How is the changing outlook for BoJ and Fed policies impacting USD/JPY?

Welcome to the MUFG Global Markets FX Week Ahead podcast with Lee Hardman, Senior Currency Analyst at MUFG. It's Friday the 15th of August 2025 and joining Lee to pose some questions on the financial market themes for the week ahead is Seiko Kataoka-Fisher, Director from Japanese Customer Sales in London. The following podcast is intended for professional investors and eligible counterparties only and not for retail clients.

Any content should not be regarded as an offer to conduct investment business or an investment recommendation, but for information purposes only. Hi Lee. Hi Seiko.

The release of the latest US inflation data over the past week has revealed a mixed picture. How has this impacted your outlook for the US dollar? Yeah, like you said Seiko, we've had the release this week of the latest CPI and PPI reports for the US for the month of July.

And like you say, that has certainly triggered some volatility in FX markets this week. But we don't think it's changed the kind of underlying trend for a weaker dollar in the near term. We still think that the Fed is likely to resume cutting rates at the next policy meeting in September.

I think their focus is going to be more now on the evidence we've seen earlier this month of the weakness in the labour market, which we think gives them more justification to resume rate cuts. So, I think that expectation for a 25 basis point rate cut in September is now almost fully priced into the US rate market and that's contributing to some renewed dollar weakness this month. Having said that though, like I said, the inflation reports over the past week have revealed a mixed picture for the Fed.

Yesterday's PPI report did show much bigger than expected pickup in producer price inflation, which kind of sends a cautionary signal not just to the Fed, but to the market that even though inflation so far that passed through from higher tariffs has been perhaps less than feared to consumer prices, there's still a risk as we go through the rest of this year that we will eventually start to see more signs that firms and businesses are passing on those higher tariffs to consumers in the form of higher prices. So, that's something which the Fed has indicated that they're obviously watching closely to see whether that materialises. But for now, at least, the CPI report released at the start of this week did show some reassurance that that pass through from higher tariffs is not coming through as much as feared.

And at the moment, it kind of leaves the door open there if the Fed wants to start to cut rates in September. The Japanese yen has outperformed this week. What have been the main drivers of yen strength?

Yeah, I think there's a couple of factors. Obviously, the external backdrop is turning a bit more supportive for the yen. Like I said, the market has moved to price in more rate cuts from the Fed after the weaker employment data from the US at the start of this month and that decline in US yields is continuing to have a negative impact on dollar yen.

We've seen dollar yen drop by almost five big figures now for a high at the start of this month. So, that's partly a reflection of those Fed rate cut expectations. At the same time, we've also seen expectations starting to build over the potential for the BOJ to be hiking rates again more quickly than the market had been anticipating.

The market now is pricing in closer to a 50-50 chance that the BOJ delivers another 25 basis point rate hike as early as the October policy meeting. So, there's been a couple of reasons why the market has moved to price in an earlier rate hike from the BOJ. Overnight, we did see the release of the latest GDP data from Japan and that report showed that Japan's economy in the second quarter and in the first half of this year as a whole proved more resilient than expected despite obviously the heightened uncertainty related mainly to trade policy that we've seen at the start of this year with growth, the economy expanding in the second and the first quarter more than the market had anticipated.

So, that's obviously good news for the BOJ. It kind of shows the economy is holding up better than feared. Obviously, they're still going to be watching closely over the next month or two to see whether that remains the case even though we have obviously had positive news recently with the recent trade deal between the US and Japan that has helped to reduce uncertainty and also should help to ease some of those downside risks to growth in Japan from trade disruption.

So, we do think those positive developments are clearing the way for the BOJ to consider resuming rate hikes. And then on top of that as well, we've also had some interesting comments this week from US Treasury Secretary Scott Vessant who made some unusual remarks on the need for the BOJ to continue to normalize policy arguing that the BOJ could be behind the curve in terms of fighting higher inflation. So, it is not usually normal to hear the US Treasury Secretary giving advice to the BOJ on what they should do in terms of setting monetary policy.

So, those comments have been interpreted as potentially a sign there that the Trump administration is also trying to put more pressure on Japan to normalize monetary policy, which would then obviously help to encourage the yen to strengthen from undervalued levels against the dollar. So, something to watch. Although at this stage, we wouldn't put too much emphasis on that potential intervention from the US into BOJ policy setting like we saw in the recent trade deal between the US and Japan that didn't really focus on FX policy.

So, it doesn't appear to be kind of a priority right now to address the exchange rate between the two countries, but certainly one to watch and kind of could add to downside risks for the dollar yen going into the autumn period where obviously if we did see a bigger divergence opening up between Fed and BOJ policy with the Fed cutting rates in September and then the BOJ hiking in October, that could begin to weigh more heavily on dollar yen. Thank you very much, Lee. Thank you.

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