Japan's Policy Signal Disappoints as Holiday Thins Liquidity, Raising Yen Downside Risk

The yen is likely to swing sharply and weaken further over the coming week. According to Sina Finance, Japan is heading into a three-day holiday, which will reduce market liquidity, while the Bank of Japan gave no clearer guidance on the pace of future rate hikes, disappointing investors. On Monday, the yen steadied near 156.86 per dollar. It fell as much as 1.3% on Friday after two Bank of Japan board members opposed a rate hike, and a later report that officials had called market participants to conduct a currency check only slightly narrowed the decline. The yen weakened more than 2% last week, its biggest weekly drop in nearly a year. James Reilly, senior market economist at Capital Economics, wrote in a report that the Bank of Japan has effectively halted the yen's recent momentum, and said a meaningful improvement in the yen's performance against the dollar would depend on U.S. factors. The reported currency check also highlighted the possibility that Japanese authorities could intervene again to stop further yen weakness. According to Sina Finance, any intervention could trigger rapid and sharp exchange-rate moves, and the holiday through Wednesday could amplify the effect because of thin liquidity. Similar conditions were seen during the Golden Week holiday from late April to early May, when Japan intervened after the yen fell below 160 per dollar.