Forex Flash: USD/JPY outlook muddled given QE – Goldman Sachs

The JPY has weakened significantly since late September on the back of PM Abe’s rhetoric about the need to defeat the specter of deflation in Japan. This is reflected in a rapid build-up of short yen positions, which look notably stretched on the IMM data.” In order for the move in the yen to be sustained, we believe that the BoJ and the Japanese administration need to reinforce their rhetoric with firmer communication and forceful action.” writes the Economics Research Team at Goldman Sachs.

While the BoJ did adopt a 2% inflation target at the January meeting, the Bank did not commensurably increase its rate of easing and the decision was therefore viewed as a disappointment. It is also difficult to disentangle the effects on USD/JPY from the fact that both the BoJ and Federal Reserve are engaging in QE.

Historically we have argued that the most credible central bank will have the weakest currency. There are risks on both sides of our view. If the BoJ disappoints, the yen is likely to strengthen sharply, and if it is much more aggressive, the yen is likely to continue to weaken.