06:52 AM EST, 01/28/2025 (MT Newswires) -- It has been a volatile start to the week for the yen (JPY), said MUFG.

After strengthening sharply on Monday driven by a pick-up in safe-haven demand triggered by the sharp sell-off in United States tech stocks, it has since largely reversed those gains, wrote the bank in a note to clients. At the start of this week, USD/JPY has traded within a wider range between 153.72 and 156.25 with the pair currently trading close to levels before last week's Bank of Japan policy meeting at around the 156.00 level.

MUFG believes that the BoJ's relatively hawkish policy update was supportive of a stronger yen. Governor Kazuo Ueda signaled that the central bank plans to raise rates further if the outlook for Japan's economy continues to evolve in line with its expectations.

The upgrade to the inflation outlook justified last week's rate hike, stated the bank. In response, MUFG is now expecting the BoJ to hike rates again in July but also flagged that there is a risk of an even earlier hike at the start of May when the next Outlook for Economic Activity and Prices report is released.

One potential complication for the timing of the BoJ's next rate hike is the upcoming Upper House election in Japan that is scheduled to take place on July 27 and could make the BoJ wary of tightening policy close on June 17 or July 31, added MUFG. The Japanese rate market is pricing in only an outside chance of an earlier hike in May or June and around 15bps of hikes by July.

The more challenging domestic political situation in Japan was highlighted overnight Monday by reports that Prime Minister Shigeru Ishiba's government risks rejection of its annual budget if it doesn't concede more ground to the Democratic Party for the People who are pushing for a calling on tax-free income to be lifted to 1.78 million yen and won't accept the ruling coalition government's current proposal.

Prime Minister Ishiba needs to secure passage of the annual budget to demonstrate he can run policy effectively with his minority coalition and shore up his leadership of the party ahead of the Upper House election. The ruling LDP and Komeito coalition government are also negotiating with the Japan Innovation Party who want to make school education free for all students.