Core Focus: The signalling channel through which intervention affects markets, the importance of credibility, and the role of verbal intervention as a complement to actual operations.

In-Depth Notes:
The signalling channel is the primary mechanism through which sterilised interventions affect exchange rates. By intervening, the central bank signals its policy intentions and its assessment of the exchange rate’s deviation from fundamentals. This signalling effect can be highly potent, particularly when intervention is credible and when coordinated with other central banks.

The Signalling Mechanism:
Empirical research has found evidence supporting the signalling channel. Surprise sales of USD reserves by the Brazilian Central Bank result in an appreciation of the Real and an increase in domestic short-term interest rates, consistent with the signalling channel . The signalling effect is reinforced when the central bank’s intervention is unexpected and when it provides dollar liquidity, reducing the relative cost of borrowing dollars via FX forward and swap markets . The visibility of intervention tactics influences whether the market perceives the operation, regardless of official announcements .

The Role of Credibility:
The effectiveness of signalling depends on the central bank’s credibility. In the 2026 US-Japan intervention, Treasury Secretary Bessent said the US would “do whatever it takes to support them in a way that helps the American economy, the American taxpayer, stabilizes the global economy” . However, the credibility of such statements is constrained by the limited capacity of the ESF. Market participants noted that “the pockets are deep but not limitless” . The US can influence the narrative by coordinating with Japan on intervention, but cannot rewrite the fundamentals .

Verbal Intervention (Jawboning):
Clear, repeated jawboning can shift expectations, thin liquidity, and move price—sometimes paving the way for actual operations . Verbal intervention can be used to signal policy intent without deploying reserves. The key to effective verbal intervention is clarity and consistency. When the message is clear, it can shape market expectations and reduce the need for actual operations.

The Coordination Effect:
Coordinated intervention has a greater signalling impact than unilateral action. Joint interventions, such as the 2026 US-Japan operation, signal a broader consensus about the exchange rate’s misalignment and reduce the risk of conflicting policy actions. However, the market impact is often temporary. The July 2026 intervention, the first coordinated effort since 1998, lifted the yen near 155 before the retreat resumed, with the currency sliding past 159 per dollar as the rally was partially reversed .