a widening policy divergence with other central banks, particularly with the US Federal Reserve. This supported a widening of the differential between the 10-year US and Japanese bonds, which favored the US Dollar against the Japanese Yen. The BoJ decision in 2024 to gradually abandon the ultra-loose policy, coupled with interest-rate cuts in other major central banks, is narrowing this differential.

How does broader risk sentiment impact the Japanese Yen?

The Japanese Yen is often seen as a safe-haven investment. This means that in times of market stress, investors are more likely to put their money in the Japanese currency due to its supposed reliability and stability. Turbulent times are likely to strengthen the Yen’s value against other currencies seen as more risky to invest in.