USD/JPY rose 0.3% to 133.72, as of this writing, bouncing back after dropping as low as 130.58 just over a week ago when the BoJ announced the loosening of the 10-year Japanese government bond yield policy band (more on JGB purchases below). That had prompted speculation that the central bank was set to tighten its ultra-loose monetary policy. Let’s weigh all the pros and cons.

As we all remember, initially in 2022, worldwide monetary tightening led to a massive run of Yen-weakness as the currency was routinely favored for carry trades as Japan is known for being one of the most bulk importers in the world, and as interest rates in the U.S., Europe or the UK were on the rise, that low-yielding Yen made for an ideal backdrop for carry.

But towards the end of 2022, the trend became less than apparent in Japan, and inflation started to run-higher. Justifiably, this is far away from the inflation spikes elsewhere, but with inflation at 40-year highs and the Bank of Japan still such an outlier in the global rates picture, the question remains for how much longer can they maintain that hampering policy?

The Bank of Japan also doubled down on Japanese Government Bonds (JGBs) purchases recently as part of its yield curve control (YCC) program to maintain loose monetary policy. The BoJ buys JGBs in scheduled and unscheduled operations. Unscheduled buys are sometimes referred to as 'emergency' bond buying. The Bank conducted an unscheduled operation on Wednesday and did so again Thursday. After buying on Thursday, December 29, morning the BoJ bought more later in the session raising eyebrows across the global FX community.

However, according to the views of policymakers in the minutes of the December meeting, the BoJ’s change in stance was aimed at the smooth functioning of the Japanese government bond market, not at changing the trajectory of policy.

This dilemma has hit the Japanese yen, particularly against the dollar, as a continuation of ultra-accommodative policy is still prevailing. However, losses have been limited given the holiday conditions as well as a lack of belief that the BoJ can maintain this stance long-term, especially as Japan's consumer inflation hit a four-decade high of 3.7% in November.

Now let’s talk about FX interventions, which are carried out under the authority of the Ministry of Finance (MOF). The BoJ conducts FX interventions on behalf of and at the instruction of the MOF. The Foreign Exchange Fund Special Account (FEFSA), which falls under the jurisdiction of the MOF, is used exactly for such interventions. Generally speaking, the MOF gives the BoJ specific instructions for FX intervention based on relevant market information provided by the BoJ.

Meanwhile, BoJ policymakers try to find more sophisticated approaches in tackling the yen issue. Thus, recently its Board members discussed a quite non-conventional approach that higher nationwide salaries could stop the potential risk of returning deflationary pressures. “Price rises are accelerating not just for goods but for services – there's a chance Japan’s inflationary momentum is heightening,” a member was quoted as saying in the central bank’s summary of opinions. There are market expectations that the BoJ could wind down its dovish Governor, Haruhiko Kuroda's massive stimulus when he retires in April. The bottom line is that we continue to envision BoJ being put between the rock and the hard place, and not much it is capable of doing in this respect.