Yen Stages Sudden Reversal on G-7 Talk

USD/JPY pierced the 117.00 figure in early European trade today only to reverse the move completely and fall 100 points in less than two hours as comments from German Deputy Finance Minister Mirow suggested that recent yen weakness would be the topic of discussion at the G-7 meeting.

Clearly Euro-zone fiscal authorities are becoming uncomfortable with the notion of 150 EUR/JPY exchange rate. Although European exporters have yet to suffer any material damage from euro's record appreciation against the yen, the EZ finance and trade ministers are unlikely to stand idly by as the cross holds at near record highs for fear that complacency on their part may compromise the regions export driven economic recovery.

This problem will only become more aggravated if growth in US- EZ largest export market - decelerates further, forcing European exporters to seek more business in Asia. With ECB officials unlikely to waver in their hawkish stance on tightening the only solution to achieving a lower level in EUR/JPY will have to come from BOJ. The Europeans therefore are likely to pressure the Japanese to accelerate BOJ's own rate hike campaign.

Whether they succeed remains to be seen. Although real rates in Japan are negative while overall growth remains robust, the Japanese authorities remain haunted by the prospect of deflation which has plagued the country for more than a decade. To that end, they will not tighten monetary policy further unless they see clear unambiguous strength in consumer sentiment.

Tomorrow's Eco Watchers survey therefore looms large as a possible trigger for additional BOJ tightening. If this man in the street survey once again rises above the 50 boom/bust level, Japanese policy makers may be more amenable to rate adjustments. If not then the rally in the yen, could be short lived as carry traders will continue to control the order flow in the absence of any further tightening by BOJ.