Fundamental Forecast for Japanese Yen: Neutral

- Japan’s Jobless Rate Unexpectedly Rises, Deflation Accelerates
- Annual Exports Rise for Fifth Consecutive Month on Asian Demand

The Japanese Yen soared to the highest in 15 months last week as intense risk aversion fueled by lingering concerns about the European sovereign debt fiasco encouraged trades to liquidate carry trades funded cheaply in the low-yielding currency. A pull-back may be ahead if US labor market figures prove to bolster confidence in the week ahead.

The coming week promises to be a decisive one for risk sentiment across financial markets. Friday’s downgrade of Spain’s credit rating by Fitch on the grounds that the country’s debt burden will bring higher borrowing costs and undermine growth underscores the global implications of the EU fiasco for the global recovery at large. Taken together, the European Union amounts to the world’s largest economy; if fiscally responsible EU members take it upon themselves to bail out the spendthrift ones (as is apparently the case), they too will accumulate a large amount of debt, the financing of which will indeed drive bond yields higher and weigh on growth across the region. With Europe thereby tethered and China actively pushing to slow its buoyant economy amid fears of asset bubbles and runaway inflation, this leaves the United States as the sole significant engine of growth left to drive the global recovery.

On balance, this puts the onus on the considerably busy US data docket, with natural emphasis on the Friday release of May’s labor market figures. Expectations call for nonfarm payrolls to rise 508,000 – the largest increase in nearly thirteen years – while the unemployment rate declines to 9.8 percent. If this proves to reassure the markets that a firming US economy can shoulder the burden of dragging the world along the path to recovery even as China and EU put on the brakes, the Japanese Yen is likely to sell off as carry trades advance along with a broad rebound in risky assets.

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