USD/JPY: Potential to soar towards 120 as the Fed embarks on its tightening cycle – ING

Japan has seen negative output gaps since 2008 and probably again in 2022 – justifying the more entrenched dovish positions of the Bank of Japan (BoJ). Economists at ING do favour largely dollar strength n during the Fed lift-off against the Japanese yen which will be more tolerant of higher inflation.

Mind the output gap

“While we do see energy correcting lower into next year (Brent to $75), US rates look firmly set to go higher and equities may well stay supported, if not repeating the strong gains of this year. This should keep USD/JPY supported near 115.00, with scope for a break towards 120 as the Fed embarks on its tightening cycle – potentially next summer.”

“USD/JPY is certainly a tale of two output gaps. The US economy is expected to run a 2% of GDP positive output gap next year. That means that the Fed may push to the front of the queue when it comes to tightening in the major economies. Despite recent growth, Japan’s economy is still expected to run a 1% negative output gap in 2022 – in other words pricing power is weak.”

“We suspect Japanese officials will not want to see USD/JPY trading sharply through 115 for the time being, but the combination of a turn in energy lower next spring and the Fed preparing for lift-off suggests 2Q22 could be the topside break-out period for USD/JPY.”