Japanese yen falls despite all-time record in bonds

The yen ends the week as one of the weakest G10 currencies, losing nearly 0,2% against the dollar in response to inflation data that was in line with expectations. USD / JPY However, they seem to ignore the situation on the debt market and the risk of a potentially faster interest rate hike in the Land of the Rising Sun.

Today's inflation report shouldn't be a reason for overly optimistic expectations, but forex investors seem to be placing a high premium on the absence of negative surprises. CPI fell in July, as expected, to 3,1% from 3,3% in June, the same as for the inflation base excluding food prices.The devil, however, is in the details. The so-called "double-base reading," which excludes energy prices along with food, remained at its highest level in eighteen months (3,4%), and it is precisely this discrepancy that should inform the outlook for monetary policy.

The most significant source of price relief last month came from energy prices, which fell year-on-year for the first time since March 2024 (-0,3%). However, this decline is primarily due to base effects. At the beginning of last year, the Japanese government ended one of the energy subsidy programs that were supposed to help the Japanese survive the worst months of post-COVID inflation, thus generating a sharp increase in prices.Stabilization in subsequent months, in turn, translated into relief in today's reading. The trough in oil prices recorded in recent months also contributed to the deflation in energy prices.

Divergent monetary policies in Japan and the US

On the other hand, the main sources of inflationary pressure remain an unresolved problem that will sooner or later force Bank of Japan (BoJ) interest rate hike, which the market currently seems to be underestimating – the swap market is pricing the first full increase only in March 2026. Meanwhile, food price inflation remains a pressing issue. Rice prices have risen by 90% year-on-year in the past month, a rather inglorious decline after the 100% decline recorded the previous month.Longer-term risks are exacerbated by record-breaking heatwaves, which could translate into additional supply shortages. It's worth noting that price increases for such fundamental products should have the greatest impact on consumer expectations. Services inflation (1,5%) is also not holding back, and June's wage increase was the second-highest in 2025 (2,5%).

The yen's fundamentals remain clouded today by general sentiment in the dollar, which is gaining in the hours before Fed Chairman Jerome Powell's speech at the Jackson Hole Central Bank Symposium. If Powell comes across as too hawkish with specific references to the recent rise in core inflation or PPI and/or downplays massive NFP revisions, then the yen should continue to weaken despite local inflationary pressures.

In the longer term, however, monetary policy directions in Japan and the US remain divergent, which should support the yen with the prospect of further interest rate increases. The bond market seems to be preparing for this scenario, with yields on Japanese 30-year bonds reaching an all-time high of 3,23%.

At 11:30 a.m., 100 yen costs 2,47 zloty, 3,67 a dollar, 4,26 a euro, 4,54 a franc, and 4,93 a pound.

Source: Aleksander Jablonski, XTB