Mr. Haruhiko Kuroda, governor of the Bank of Japan

The first question, perhaps, is why intervene at all? Intervention is unusual when currencies are weak, but this weakness seems to pose no real threat to inflation. Japan’s problem, in some senses, is that the yen is too competitive, particularly in inflation-adjusted terms, as the yen’s real effective exchange rate is the lowest since the early 1970s. But what irks policymakers more than the level of the yen is the volatility we’ve seen.

Officials acknowledge that a weak yen can be of more benefit than harm to the economy, but excessive volatility can undo this benefit if it makes firms uncertain. The quarterly Tankan survey, for instance, from June shows that firms generally thought the dollar/yen was likely to be around 120; instead, it is currently more than 20 yen above that level at well over 140.

If there is justification for action, how will the BoJ go about intervening and will it be successful? Mr. Steve Barrow, Head of Standard Bank G10 Strategy, said the three key factors for success in intervention are: surprise, non-sterilisation, and international support.

On the first, the BoJ has given the game away to some extent by continually bemoaning yen weakness and arguing that intervention is one possible response. As a result, while the market seems short of the yen, it is not excessively short. CFTC data, for instance, shows that non-commercial traders are around 58k contracts short of the yen against the dollar, or about USD3.7bn (which is about 10% of daily spot turnover using BIS data from 2019). The shorts have been cut in half since the spring as BoJ warnings increased. In the options market, risk reversals are bid for yen puts, but not excessively so given the slide in the currency.

In sum, it looks as if the shock factor in any intervention right now might be limit ed even if the BoJ has a big arsenal at its disposal in the shape of USD1.17tr of FX reserves. This being said, much also depends on the other two factors: sterilisation and international support. On the first, the difficulty the BoJ has in defending a weak currency is that it does not seem prepared to use monetary policy to bolster any intervention. Yen purchases will probably be sterilised so that they do not compromise the bank’s rate targets, especially its 0.0% target (with 25-bps bands) for 10-year JGBs. The lack of such monetary support for intervention could diminish its effect. Should the BoJ use intervention as a spur to tighten policy, perhaps by lifting the 10-year yield target, the impact could be substantial, but this seems unlikely.

"In terms of international support, we need to bear in mind that Japan is signed up to G7/G20 commitments to avoid both excessive volatility and competitive devaluation. On both counts, it seems that Japan certainly has a "right" to intervene, but whether this right would be backed up by intervention from others, particularly the US, seems uncertain and probably unlikely, at least in the eyes of the market", said Mr. Steve Barrow.

Overall, Mr. Steve Barrow argues that if Japanese policymakers want to lift the yen materially and over a period of time, they need to surprise the market, couple the action with tighter monetary policy, and get others involved, notably the US. It looks as if Japan is going to fail on all three counts. But would this really be a failure? We have to remember what Japan wants to achieve. It is not to generate a higher level for the yen, for, as policymakers have said, a weak yen is probably better than a strong yen. Instead, it is a reduction of one-sided volatility, and if intervention of the type we just described is impossible, but the action taken by the Japanese authorities still manages to dampen volatility through creating more two-way risk in the market, then they might just argue that such intervention can be successful.