• The Bank of Japan is likely to maintain the stimulus measures in September.
  • The BOJ to offer a bleak view on exports and output, LDP leadership vote in focus.
  • USD/JPY’s path of least resistance appears south but Fed holds the key.

The Bank of Japan (BOJ) is expected to offer little surprises when it concludes its two-day monetary policy review meeting on Wednesday, as Japan’s ruling party leadership race remains on the investors’ minds.

BOJ to stand pat on policy

Therefore, the BOJ’s status-quo on its monetary policy settings is unlikely to deter the yen bulls even though the central bank offers a darker view on exports and production.

According to Reuters, the BOJ is set to maintain its massive stimulus measures this week, as the factory closures caused by the Delta covid variant outbreaks in China, Japan and Australia have likely led to severe supply bottlenecks, hindering the country’s exports and output.

The Japanese central bank will keep the benchmark policy rate on hold at -10bps while maintaining its pledge to buy J-REITS at an annual pace of up to JPY180 bln.

Focus on LDP leadership race

Haruhiko Kuroda and company will remain in a wait-and-see mode heading into the Japanese ruling Liberal Democratic Party (LDP) leadership vote scheduled on September 29.

Although the ruling party’s race is unlikely to affect the BOJ’s short-term policy stance, it could alter the long-term policy, considering that all three candidates push for more fiscal support to stimulate the post-pandemic economic recovery. Kuroda said in the July review that current accommodative monetary policies are expected to complement the more expansive fiscal policy to come.

A stagnant economy, stimulus to remain

In July, the central bank downgraded the FY 2021/2022 growth outlook, suggesting that the risks to Japan’s economic outlook appear skewed to the downside for time being against the backdrop of high uncertainties over consequences of the State of Emergency imposed across the nation.

The latest manufacturing PMI dropped to 52.7 from the previous 53.0 while the services PMI contracted further to 42.9.  The latest core CPI in July, registered at -0.2% YoY, remains a distant dream from the BOJ’s price target of 2%.

Given the stagnant state of the economy, the BOJ is expected to reiterate its call to deliver more monetary policy support when needed. However, heading into the next quarter, the drop in covid cases and the lifting of the state of emergency under consideration may allow the central bank to hint at stimulus withdrawal. But again that’s a far cry, as the BOJ could remain accommodative for an extended period.

USD/JPY probable scenarios

In the lead-up to the BOJ decision, USD/JPY is licking its wounds around mid-109s after Monday sharp sell-off. The demand for the safe-haven yen spiked, as China’s Evergrande crisis spooked investors about a potential contagion and global economic slowdown.

The yen markets are playing on the defensive, at the moment, as the BOJ policy outcome precedes the FOMC decision, with a tapering announcement strongly priced-in by the markets. Therefore, the Fed’s tapering speculations and the broader market sentiment will likely have a much greater effect on USD/JPY, limiting its reaction to the BOJ announcement.

Technically, a bunch of healthy resistance levels is aligned on the four-hour chart, capping the recovery attempt in the currency pair. Alternatively, it looks like a free fall for USD/JPY should the selling pressure resume. The Relative Strength Index (RSI) points south below the central line, adding credence to a potential move lower. Therefore, the path of least resistance for the spot appears to the downside on the BOJ decision. Strong support near 109.10 could be retested while 109.90 is the level to beat for the bulls.  

USD/JPY four-hour chart

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