Why Is the Yen, Amid a Wave of Interest Rate Hikes, Still Being Abandoned by the Market?

TradingKey - In traditional foreign exchange logic, rising interest rates typically enhance a currency's attractiveness. However, the yen's movement has shown a clear divergence. Despite mounting market expectations for a Japanese rate hike, the yen continues to weaken, USD/JPY (USDJPY) once again approaching the 160 level.

Recently, the gradual escalation of the situation in the Middle East has caused international oil prices to climb rapidly, with Brent crude briefly breaking above $100 per barrel. Rising energy prices are quickly being transmitted to inflation, forcing some central banks to re-evaluate their policy paths.

For Japan, the impact of rising energy prices is particularly pronounced. As a quintessential energy importer, Japan is highly dependent on overseas oil and natural gas. Rising oil prices mean increased import costs, which drive up domestic inflation, leading the market to bet that the Bank of Japan may further tighten monetary policy.

However, these rate hike expectations are largely "passive" in nature, stemming not from an overheating economy or expanding demand, but rather from imported inflationary pressures. This leaves the yen with relatively limited policy support.

Why is the US dollar strengthening even amidst expectations of rate cuts?

In stark contrast to Japan, the US market has already begun discussing a future rate-cutting cycle. Yet, despite these expectations, the dollar remains resilient.

The reason is that the market is focusing not on "whether there will be a cut," but on "whether the interest rate differential remains substantial." Even if US rates decline in the future, their absolute level is likely to remain significantly higher than Japan's. At the same time, US Treasury yields remain at relatively high levels, ensuring that dollar assets remain attractive in global capital allocation.

Furthermore, against the backdrop of geopolitical conflicts, the US dollar's safe-haven status as a global reserve currency has once again been highlighted. When market risks rise, capital tends to flow into dollar assets, further strengthening the greenback's performance.

Although the market is discussing a possible Japanese rate hike, Japan's interest rates remain in an extremely low range compared to those of the United States. Japan's long-standing ultra-loose monetary policy has made the yen a major funding currency for global carry trades.

In this environment, international investors often borrow yen to invest in high-yield assets to capture the interest rate spread. Such "carry trades" are particularly active during periods of high US interest rates and continue to exert downward pressure on the yen.

Even if Japan begins to raise rates gradually, as long as a significant interest rate differential persists, the structural trend of capital outflows from yen assets will be difficult to reverse quickly.

In summary, rising energy prices have driven imported inflation in Japan, but the scope for policy tightening resulting from such inflation is relatively limited. Meanwhile, the yield advantage of US assets and the dollar's safe-haven appeal continue to attract global capital.

As long as global capital continues to flow into dollar assets while Japanese interest rates remain significantly lower than those of major economies, it will be difficult for the yen to escape depreciation pressure in the short term.