The Bank of Japan's recent monetary policy decision has heightened expectations of a potential increase in borrowing costs by the end of the second quarter, with the yen experiencing a surge and bitcoin facing downward pressure. The central bank opted to maintain its benchmark interest rate at 0.75%, although the decision was not unanimous, with three board members advocating for an immediate rate hike.
This 6-3 vote split marks the largest division since Kazuo Ueda assumed the role of governor, indicating a growing inclination among policymakers to raise borrowing costs. The bank also revised its forecast for core inflation to 2.8% for the current fiscal year and lowered its economic growth projections to 0.5% from 1%.
The primary driver behind the Bank of Japan's hawkish stance is largely attributed to the disruptions in energy flows through the Strait of Hormuz, which have led to increased global energy prices and subsequent inflationary pressures in energy-import-dependent economies like Japan. Traders have quickly factored in a 74% probability of a rate hike on June 16, aligning with the consensus among Bank of Japan observers who had anticipated a June hike prior to the decision. The Japanese yen has risen, causing the dollar-yen pair to decline by nearly 0.5% to 158.95, a notable move for a major currency. The bitcoin-yen pair listed on bitFlyer has also fallen by 0.6% to 12.28 million yen, consistent with the weakness in dollar-denominated prices.
Trends in the Japanese yen are closely monitored due to its historical role as a funding currency. Prolonged yen strength is often associated with risk aversion, as the Bank of Japan's extended period of ultra-low interest rates has encouraged traders to borrow in yen and invest in higher-yielding assets abroad. As a result, yen strength is often seen as triggering the unwinding of these carry trades.
The unwinding of yen-funded positions was widely cited as weighing on global risk assets in August 2024, when bitcoin fell from $65,000 to $50,000 over the course of a week. It is possible that growing expectations of a potential rate hike in June could renew concerns about another episode of yen carry trade unwind-driven global risk aversion.
However, the latest available data on market flows from February suggests otherwise, with Japan continuing to increase its holdings of U.S. Treasury notes, indicating that yen-funded carry trades remain active.