The collapse of a currency is nothing to be trifled with. But the BOJ’s pussyfooted rate hikes & QT are too little too late.

By Wolf Richter for WOLF STREET.

The yen has declined to a new four-decade low against the US dollar, to ¥162.8 for $1 USD, not seen since 1986, amid speculation that the Ministry of Finance would step in again by selling dollars and buying yen, plowing even more of its exchange reserves into another futile effort to put a floor under the yen by market intervention.

According to its latest monthly reports, the MOF had already engineered a record market intervention of ¥11.735 trillion ($72.13 billion at today’s exchange rate) in the period from April 28 through May 27, which only briefly put a floor under the yen, before the yen skidded further.

Since the beginning of 2021, the yen has plunged by 37% against the US dollar. Since the beginning of 2012, it has collapsed by 53%. The collapse of the currency of a developed economy is nothing to be trifled with.

This type of collapse of the yen has led to a surge of the wrong kind of consumer price inflation, not stemming from rapidly growing demand and salaries, but stemming from soaring import prices of fuels, foods, and consumer products – despite massive government subsidies at the wholesale level to contain those effects.

And it has also entailed a massive spike of long-term yields of Japanese Government Bonds (JGBs), thereby raising the borrowing costs for the government.

The 30-year yield of JGBs has been in the 4% range for over a month, sometimes a little over, sometimes a little under. It currently is at 3.96%.

A year ago, the 30-year JGB yield started setting record levels in the life of the 30-year bond which was introduced in 1999.

The 10-year JGB yield rose to 2.70% currently. On May 26, it had gone over 2.70% for the first time since May 1997.

Over the period from mid-2016 through mid-2021, the 10-year JGB yield traded at slightly negative yields to slightly positive yields, and absurdity that the BOJ engineered with its Yield-Curve Control (YCC). And now it’s surprised that the yen has collapsed?

Given the collapse of the yen, and inflation in Japan, YCC is now totally off the table. To the stem the slide of the yen, the BOJ has been forced to do the opposite of YCC: Quantitative Tightening, which has contributed to surging long-term yields, and rate hikes. There is no easy exit for the BOJ. What is needed is much more QT and substantially higher policy rates.

Projections of debt issuance by the Japanese government over the next few years, including to fund rising interest costs, have been ratcheting higher. New investors in this paper – including Japanese households – may have to be enticed with even higher yields to wade into Japan’s fiscal morass.

Not that it has ever mattered, but Japan’s credit rating by Fitch (‘A’) is five notches below ‘AAA’ while S&P’s rating (‘A+’) and Moody’s rating (‘A1’) are four notches below their respective top ratings (my cheat sheet of bond credit ratings by rating agency).

The yen has a Bank of Japan problem: Decades of the most recklessly dovish central bank in the world with its zero and negative interest-rate policy and massive QE. All monetary sins ultimately lead to the currency.

To put a floor under the collapsing yen, the Bank of Japan began a couple of years ago in a pussyfooted manner to raise its policy rates in minuscule steps once every blue moon, to a whopping 1.0% currently, the highest in decades, which is a bad joke for a currency during inflationary times.

In addition, it started trimming its gigantic balance sheet, and through the quarter ended March has shed 12.6% of its total assets since the peak (the quarter through June balance sheet data will be released in a couple of days, so stay tuned here).

But these pussyfooted rate hikes and QT have been too little and too late to protect the yen.

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