Japanese Yen weakens despite BoJ hike as US Dollar remains firm

• USD/JPY gains 0.63% on Friday, driven by a sharp decline in the Japanese Yen.
• The Bank of Japan raised its policy rate by 25 basis points to 1.25%, its highest level in 31 years.
• Expectations of further US interest rate hikes support the US Dollar and Treasury yields.

USD/JPY advances sharply on Friday, trading around 156.95 at the time of writing, up 0.63% on the day. The pair has pulled back after reaching a daily high of 158.06 earlier in the day. The Japanese Yen (JPY) weakens significantly despite the Bank of Japan (BoJ) raising interest rates, while the US Dollar (USD) remains supported by expectations of further rate hikes from the Federal Reserve (Fed).

The BoJ raised its policy rate by 25 basis points (bps), from 1% to 1.25%, its highest level in 31 years, in line with market expectations. The decision was approved by a seven-to-two vote, with Toichiro Asada and Ayano Sato opposing the increase in borrowing costs.

The Japanese Yen's negative reaction may appear counterintuitive following another monetary policy tightening. However, with the rate hike largely priced in, investors are focusing primarily on signals regarding the future path of monetary policy.

BoJ Governor Kazuo Ueda reiterated that the central bank will continue to raise interest rates if developments in the economy and prices warrant further tightening. However, the BoJ also highlighted several sources of uncertainty, including tensions in the Middle East, developments in artificial intelligence-related demand and volatility in foreign exchange markets.

The latest inflation data also help limit expectations of more aggressive tightening. Japan's National Consumer Price Index (CPI) remained unchanged in August, while underlying inflation stood below the BoJ's 2% annual target. These figures temper expectations regarding the pace of future rate hikes and weigh on the Japanese Yen.

Meanwhile, the US Dollar benefits from a hawkish repricing of the US monetary policy outlook. The Fed raised its benchmark interest rate by 25 bps on Wednesday to a range of 3.75%-4%, delivering its first rate hike since 2023 as rising energy prices keep inflation risks elevated. According to the CME FedWatch tool, markets see about a 55% chance of another 25 bps increase at the October meeting, up from about 40% before the Fed meeting.

The shift in interest rate expectations also supports US Treasury yields. The benchmark 10-year yield rebounds to around 4.98%, approaching the 5.04% peak reached on Tuesday. Higher US yields reinforce the US Dollar's yield advantage over the Japanese Yen and contribute to the advance in USD/JPY.

Against this backdrop, the US Dollar Index (DXY), which tracks the Greenback against a basket of six major currencies, trades above 100.50, close to its highest level in seven weeks. The combination of a firm US Dollar and the Japanese Yen's disappointing reaction to the BoJ decision therefore keeps USD/JPY close to the 157.00 level.

USD/JPY technical analysis

In the one-hour chart, USD/JPY trades at 156.98. The pair holds above the 100-hour simple moving average (SMA) at 155.60 and the 200-hour SMA at 154.73, keeping the near-term bias bullish while Friday’s pullback looks more like consolidation after the recent spike towards 157.95. The Relative Strength Index (14) has eased back to around 51, hinting that overbought conditions seen earlier in the week have unwound, leaving room for another topside attempt if buyers defend the current region.

On the topside, the next key resistance sits at the horizontal barrier of 158.00, where fresh supply could emerge after this week’s highs just below that level. On the downside, initial intraday support is seen around the 156.98 area, with additional protection at the prior horizontal floor of 156.50. Below that, the 100-hour SMA at 155.60 and the nearby horizontal level at 155.50 form a secondary demand band, while the 200-hour SMA at 154.73 remains a deeper structural support that would need to hold to preserve the broader bullish tone.

(The technical analysis of this story was written with the help of an AI tool. Know more.)