The yen rose on Wednesday on a rally in Japanese stocks after Prime Minister Takaichi’s election victory and bets on more fiscally responsible policies.
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The Japanese yen has erased about half of the gains from the historic U.S.-Japan intervention in less than two weeks, as the fundamental forces that had been pushing it to multi-decade lows are proving increasingly resilient to short-term measures.
Japan’s currency rose above $163 to $155 in the days following the intervention, but is now trading above $159.
Jesper Cole, specialist director at Monex Group, said: “The intervention has scared the market, but it hasn’t stopped the law of finance that money flows in the direction that gives the greatest returns…As long as the cost of money in Japan is lower than the returns overseas, the carry trade will be active again.”
Year-to-date yen performance
At the heart of the problem is the difference in returns between Japan and the U.S. Borrowing costs in Japan remain much lower than in the U.S. and other markets, prompting investors to borrow cheaply in yen and invest in high-yield assets, also known as the classic carry trade.
The backdrop has become even more severe as some of the macro forces supporting the dollar have recovered due to rising US bond yields and soaring oil prices, which are particularly problematic for Japan as an energy importing country.
He argues that the intervention succeeded in reducing speculative excess and increasing the risk for traders betting against the yen, even if the underlying yield advantage supporting the dollar was not eliminated.
It is easy to scare the market, and incentives and trust need to change to get the market to comply.
“The intervention was successful in resetting market sentiment and showed that policy coordination between Japan and the U.S. is unusually strong. What the intervention has not yet accomplished is to eliminate the yield advantage that underpins the dollar,” said Masahiko Lu, senior fixed income and currency strategist at State Street Global Advisors.
Yield differentials remain wide, with the benchmark 10-year US Treasury yield at 4.686% versus 2.846% on the 10-year Japanese government bond, leaving investors with a strong incentive to hold US Treasuries.
“The understanding is that we have succeeded in curbing speculation, but we have not yet succeeded in changing fundamentals,” Lu said.
For this reason, all eyes will be on the Bank of Japan, whose next monetary policy meeting is scheduled for September.
Monex’s Koll said the bigger shock for investors was not the intervention itself, but the Bank of Japan’s reluctance to tighten policy more aggressively, raising questions about whether concerns about the banking system and Japan’s large public debt burden were constraining policymakers.
Absent interest rates rising in Japan or yields falling in the U.S., investors still have an incentive to send money overseas.
John Wood, chief investment officer for Asia at Lombard Odier, said the intervention would likely have a “limited-term effect” and argued that the Bank of Japan may need to raise rates at least two more times to end the currency weakness.
yen headwind
But interest rates may only be part of the explanation.
Credit Agricole CIB says the more serious problem is the “asymmetry of investment power” between the two economies. Large-scale U.S. investments in artificial intelligence and other projects continue to attract capital, but Prime Minister Sanae Takaichi’s planned public-private investment push has not yet fully materialized.
“What is needed to correct the yen’s depreciation is not to raise interest rates, but to expand investment.”
This suggests that a sustained yen recovery will ultimately require Japanese assets themselves to become more attractive, encouraging domestic savings to stay at home rather than chasing profits overseas.
For now, intervention may serve more as a guardrail against accelerating yen depreciation than as a mechanism to reverse it.
State Street’s Mr. Lu said the 160 level has become a “political line in the sand,” meaning another rapid break above it could draw authorities back into the market.
“We do not exclude the possibility of other interventions, especially if movements become rapid or disorderly,” he said. “Eventually, intervention can buy time, but the heavy lifting will be done to normalize the Bank of Japan as early as September.”
The U.S. and Japanese governments are also seeking to strengthen their deterrence by emphasizing the U.S. Federal Reserve’s repo system for foreign and international monetary authorities. The repo facility could provide dollar liquidity against Treasury securities and reduce the need for Japan to sell its holdings of U.S. Treasuries to fund the intervention. Treasury Secretary Scott Bessent has signaled support for expanding the backstop.
So, while continuing to bet against the Yen is potentially more expensive, it does not eliminate the underlying trade.
“It’s easy to scare the market and get it to follow market needs, which changes incentives and trust,” Coll said.
