Decoding Japan’s Policy Stance and Unravelling Sterling Dynamics in 2023

JPY

As I delve into the intricacies of the Bank of Japan's recent decisions, it's evident that the BoJ has maintained its steadfast position, refraining from any end-of-year surprises. From my perspective, the global easing of yield pressures and the perceived inclination towards quicker "adjustment" cuts in the US create an environment where Japanese policymakers may find it easier to await the domestic data clarity they seek. Notably, the BoJ's policy statement retains an easing bias, signalling, in my view, that the market's anticipation of early-year action is overly aggressive, especially in the context of the prevalent disinflation narrative. This leads me to believe that there remains limited scope for substantial Yen appreciation.

Despite recent Yen appreciation driven by a duration rally, my optimism about stronger economic growth places constraints on the potential duration of this rally. In the larger context, the dovish shift from the Federal Open Market Committee (FOMC) has implications, but I am inclined to believe that it is less bullish for the Yen compared to more pro-cyclical currencies. Specifically, the Fed's pivot should contribute to improved market pricing for better growth outcomes, particularly with higher equities amid relatively stable rates, a scenario in which the Yen tends to depreciate against the Dollar.

While a less restrictive outlook from the Fed has prompted a recalibration of my view on USD/JPY, it's crucial to note that my macro-outlook does not paint a bullish picture for the Yen, considering its safe-haven status.

GBP

Turning our attention to the United Kingdom, the recent surprising dip in UK inflation figures for November has triggered market reactions, pulling forward expectations for the first cut to the May meeting and unsettling Sterling bulls. However, my assessment suggests that this development should not cause undue concern. The ongoing global disinflation trends, coupled with the shift in easing expectations across developed and emerging markets, particularly following the dovish Fed meeting, underscore a broader context.

In my view, the real risk to a positive Sterling outlook was the potential for the Bank of England to align itself with these global trends, even if domestic inflation indicators did not warrant such a move. The fact that UK inflation is aligning with that of other major economies is, in my perspective, a positive development. It signifies that the Bank of England is less likely to be a dovish outlier in the current economic landscape.

Crucially, as I've detailed in recent discussions, the British Pound is a unique currency that tends to thrive in an environment characterized by moderating rate volatility and buoyant equity prices. This perspective leads me to believe that Sterling has more room for appreciation as the Federal Reserve eases its grip on financial conditions, reinforcing the case for a soft landing. Additionally, with an impending election on the horizon, any fiscal headroom created by lower borrowing costs is likely to translate into fiscal support, bolstering the economy and mitigating the risk of a recession.

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