Washington and Tokyo’s unprecedented step to bolster the yen already appears to be unraveling.
On July 30, Japan’s finance ministry reportedly sold as much as $59 billion to buy the Japanese currency, then at 40-year-lows. Tokyo and Washington later confirmed they had acted together to bolster a weak yen. It was the first time they did so since 1998, and both U.S. Treasury Secretary Scott Bessent and Japan’s Finance Minister Satsuki Katayama pledged to do it again if needed.
The yen began the year at 156 to the dollar, before steadily weakening to 163 by late July. Post-intervention, the yen strengthened to 157 to the dollar, only to fall back to 159 by August 11, meaning the yen has already lost half of its post-intervention gains.
Economists point out that the U.S.-Japan intervention—as significant as it may be—doesn’t tackle the underlying reasons behind the yen’s weakness: a large gap between U.S. and Japanese interest rates, concern about fiscal profligacy on the part of Japan’s government, and the fact that better yields can be found elsewhere.
What happened?
The yen has been sliding since 2012, when it traded around 78 to the dollar.
Corporate Japan has long preferred a weaker currency, since it makes exports cheaper abroad. Yet that view has changed in recent years, as rising import costs start weighing on profits. A weaker currency also hits consumers, leading to cost-of-living concerns as food and energy prices spike.
“A weak yen does not necessarily mean all is well,” Mitsubishi Electric chief financial officer Kenichiro Fujimoto told Reuters last week.
Bank of Japan data suggest the Japanese government sold as much as $58.97 billion. The size of the U.S. action is unknown, yet a photograph of Bessent’s notepad at a Friday cabinet meeting read “Buy Japanese Yen (JPY) $5-10 bil.”
According to Reuters, the U.S. and Japan have discussed a joint intervention as early as January. Katayama, in her press conference announcing the intervention, noted that these conversations intensified after Bessent’s visit to Japan in May.
Interestingly, traders reported that the U.S. sold euros, rather than dollars, to fund its yen purchases, which analysts suggested was needed to limit disruption to the U.S. Treasury market, already under pressure from Federal Reserve chair Kevin Warsh’s rocky debut in late July.
The U.S.’ involvement to prop up the yen was likely due to a need to maintain “stable U.S. Treasury yields by limiting pressure from Japanese sales,” wrote David Meier, an economist at Julius Baer, on Monday. Japan is the largest foreign holder of U.S. Treasuries, totaling $1.2 trillion in holdings; if Tokyo had decided to sell Treasuries to fund its yen intervention, it would have piled more pressure onto an already-shaky bond market.
Will it work?
The traditional explanation for the persistently weak yen is the gap in interest rates between the U.S. and Japan. Even after successive Fed cuts and Bank of Japan hikes, the U.S. interest rate sits at 3.5%-3.75%, versus 1.0% in Japan.
The gap between the U.S. and Japanese interest rates fuels the yen “carry trade.” Investors borrow cheaply in yen and put the proceeds towards higher-yielding U.S. dollar assets–which, in turn, puts pressure on the yen.
Then there’s the fiscal picture. Prime Minister Sanae Takaichi has proposed a 370 trillion yen ($2.3 trillion) public-private investment blueprint running through fiscal 2040, with 102 trillion yen earmarked for AI and semiconductors alone. Takaichi has also proposed cutting the consumption tax on food, a move that would cost the treasury roughly 4.4 trillion yen in lost revenue. (These plans have proven controversial among Takaichi’s colleagues.)
Japan has some of the highest levels of debt in the developed world, with a debt-to-GDP ratio of more than 200%. A loosening of fiscal discipline may be spooking currency traders, leading them to ditch the yen.
Steve Hanke, a professor of applied economics at Johns Hopkins University, argues the conventional interest-rate story misses the real culprit. In a Fortune commentary co-authored with John Greenwood, Hanke contends that Japan’s broad money supply is growing at just 2.2% a year, far below the roughly 6% needed to hit the Bank of Japan’s 2% inflation target.
Slow money growth means weak nominal growth and low inflation, which in turn keeps interest rates and bond yields depressed—and the yen weak. “Monetary policy is all about changes in the money supply, not interest rates,” Hanke and Greenwood write, arguing that “investors and policy makers are once again barking up the wrong tree”.
Goldman Sachs’s Dominic Wilson and Kamakshya Trivedi wrote that the joint action would “buy some time” but that it is “unlikely to change the path of yen unless there is a change in the Japanese policy mix, or a material worsening in the global growth outlook.”
“The causes of yen weakness remain intact,” Meier, of Julius Baer, wrote, citing “an excessively loose monetary policy … with concerns about political influence amid fiscal expansion”.
This story was originally featured on Fortune.com
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