Yen Rally Driven by BOJ Hopes, Not Intervention, But Sustainability Questioned

The Japanese yen's recent rally, which saw it gain approximately 3% against the U.S. dollar over two trading days, is likely driven by expectations of a more aggressive Bank of Japan rather than direct government intervention, according to analysis from Capital Economics.

Intervention Speculation Fades

The currency's sharp appreciation sparked speculation that Japan's Ministry of Finance had re-entered foreign exchange markets to support the yen, just over a month after a previous large-scale intervention. However, analysts note there is little evidence of a new official operation.

The current price action lacks the sharp, volatile swings typical of direct intervention. Instead, the move more closely resembles a "rate check," a practice where officials inquire about exchange rates, which can sometimes precede official currency purchases.

Hawkish BOJ Hopes Take Center Stage

Market focus has instead shifted toward the prospect of tighter monetary policy from the Bank of Japan (BOJ). Recent hawkish signals from BOJ officials have bolstered expectations for an interest rate hike as soon as September.

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According to Capital Economics, key drivers for the yen now include:

• Monetary Policy: Money markets are now pricing in a greater than 50% probability of two separate 25-basis-point rate increases by the end of the year.
• Portfolio Flows: Potential support for the yen could also come from reports that Japan's Government Pension Investment Fund (GPIF) may be shifting its portfolio allocation toward more domestic assets.

A Question of Sustainability

Despite these supportive factors, the durability of the yen's recovery remains in question. Capital Economics argues that while a combination of BOJ tightening and a GPIF portfolio shift could offer more lasting support than currency intervention—which has historically provided only temporary relief—significant headwinds remain.

The research firm points to the BOJ's history of disappointing hawkish market expectations and persistent concerns over Japan's fiscal outlook as key factors weighing on the currency. Based on these fundamentals, Capital Economics forecasts the USD/JPY pair will rise to 160 by the end of 2026. While the yen is considered significantly undervalued, a major, sustained turnaround is more likely "a 2027 story" than a near-term event, the firm concluded.