The Japanese Yen has taken a nosedive, reaching its lowest point since late July 2024, as political uncertainty weighs heavily on investor sentiment. The recent Lower House General Election saw the ruling coalition – the Liberal Democratic Party (LDP) and its partner Komeito – lose its majority, triggering concerns about the direction of Japan’s fiscal and monetary policies. This unexpected outcome has fueled a sell-off in the yen, which has already weakened by 6.2% in October, putting it on track for its worst monthly drop since November 2016.
Analysts are pointing to the weakened political position of the ruling coalition as a key driver of the yen’s decline. Scotiabank notes that the election results have raised concerns about the shape and policy direction of the next government. Goldman Sachs analyst Tomohiro Ota suggests that the coalition’s loss of its majority could lead to calls for increased government spending, as some opposition parties advocate for fiscal expansion. However, Ota cautions that a major shift in fiscal and monetary policy is unlikely. Instead, he believes the ruling coalition’s “administrative power has inevitably become more fragile.”
The potential for increased fiscal expansion is a cause for concern for investors, who fear that it could further weaken the yen. BBVA’s chief strategist Alejandro Cuadrado points out that the political upheaval could also delay any monetary tightening by the Bank of Japan (BoJ). Investors fear that the delay in a potential BoJ rate hike could further diminish the yen’s appeal.
Adding to the pressure on the yen is the widening interest rate differential between U.S. and Japanese bonds. The yield gap between 10-year U.S. Treasuries and Japanese government bonds has expanded significantly, making the U.S. dollar more attractive to investors. This widening yield advantage is boosting yen-dollar carry trade strategies, further driving down the value of the Japanese currency.
While the Bank of Japan is scheduled to meet on Thursday, analysts do not expect any immediate policy changes. Luca Cigognini, a market strategist at Intesa Sanpaolo, emphasizes that the political situation could have a significant impact on the BoJ’s future decisions. “Forming a new government becomes more complicated, and the effects could also be seen on the BoJ, which may avoid tightening monetary policy in the future,” Cigognini notes.
However, ING analyst Chris Turner believes that a December rate hike remains possible. Turner advises investors to avoid chasing yen-dollar carry trade opportunities due to the volatility expected in the coming weeks, particularly due to the U.S. elections. “The market sees very little chance of a rate hike this week from the Bank of Japan,” Turner says. He adds that the political turbulence could lead to a more cautious approach from the BoJ. “With volatility likely to rise further into next week (exactly the wrong conditions for the carry trade), we do not favor chasing USD/JPY higher from these levels,” Turner concludes.
The Japanese Yen’s future trajectory remains uncertain, with a confluence of political and economic factors influencing its value. Investors are closely watching developments in both Japan and the U.S., as the yen continues to struggle against the backdrop of global economic headwinds.
