USD/JPY trades higher as investors continue to bet on the US economy

• USD/JPY is rising on the back of a strengthening US Dollar as traders become more optimistic about the US economic outlook.
• US employment data due this week will be key in their assessments and will likely impact the pair.
• The Japanese Yen remains supported by a series of positive data and expectations that the BoJ will soon raise interest rates.

USD/JPY is rising modestly towards 146.90 on Monday as the US Dollar (USD) continues its recovery from late August lows, while the Japanese Yen (JPY) remains stable.

The US Dollar’s rebound gained momentum following the release of the US Personal Consumption Price Index (PCE) for July on Friday. The PCE is the Federal Reserve’s (Fed) preferred gauge of inflation. The data showed that US inflation was unchanged compared to the previous month and helped reassure investors that the US economy was probably not slowing as rapidly as some had feared. In a “soft landing” scenario, the US Dollar is likely to hold on to its strength better than if the economy slumps.

The USD/JPY could see its gains limited, however, as the JPY finds support on a string of strong data from Japan. Japanese companies’ capital spending expanded 7.4% in the second quarter, marking the 13th consecutive quarter of growth, data showed on Sunday. The Jibun manufacturing PMI, meanwhile, was revised up to 49.8 from 49.5 in August, moving closer to 50, above which would mark expansion.

Data released last week further increased the likelihood that the Bank of Japan (BoJ) will raise interest rates in the coming months, a move that would support the Japanese Yen by increasing foreign capital flows. Tokyo’s annual preliminary CPI excluding fresh food for July came in at 2.4% compared with 2.2% in the previous month and beating expectations of 2.2%, according to data from Japan’s Statistics Bureau on Thursday. The Tokyo data suggested that inflation across Japan could show a similar rise.

Japan’s employment data, however, was not as strong. The Japanese unemployment rate unexpectedly rose to 2.7% in July from 2.5% in June.

Analysts at Capital Economics, however, played down the rise in unemployment, saying “our conviction that the Bank (BoJ) will press ahead with another rate hike is growing.”

“The rise in the unemployment rate in July is a belated response to the weakness in economic activity at the beginning of the year,” said Marcel Thieliant, Head of Asia-Pacific at Capital Economics.

US employment data key for USD/JPY

Unlike the Yen, jobs data could be key for the Dollar, however, after Fed Chair Jerome Powell highlighted risks to the labor market in his keynote speech at Jackson Hole. Powell said the risks to the labor market now outweigh the risks of high inflation.

A raft of US employment metrics will be released next week that will provide further details on the US labour market situation. These include ADP Employment Change, Initial and Continuing Jobless Claims, and the main event – ​​the US Bureau of Labor Statistics Nonfarm Payrolls (NFP) report for August, due out on Friday.

If the US jobs data paints a negative picture of the US labor market, it could trigger a sell-off in USD/JPY as the Dollar weakens as traders price in deeper interest rate cuts from the Fed.

Currently, the odds of the Fed making a large 0.50% cut at its September 18 meeting are still only 30%, with a 0.25% cut fully priced in, however, weak employment data could increase the odds of a larger cut with negative effects on USD pairs.