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  • USD/JPY bulls looking for a meaningful upside correction.
  • Japan’s economy on the brink of recession, how long can yen hold on?
  • A sustained bullish correction on Wall Street should support the case for higher USD/JPY.
  • 110.08 marks the POC of the 19th Feb downtrend, an area of equilibrium and a 61.8% Fibonacci treatment target.

USD/JPY is currently trading at 107.35 within a range of 106.84 and 107.68, rising 0.26% on the day so far. The US dollar firms and US yields stabilise following a volatile post-emergency Federal Reserve rate cut the prior day. In response to the coronavirus, central bankers are either on standby to or have already taken initial action by easing rates.

The Reserve Bank of Australia cut rates by 25 basis points and this was followed by the Federal Reserve cutting by 50 basis points and the Bank of Canada also cutting by 50 basis points – the US dollar took the brunt of the moves in the FX space, dropping significantly as US yields fell to record lows. The Bank of Japan has, so far, sat on its hands. 

How many people have been affected?

In the latest data, as of 4 March, the global death toll is 3,190, while more than 93,000 people have been infected in more than 80 countries. In China, there have been 2,981 deaths, and there are 80,270 cases in all. South Korea, the nation worst hit by the outbreak outside China, has had 5,328 cases. However, more than 44,000 people in China have recovered from Covid-19 which just goes to show that there is a light at the end of the hospital corridors. 

Global economic impact

As far as the economic impact, however, which negative impacts are likely transitory, so long as the virus is contained, the initial shock to the system is dramatic. What started out as a supply chain shock for the global economy has morphed into a financial shock sending the world’s benchmarks into official correction territories during periods of extreme volatility not seen since the Global Financial Crisis of 2007-2009.

The adverse ramifications to local economies suffering from epidemics, or the sheer fear factor, crippling consumer activity, most likely through the service sector of the economy with travel, hotel accommodation, restaurants and leisure-related sectors looking vulnerable. In addition, the prospect of significantly weaker export is pointing to a negative second-quarter growth print for the global economy. The OECD issued downgraded growth forecasts in relation to the COVID-19 outbreak. Global growth for 2020 was lowered by -0.5% to 2.4% from 2.9%. Chinese growth was revised –0.8% to 4.9% for 2020, recovering to 6.5% (+0.9%) in 2021.

What about the yen?

As for the yen, it is really a question as to whether the financial markets will continue to support it in the face of a Japanese economy already n the brink of a recession. A sales-tax hike and destructive typhoon plunged Japan’s economy into its biggest contraction in five years in the final quarter of 2019. Now, the novel coronavirus outbreak is threatening a return to growth. Gross domestic product for the world’s third-biggest economy shrank an annualized 6.3% from a quarter earlier, according to data released by the Cabinet Office. 

This made for an exodus from the currency, even in the face of risk-off flows. USD/JPY spent a lifetime, relatively speaking, above the 111 handle before it finally caved in, which led observers to wonder whether the markets no longer regarded the yen for its safe-haven status. However, the yen bounced back in true safe haven spirits and form, taking the dollar down all the way to a low of 106.84 – a level not seen since last October 2019. The Fed cut could have been regarded as the final nail in the coffin, or could it? 

What we have to remember is that all central banks are on standby. The Fed has done a hefty 50 basis points. So long as the spread is contained and there are signs of local economies getting back to work, such as with China, it could give a reason for the Fed to pause as soon as the next meeting around, which is scheduled for later this month. This would allow time for the dollar to stabilise, for markets to get optimistic again, the yen to correlate with a positive correction in US equities and for there to be a stronger focus on the Bank of Japan, late to the party to act. While real GDP could rebound somewhat in January-March from the sharp negative growth in October-December, growth is likely to be sluggish, with the negative impact of the novel coronavirus having a negating effect.

The BoJ likes to promise to deliver only to then do nothing. We have seen that time and time again from the central bank as if talking the economy back to life is the only solution that they have left, other than cheap bank funding. It is hard to fathom Japan’s economy standing up to the various macroeconomic tail risks which likely means, once the negative shocks to the Japanese economy are unveiled again, the yen could weaken significantly as Japanese funds seek out offshore investment again – which is, again, supportive of a higher USD/JPY. 110.08 is the point of control of the 19th Feb downtrend, an area of equilibrium and a 61.8% Fibonacci treatment target, 

USD/JPY levels