Yen Reversal Threatens Global Markets and US Treasury Yields

Japan's struggle to stabilize its currency has significant implications for global markets. Despite repeated interventions, the yen remains weak, and each effort only provides temporary relief.

The US Treasury Secretary, Scott Bessent, discussed expanding a Federal Reserve facility that could allow Japan to raise dollars without selling Treasuries, connecting Japan's exchange-rate problem with U.S. funding markets and global financial stability.

Japan is the largest foreign holder of U.S. government debt, making changes in Japanese capital flows relevant for the US bond market. The yen was exceptionally strong during the 2011 global financial crisis and European sovereign-debt crisis but shifted from 2012-2013 with Abenomics and the BOJ's Quantitative and Qualitative Monetary Easing (QQE), which pushed Japanese yields lower.

The BOJ introduced negative rates in January 2016, initially weakening then appreciating the yen as global risk aversion and falling US rate expectations overwhelmed further Japanese easing. The same mechanism became stronger after 2022 when aggressive Fed tightening widened the U.S.-Japan rate differential while the BOJ suppressed domestic yields.

A weaker exchange rate raises the domestic cost of imports, reinforcing inflationary pressure already facing households. Japan depends heavily on imported fuel, and the energy shock triggered by the Iran conflict has worsened its terms of trade.