USD/JPY Fundamental Daily Forecast – Despite Soaring Inflation Ueda Sees Need to Maintain Ultra-Low Rates

The Dollar/Yen is edging higher in a volatile session on Friday after Japan’s consumer inflation hit a 41-year high, keeping the pressure on the Bank of Japan (BOJ) to implement a less-dovish strategy. Meanwhile, the incoming BOJ chief called for the need to keep ultra-low rates with his comments coming as a surprise to some.

At 09:07 GMT, the USD/JPY is trading 135.157, up 0.475 or +0.35%. On Thursday, the Invesco CurrencyShares Japanese Yen Trust ETF (FXY) settled at $69.20, up $0.15 or +0.22%.

Consumer Inflation Hits 41-Year High

Japan’s core consumer inflation hit a fresh 41-year high in January as companies passed on higher costs to households, data showed on Friday, keeping the central bank under pressure to phase out its massive stimulus program, Reuters reported.

The nationwide core consumer price index (CPI), which excludes volatile fresh food but includes energy costs, was 4.2% higher in January than a year earlier, matching a median market forecast and accelerating from a 4.0% annual gain in December.

Core consumer inflation has now exceeded the Bank of Japan’s 2% target for nine straight months, most reflecting persistent rises in fuel and raw material costs, the data showed.

“Inflation will probably peak in January but may not fall back below the BOJ’s 2% target for some time,” said Yoshimasa Maruyama, chief economist at SMBC Nikko Securities.

“But there are questions as to whether the rise in inflation will be sustainable, as it is still driven largely by food and fuel costs,” he said.

Incoming BOJ Chief Kazuo Ueda Faces Challenges

With the markets betting strong inflation will force the BOJ to raise interest rates, incoming Governor Ueda faces several challenges in sustaining the central bank’s yield control policy.

Speaking in parliament, Ueda said the BOJ must maintain ultra-low rates as the recent acceleration in inflation is driven largely by rising raw import costs, rather than strong demand.

“Japan’s trend inflation is likely to rise gradually. But it will take some time for inflation to sustainably and stably achieve the BOJ’s 2% target,” he told a lower house confirmation hearing on Friday.

Short-Term Outlook

The whip-saw action on Friday suggests the USD/JPY is starting another period of heightened volatility. Prices fell initially after the CPI report was released, suggesting traders were betting on Ueda to make a hawkish comment. Instead, he delivered surprisingly less-hawkish remarks, triggering a short-covering rally in the Forex pair.

Technically, the intraday momentum is threatening to breakout over Thursday’s minor top at 135.227. The move could launch an acceleration to the upside since there is no major resistance until 138.173.

Looking ahead, policymakers are facing a huge dilemma due to the soaring inflation. They have to figures out a way to bring it down at a time when households are facing soaring prices of fuel and daily necessities.

The problem seems to hinge upon wages. With the cost of living rising and wages staying flat, households are under stress. However, if wages go up to meet the price rises, then inflation will also continue to soar.

The new BOJ governor may have to act quickly in breaking policy and raising interest rates or risk losing control over inflation. Perhaps it will take a spike higher in the USD/JPY to get him to move faster.