China / Japan tensions rise again as equities fall

JPY: Limited JPY impact for now

Japan’s equity market has underperformed and reversed some of the positive gains at the start of the year following the announcement from China that it would implement export controls on goods that could have a military benefit for Japan. The Topix Index closed down 0.8% and the yen has gained modestly vs the dollar. The sharp drop in crude oil prices has had a limited impact on the yen despite reducing Japan’s energy import bill. President Trump announced that Venezuela would send 30-50bn barrels of oil to the US, sold at mkt prices and revenues used to benefit Venezuela but controlled by the US. The volume of oil is relatively modest but reinforces expectations that Trump will be pro-active in taking control of Venezuelan oil and bringing it to market quickly.

But the escalation of tensions between China and Japan will garner most attention in Japan and a continued deterioration in relations could be used by the BoJ as reason for caution in hiking rates again. The export control could include rare earths from China and and have an impact. China has also just announced an “anti-dumping” investigation into Japan’s exports to China of dichlorosilane, a component used in the production of semi-conductors. This further underlines the risk of a further escalation in tensions over the coming weeks. The risk of rare earths being included in the export controls could have a notable hit to the auto-sector in Japan.

Despite the modest decline in yields in the US, Germany and the UK and this latest China news and the drop in crude oil prices, the super-long end of the JGB curve remains under downward pressure with a further modest rise in yields. It’s clear that investors remains nervous ahead of a 30-year JGB auction tomorrow. Last year’s run of 30-year auctions were worst after Liberation Day and were mixed following that period although the 30-year auction in December was stronger and suggested that yields have reached levels that are helping draw investor demand. With 30-year yields at a record high, it could be enough to help investor appetite.

But sticky inflation, loose monetary policy and increased spending is an unfavourable mix and with the yen remaining at weak levels, the macro backdrop for bonds is not particularly positive. Under this backdrop, the yen is likely to continue to underperform. As well as the 30-year JGB auction, wage data released tonight will be another factor that could spark yen volatility. Wage growth is expected to moderate but remain at levels consistent with the BoJ achieving its price stability goal.

30-YEAR JGB YIELD CLOSED AT ANOTHER NEW RECORD HIGH ABOVE THE 3.50%-LEVEL – THIS COULD HELP TOMORROW’S AUCTION

Source: Bloomberg, Macrobond & MUFG GMR

USD: Will Miran remain isolated in 2026?

By Friday, we will have a clearer picture on the up-to-date health of the US labour market with the ADP employment print and JOLTS report today, followed by the Challenger Job Cut Announcements and claims data on Thursday and the NFP report on Friday. One aspect of our view of the Fed cutting more than currently priced this year and the dollar weakening is continued weakness in the labour market. So the data over the coming days will be important.

The consensus for NFP on Friday of 65k would imply close to stagnant labour growth if we assume the Fed’ estimate of roughly a 60k over-report in NFP is accurate and hence would be consistent with the need for continued monetary easing ahead. We would likely need a series of prints north of 100k in order to convince Fed officials that downside risks to the labour market have receded.

Fed Governor Miran is unlikely to be a Fed voting member to be swayed even if the jobs data on Friday is better than expected. He spoke yesterday and argued that the fed funds rate needs to be cut by over 100bps this year adding that policy is clearly restrictive and holding back the economy. His comments are predictable and hence lack impetus for moving the markets. The composition of the FOMC this week looks to us to leave the overall balance in voting broadly similar. The four incoming voting Presidents include two hawks (Hammack and Kashkari) replacing four Presidents that included two hawks (Schmid and Goolsbee). Miran has some support on the Board of Governors (Waller and Bowman) but the others are less likely to support such a view at this stage.

There are other factors that should also help extend this downturn for the dollar this year (monetary easing cycles abroad ending, bar BoE and Norges Bank for example) but there will also be US-policy related flashpoints that could serve to undermine the dollar. The Supreme Court has now confirmed that Friday will be an “opinion day” that could see the Supreme Court rule on the legality of using IEEPA to implement global reciprocal tariffs. However, it is not certain that we will get the ruling. Argument dates tend to be when rulings are made and those have been set for 12^th-14^th Jan and 20^th-21^st Jan. But given the importance of this ruling it may be announced Friday.

We lean toward the Supreme Court striking down the use of IEEPA which will trigger a bout of uncertainty for US companies once again. It’s highly likely the Trump administration has a Plan B ready to go – Section 122 for example would allow a 15% tariff for up to 150 days in order to protect the US from excessive trade balance of payments deficits. It’s unlikely that Plan B will be as all-encompassing and hence tariff revenue expectations would likely be downgraded, potentially steepening the US Treasury yield curve and potentially weakening the dollar. In any case, it adds renewed uncertainties for US companies that would be unhelpful for corporate sentiment.

SWING IN G10 POLICY RATE CHANGE EXPECTATIONS IN 2026 SUPPORTS WEAKER USD

Source: Bloomberg & MUFG Research; OIS rates as of 30th Sep and 31st Dec 2025

KEY RELEASES AND EVENTS

Source: Bloomberg & Investing.com