While Prime Minister Shinzo Abe piled pressure on the Bank ofJapan to weaken the yen last week, the Federal Reserve struck thefirst blow against the currency.

A signal from Fed board members that they may end bond purchasesin 2013 helped drive the yen to a 2½-year low of 88.41per dollar on Jan. 4, still 15 percent stronger than its decadeaverage. The extra yield on 10-year Treasuries instead ofsimilar-maturity Japanese government bonds reached 1.13 percentagepoints last week, the most in nine months, attracting funds intodollar assets.

“With a possible pickup in the U.S. economy, the dollar is morelikely to rise than the yen,” said Jun Kawakami, a market economistat Mizuho Securities Co., one of the 24 primary dealers obliged tobid at Japan's debt sales. “While there's a good chance that theFed will reduce bond purchases as early as this year, there isabsolutely no exit strategy in sight for the BOJ, creating acontrast between their policies.”

In a New Year's address, Abe reiterated his call for “bold”monetary easing by the BOJ, saying the most urgent issue for thenation is to end deflation and curb the yen. Two days later,minutes of a Dec. 11-12 Fed meeting led by Ben S. Bernanke showedseveral members advocated cutting the $85 billion monthly buying ofnotes this year as the economy expands at a moderate pace andunemployment declines.

The yen rose 0.3 percent to 87.87 per dollar as of 2:51 p.m. inTokyo today, after dropping past 88 on Jan. 4 for the first timesince July 2010. The currency has weakened from a postwar high of75.35 in October 2011, helping make Japanese- made products morecompetitive overseas and boosting the repatriated value ofexporters' earnings.

The depreciation of the yen is helping Panasonic Corp. compete,company chairman Fumio Ohtsubo told reporters in Tokyo today. Themanufacturer of Viera televisions wants a stable local currencythat's weaker than 90 per dollar, he said.

The ideal yen level would be 90 to 100 yen per dollar, HiroshiTomono, chairman of the Japan Iron and Steel Federation, toldreporters in Tokyo today.

The Topix Index of Japanese shares closed last week more than 20percent higher than its low in November, sapping demand for saferassets such as JGBs. It fell 0.8 percent today. Japan's 10-yearbond yield touched 0.84 percent today, the most since Aug. 21,compared with the 1.88 percent rate for similar-maturity U.S.Treasuries.

Currency's Value

The yen's actual value last year was 103.9 per dollar aftertaking into account differences in consumer prices between Japanand its trading partners, according to estimates from theOrganization for Economic Cooperation and Development.

No domestic company can generate a profit by making goods atsuch a disparity between costs and prices, Ryoji Musha, presidentof Musha Research Co. in Tokyo, wrote in a research note on Jan. 4about purchasing power and nominal yen rates.

The nation's Ministry of Finance is scheduled to sell 2.3trillion yen ($26 billion) of 10-year notes tomorrow, followed by a700 billion-yen auction of 30-year bonds on Jan. 10.

Five-year credit-default swaps that protect Japan's sovereigndebt from nonpayment dropped by a record 62 basis points last yearand were at 75 basis points on Jan. 4, according to CMA, a dataprovider owned by McGraw-Hill Cos. A decline signals improvedperceptions of creditworthiness.

Abe's Liberal Democratic Party, which won a landslide victory inlower house elections last month, is demanding a 2 percentinflation goal, twice the BOJ's current target. The LDP gives the“highest priority” to defeating deflation and yen strength and isaiming for 3 percent nominal economic growth, according the party'selection pledges posted on its website.

Japan's economy will probably expand 0.65 percent this year,compared with a 2 percent growth in the U.S., according to themedian estimates of economists surveyed by Bloomberg.

The Dollar Index, which tracks the greenback against thecurrencies of six major U.S trading partners, has fallen about 5percent since the Fed embarked on bond purchases in 2008. In thelatest round of so-called quantitative easing, the policy- settingFederal Open Market Committee announced last month it will buy $45billion of Treasuries a month on top of $40 billion purchases ofmortgage-backed debt.

A few FOMC members “expressed the view that ongoing assetpurchases would likely be warranted until about the end of 2013,”according to the minutes of last month's meeting released on Jan.3. “Several others thought that it would probably be appropriate toslow or to stop purchases well before the end of 2013.”

Japanese Finance Minister Taro Aso said on Dec. 28 that the U.S.should have a stronger dollar and that foreign countries “have noright to lecture us” on currency policy.

'Beyond 90'

“The dollar-yen rate will rise beyond 90,” said Yuji Kameoka,chief currency strategist at Daiwa Securities Co., Japan'ssecond-biggest brokerage. A full-fledged U.S. economic recoveryfrom about the second half of this year makes “an end toquantitative easing more likely, widening U.S.-Japan yieldspreads.”

The BOJ added 10 trillion yen last month to its 66 trillion-yenprogram for buying securities, including government debt maturingin three years or less. Yields on the short-term notes have allcollapsed to about 0.1 percent amid central-bank buying, which isintended to spur inflationary pressures and growth through lowborrowing costs.

Concern that inflation will diminish the value of fixed paymentsfrom bonds is more evident in the rates on longer-term securities.The extra yield investors demand to hold 30-year JGBs overthree-year notes rose to 1.9 percentage points on Jan. 4, the mostsince April 2011.

“As the BOJ buys more, yields will go lower on short- tomedium-term notes,” said Shogo Fujita, chief Japanese bondstrategist at Bank of America Merrill Lynch, a primary dealer. “Theyield curve will steepen as inflation expectations and growthprospects push longer rates higher.”

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