- USD/JPY drops to near 157.30 even though the US Dollar posts a fresh two-year high.
- Traders pare Fed dovish bets on the back of upbeat US NFP data for December.
- Deepening risk-aversion sentiment has improved the JPY’s safe-haven appeal.
The USD/JPY pair slumps to near 157.30 in Monday’s European session. The asset drops even though the US Dollar (USD) performs strongly, suggesting sheer strength in the Japanese Yen (JPY). The US Dollar Index (DXY), which tracks the Greenback’s value against six major currencies, refreshes a more-than-two-year high above 110.00.
The Greenback strengthens as market experts have revised down expectations for the number of interest rate cuts this year. Analysts at Macquarie expect the Fed to cut borrowing rates only once this year, with the current interest rate cycle bottoming in the range of 4.00%-4.25%. On the contrary, Fed officials collectively anticipated two interest rate cuts this year in the latest dot plot.
Market participants have dialed back Fed dovish bets after the release of Friday’s upbeat United States (US) Nonfarm Payrolls (NFP) data for December. The NFP report showed that labor demand remained robust, and unemployment decelerated unexpectedly.
This week, investors will focus on the US Consumer Price Index (CPI) data for December, which will be published on Wednesday. Market participants will pay close attention to the inflation data as Fed policymakers have lately shown concerns over a slowdown in the progress of inflationary pressures declining toward the central bank’s target of 2%.
Meanwhile, the safe-haven appeal of the Yen has strengthened amid global uncertainty. A sharp sell-off in equities globally has been observed amid risk-aversion mood with US President-elect Donald Trump returning to the White House on January 20.
Also, growing expectations of more interest rate hikes from the Bank of Japan (BoJ) have strengthened the Japanese currency. Traders expect the BoJ to raise its borrowing rates in the March meeting.
US Dollar FAQs
The US Dollar (USD) is the official currency of the United States of America, and the ‘de facto’ currency of a significant number of other countries where it is found in circulation alongside local notes. It is the most heavily traded currency in the world, accounting for over 88% of all global foreign exchange turnover, or an average of $6.6 trillion in transactions per day, according to data from 2022. Following the second world war, the USD took over from the British Pound as the world’s reserve currency. For most of its history, the US Dollar was backed by Gold, until the Bretton Woods Agreement in 1971 when the Gold Standard went away.
The most important single factor impacting on the value of the US Dollar is monetary policy, which is shaped by the Federal Reserve (Fed). The Fed has two mandates: to achieve price stability (control inflation) and foster full employment. Its primary tool to achieve these two goals is by adjusting interest rates. When prices are rising too quickly and inflation is above the Fed’s 2% target, the Fed will raise rates, which helps the USD value. When inflation falls below 2% or the Unemployment Rate is too high, the Fed may lower interest rates, which weighs on the Greenback.
In extreme situations, the Federal Reserve can also print more Dollars and enact quantitative easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system. It is a non-standard policy measure used when credit has dried up because banks will not lend to each other (out of the fear of counterparty default). It is a last resort when simply lowering interest rates is unlikely to achieve the necessary result. It was the Fed’s weapon of choice to combat the credit crunch that occurred during the Great Financial Crisis in 2008. It involves the Fed printing more Dollars and using them to buy US government bonds predominantly from financial institutions. QE usually leads to a weaker US Dollar.
Quantitative tightening (QT) is the reverse process whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal from the bonds it holds maturing in new purchases. It is usually positive for the US Dollar.
