As the U.S. Federal Reserve raised its benchmark interest rate for the first time in over three years and hinted at further increases this year, Japanese market experts assessed the decision as more hawkish than anticipated. The yen surged to around 156 yen per dollar, while the Tokyo stock market experienced a slight uptick, reflecting relief over the Fed's commitment to price stability, which reduced uncertainty.
The Fed adjusted its benchmark rate by 0.25 percentage points to a range of 3.75% to 4.00% during its Federal Open Market Committee (FOMC) meeting on September 16. Among the 18 policymakers who submitted rate projections, 16 anticipated at least one more increase this year. Takahide Kiuchi, chief economist at Nomura Research Institute, noted that while the Fed's rate hike and the expectation of another increase this year were within the expected range, the dot plot indicated the possibility of further hikes in 2027. He pointed out that since the Fed adopted the federal funds rate as its main policy rate in the 1990s, the only instance where a hike ended with just one increase was in 1997, suggesting that this decision could mark the beginning of multiple increases.
This outlook of consecutive rate hikes led to increased dollar buying and yen selling in the Tokyo foreign exchange market. According to the Nihon Keizai Shimbun (Nikkei) on September 17, the yen-dollar exchange rate reached 156.17 to 156.18 yen per dollar in early trading, up 1.20 yen from the previous day's close. The Nikkei reported that expectations of dollar purchases by Japanese importers also contributed to the rise in the exchange rate.
Takuya Kanda, a senior currency analyst at Foreign Exchange.com, commented that while the market had generally priced in the rate hike and the expectation of another increase this year, the dollar's stronger-than-expected rise might indicate that the market's expectations for rate hikes were not as strong as those in the futures market, or that short-term investors who had favored yen buying rapidly liquidated their positions. He suggested that the yen-dollar exchange rate, which has surpassed the key level of 155 yen, might indicate the end of the recent downward trend in the exchange rate.
The Tokyo stock market rose as the Fed's expected rate hike confirmed its commitment to controlling inflation, reducing the risk of needing to raise rates significantly later. On September 17, the Nikkei 225 index expanded its early gains to over 700 points but ultimately closed up 213.25 points (0.33%) at 64,136.25. More than 80% of stocks on the Tokyo Stock Exchange's prime market rose, although profit-taking in AI and semiconductor stocks limited the index's gains. Junpei Tanaka, head of investment strategy at Pictet Japan, noted that the Fed's unanimous confirmation of its tightening stance reduced uncertainty and avoided the risk of a sharp rise in long-term U.S. interest rates.
Market attention is now turning to Japan. The Bank of Japan (BOJ) is expected to raise its policy rate from 1.00% to 1.25% on September 18. However, Kanda analyzed that even if the BOJ raises rates and hints at further increases this year, the U.S.-Japan policy rate gap will not narrow.
Consequently, market participants believe that the Fed's actions have placed significant pressure on the BOJ. According to Reuters, Takeshi Ishida, a strategist at Kansai Mirai Bank, described the recent FOMC meeting as "hawkish, close to the upper end of expectations," and noted that the Fed's indication of future rate hikes has raised the stakes for Ueda's press conference.
Tokuhiro Wakabayashi, head of State Street Bank's Tokyo branch, suggested that the BOJ might proactively signal a shortening of its previously expected rate hike cycle, which was anticipated to occur once every six months. He stated that if the BOJ aligns its tightening stance with the Fed, the yen-dollar exchange rate could stabilize, but if it falls short of market expectations, the exchange rate could rise again. However, he added that the recent five-day surge in yen buying by investors has been the strongest in five years, potentially limiting the extent of any exchange rate increase.
As a result, the timing of the next rate hike and the ultimate target for the policy rate are now in focus. The Nikkei reported that the market is pricing in a nearly 90% probability of an additional hike by the December meeting, highlighting Ueda's press conference as a key moment for discussions on "accelerating rate hikes," "core inflation at 2%," and "neutral interest rates."
Among these, the first critical issue directly related to the timing of the next hike is how Ueda will explain the concept of "accelerating rate hikes." In a press conference at the end of July, Ueda mentioned the possibility of increasing the pace of hikes but avoided using the term "acceleration." While the BOJ views this upcoming hike as an acceleration after three months since June, the market interprets "acceleration" as a series of hikes at shorter intervals.
There are differing opinions among policymakers regarding the term "acceleration." Hajime Takata, a committee member, argued that given the shift of foreign central banks toward rate hikes, the BOJ should respond flexibly without being tied to specific intervals or magnitudes of increases. In contrast, Kazuyuki Masu stated that Ueda's comments in July were only intended for this hike and did not imply anything beyond that. The Nikkei noted that how Ueda addresses the differing views among committee members regarding the pace of future hikes will be a major focus of the press conference, and if he clarifies the market's misconceptions about "acceleration," expectations for further hikes could diminish, leading to a rise in the yen-dollar exchange rate.
Evaluations of core inflation and neutral interest rates will also provide clues about the potential for further hikes. Ueda stated after the G20 finance ministers and central bank governors meeting on September 1 that the core inflation rate, excluding temporary fluctuations, is "very close to 2%." The Nikkei suggested that since no indicators have emerged that would change this inflation assessment, it is likely that the existing language will be maintained. Therefore, if Ueda provides a more advanced assessment by stating that the inflation rate has "reached 2%" during this press conference, it could be interpreted as achieving the inflation target set by the government and the BOJ in 2013, potentially leading to a decline in the yen-dollar exchange rate.
The BOJ estimates the neutral interest rate (the level that neither overheats nor cools the economy) to be between 1.1% and 2.5%. If the policy rate is raised to 1.25%, it will begin to fall within this range. The Nikkei noted that if Ueda gives the impression that there is still a significant gap between the current policy rate and the neutral rate, the potential for further hikes could be highlighted, which may lower the yen-dollar exchange rate.
However, there are also forecasts suggesting that Ueda may find it challenging to provide sufficiently hawkish signals to meet market expectations. Daiju Aoki, chief investment officer for Japan at UBS Sumitomo Trust Wealth Management, predicted that due to greater uncertainty in the Japanese economy compared to the U.S., the BOJ may not adopt a hawkish stance like the Fed. Masashi Hashimoto, a senior researcher at the International Monetary Institute, also anticipated that while Ueda would make comments mindful of the exchange rate, he would not specify the timing of the next hike. If expectations for further hikes weaken, dollar buying and yen selling could strengthen again, and Aoki predicted that during Japan's Silver Week holiday from September 19 to 23, the yen-dollar exchange rate could rise to the 157 yen level.
* This article has been translated by AI.
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