History

The Japanese yen has been the national currency of Japan dating back to its introduction in 1872. Yen banknotes were initially created in an attempt to modernise Japan’s currency, and their value was linked to the market value of gold. Upon the devaluation of the currency in the immediate post World War II era, the yen was “pegged” to the United States dollar and remained so until the dissolution of the Bretton Woods monetary system in 1971.

The early 1970s marked the beginning of the current monetary system in Japan. As the United States dollar ended its relationship with gold, the yen was allowed to become a “free floating” currency. In the truest sense, a free floating currency derives its value from the world’s currency markets. However, in the case of the yen, the Japanese government implemented a “dirty float” policy of currency management.

Essentially, what being under a dirty float policy entails is that the government and national banks of Japan focus on keeping the yen stable at artificially low levels. These low levels are advantageous to the huge export sector of the country’s economy and are fostered by national monetary policy.1)Retrieved 9 January 2016 https://www.fxcm.com/insights/japanese-yen/

Bank of Japan

The country’s central banking authority is the Bank of Japan, which was created under the Bank of Japan Act in 1882. It remains the entity commissioned with the management of the yen.2)Retrieved 10 January 2016 http://www.boj.or.jp/en/about/outline/history/index.htm/

The main objective of the Bank of Japan concerning the yen is maintaining the price stability of domestic goods and services. Unlike the central banks of most other economic powers, the Bank of Japan does not establish a “target inflation rate.” Instead the BOJ employs a “price stability target,” which directly addresses the issue of the pricing stability of
domestic goods and services. The BOJ takes a hard line against any undue inflation in consumer and producer pricing, and crafts monetary policy with the goal of ensuring price stability.3)Retrieved 6 April 2016 https://www.boj.or.jp/en/announcements/release_2013/k130122b.pdf

One of the major drivers of volatility concerning the yen is the monthly Bank of Japan Announcements. These are not given at a designated time (like other central banks). Instead, they are made as soon as the meeting bodies of the monetary policy board have concluded their business.4)Retrieved 10 January 2016 http://www.econoday.com/economic-calendar.aspx?link=http://global-premium.econoday.com/

The lack of a specific schedule for the announcements can throw short-term exchange rate volatility facing the yen into a chaotic state. Sentiment from the Bank of Japan concerning the tightening or loosening of monetary policy can swing yen valuations dramatically in a matter of seconds. The lack of a definitive schedule regarding the new release can cause market conditions to be extremely turbulent in anticipation of any information as it applies to the bank and monetary policy.

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Intraday Volatility

Several economic indicators can cause short-term exchange rate fluctuations concerning the yen upon their release to the public. Data reports such as the Consumer Price Index (CPI), Gross Domestic Product (GDP), Merchandise Trade, and Industrial Production can have dramatic pricing effects upon the yen immediately after they are released to the public. Unique to Japan is the release of its bank’s “Tankan” survey. The survey is considered to be the most complete report of Japan’s economic health and is released quarterly. It measures economic output as it pertains to capital expenditure on a sectorial basis.5)Retrieved 12 January 2016 http://www.econoday.com/economic-calendar.aspx?link=http://global-premium.econoday.com/

An individual release of the Tankan survey can be a good illustration of how intraday volatility concerning the yen’s foreign exchange rates can be immediately influenced. Due to the fact that the Tankan is released ahead of the quarterly GDP report, it can be seen as a leading indicator of GDP. In economically challenging periods for the nation’s economy, the survey can carry a tremendous amount of weight in the decision making of investors.

While past performance is no indication of future results, following the July 2, 2007 release of the Tankan survey, there was an immediate depreciation of the yen as it pertained to the United States dollar and euro, simultaneously. USD/JPY traded up immediately to 123.28 from a low of 123.15, while EUR/JPY spiked to near all-time highs at 166.75.6)Retrieved 10 January 2016 http://www.reuters.com/article/markets-forex-idUST27455120070702

During a time of uncertainty in the Japanese economy, the Tankan release attracted the attention of both long-term investors and short-term day traders attempting to gain perspective on the economic health of Japan. Upon the survey’s immediate digestion, volatility facing the yen increased. Ultimately, the yen was universally devalued against other major global currencies.

Fundamental Volatility Drivers

Japan imports 99% of its oil and a large percentage of its total energy. Not surprisingly, the yen can be extremely sensitive to commodity pricing.7)Retrieved 11 January 2016 http://www.investorwords.com/tips/759/japanese-yen-and-oil-prices.html A prime example of the yen’s volatility increasing on an intermediate term basis is the relationship that the exchange rates of the yen have in regards to crude oil pricing.

Japan’s dependence on fossil fuels as an energy source has increased dramatically in the years following the catastrophic Tohoku earthquake in 2011, subsequent tsunami and resulting nuclear reactor meltdown at Fukushima. Accordingly, the availability of cheaper crude oil has been welcome for Japan’s economic health. This dependence would suggest an inverse correlation between the yen and the pricing of crude oil futures. This means that the yen would logically be expected to increase in value if crude oil decreases in value.

As mentioned, past performance is no indication of future results, but on December 15, 2015, during an extended period which saw WTI crude oil futures slide from US$100 per barrel in August 2014 to US$50 per barrel in January 2015, the yen made big gains during a dramatic downturn in crude oil pricing. As crude oil plummeted 4% to a near five-year low, the yen gained 1.2% vs the US dollar, and .6% vs the euro.8)Retrieved 12 January 2016 http://www.bloomberg.com/news/articles/2014-12-15/yen-holds-gain-as-crude-oil-declines-aussie-near-four-year-low

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