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Yen caught between Fed taper and risk evasion

Bloomberg

The yen is in a “tug of war” as a result of speculation the Federal Reserve will begin tapering stimulus this year, according to Takatoshi Kato, a former top currency official at the Finance Ministry.

“One of the main objectives of the Fed’s quantitative easing was to boost asset prices and encourage spending by providing ample liquidity, but we’re beginning to see some of the side effects,” Kato, 72, now president of the Japan Center for International Finance, said in a Tuesday interview in Tokyo.

Investors are pulling money from emerging markets as they seek to avoid risk, and they’re turning to the yen as a safe haven, he said. At the same time, the possibility of a reduction in the pace of the Fed’s bond buying is pushing up Treasury yields, and raising the appeal of the dollar.

Based on fundamentals, an exchange rate of ¥100 to the dollar is “just about right,” Kato said.

The yen reached a 4½-year low of 103.74 against the dollar on May 22, after tumbling 20 percent in the previous six months, the most among the 31 major currencies tracked by Bloomberg, as Japanese policymakers pursued unprecedented stimulus to end 15 years of deflation.

The yen tends to strengthen during periods of financial and economic turmoil because Japan isn’t reliant on foreign capital to fund its deficits.

Fed Chairman Ben S. Bernanke said June 19 that the central bank may begin tapering its bond purchases this year and end it in mid-2014.

The Fed has been buying $40 billion in mortgage-backed securities and $45 billion in U.S. government debt each month to put downward pressure on borrowing costs.

The yield on 10-year U.S. Treasuries touched 2.66 percent on June 24, the highest since August 2011. The same day, the MSCI Emerging Markets Index of stocks tumbled to the lowest in more than a year.

The Bank of Japan is buying more than ¥7 trillion ($71 billion) in bonds a month to try to achieve 2 percent annual inflation in two years.

“It’s a desirable goal, but it’s unclear how long it will take,” Kato said. “It could be said that if the inflation rate is stably positive, a big part of the goal has been accomplished.”