The Japanese yen has continued its decline over the past two months since the late-April intervention, pushing the Japanese government into an almost unsolvable policy predicament.
During early trading hours in the US on Monday, June 29, the yen fell to its lowest level against the US dollar since 1986, with the USD/JPY pair briefly rising to 161.97, breaking through the key defense line of 161.95. This level, 161.95, was precisely the entry point for the Japanese government's currency market intervention in July 2024.
To curb the yen's one-sided depreciation, Japan's Ministry of Finance conducted a record-scale foreign exchange intervention over approximately one month at the end of May this year, cumulatively deploying 11.73 trillion yen. By this Monday, the exchange rate support bought with roughly $72.5 billion by the Japanese government this year had been completely dismantled by the market.
Intervention Gains of 11.73 Trillion Wiped Out, Yen Nears Historic Threshold Again
From April 28 to May 27 this year, following the yen's initial breach of the 160 level, Japan's Ministry of Finance immediately launched an unprecedented foreign exchange intervention, cumulatively buying 11.73 trillion yen. The intervention effect was initially immediate—the yen rapidly rebounded against the dollar to around 155.
However, in just about a month, all those gains were completely erased. The yen has fallen back below the 160 level and, this Monday, further broke through the 2024 intervention low of 161.95, setting a new nearly 40-year low.
Looking back, this situation is yet another example of the Japanese government's repeated, yet ultimately unsuccessful, foreign exchange interventions. It has been noted that Japan restarted interventions in 2022 after a hiatus of over two decades and intervened again in 2024. Each instance provided only brief respite, after which the depreciation trend continued as expected. Behind the massive intervention costs lies the fact that the Japanese government used its holdings of foreign securities—including US Treasuries—to finance the intervention, a move that could also trigger ripple effects in the US Treasury and even global bond markets.
Andrew Hazlett, a foreign exchange trader at Monex Inc, stated that if the yen exchange rate does not correct quickly, "intervention is imminent." However, he also bluntly noted that intervention is "just a temporary fix, the fundamental problem is that the interest rate differential hasn't been resolved."
US-Japan Interest Rate Differential Drives Trend, Carry Trade Creates Sustained Selling Pressure
The core logic suppressing the yen remains the vast interest rate gap between the US and Japan. The Federal Reserve's federal funds target rate is currently maintained in the range of 3.50% to 3.75%. The new Fed Chair, Warsh, released a more hawkish policy signal following the monetary policy meeting earlier this month, leading the market to further raise expectations for a rate hike within the year.
Meanwhile, the Bank of Japan announced a 25 basis point rate hike to 1% on the 16th of this month, bringing the rate to its highest level since 1995. However, in the view of analysts, this magnitude is insufficient to shake up the interest rate differential structure between the two countries.
According to reports, analysts at LMAX Group pointed out that this Bank of Japan rate hike "does not offset the still substantial US-Japan interest rate differential, especially after the Fed maintained a hawkish stance, signaling that rates will remain high for a long time."
The existence of the interest rate differential provides fertile ground for carry trades: investors borrow low-cost yen, convert it to US dollars, and allocate it to high-yielding dollar assets, creating sustained selling pressure on the yen. Under this mechanism, even the Bank of Japan's rate hike measures provide almost negligible support for the yen exchange rate.
Bloomberg macro strategist Brendan Fagan stated bluntly: "Without official action, there is no reason for the yen's structural depreciation to stop on its own. Japan must enter the market again, or the direction of US real interest rates needs to change substantially."
Deep-Seated Contradiction Between Government and Central Bank
The policy dilemma facing the Japanese government extends far beyond the exchange rate itself. The persistent yen depreciation raises import costs. Soaring energy and food prices are eroding consumer purchasing power and threatening the public support for the cabinet of Prime Minister Hayashi. This pressure should logically prompt the government to support the central bank in raising interest rates to bolster the yen.
However, according to reports, the Japanese government is expected to call for "appropriate" monetary management by the central bank in its basic policy guidelines, which is widely interpreted by outsiders as a signal to discourage the central bank from further rate hikes. Behind this orientation lies a fiscal reality: Japan's government debt-to-GDP ratio is the highest among developed nations. A rapid rise in the policy rate would significantly increase national financing costs, creating a substantial fiscal burden.
Hawkish voices within the Bank of Japan have recently gained some traction. Policy board member Naoki Tamura recently called for rate hikes every few months to gradually move the policy rate toward a neutral level of 2%. Despite this, the market still widely expects that the Bank of Japan will, in practice, maintain a gradual rate hike path, with the next hike not expected until around the end of the year at the earliest. Thus, the tension between stabilizing the exchange rate and stabilizing public finances constitutes the deep-seated source of Tokyo's policy predicament.
Intervention Outlook: Limited Window, Effectiveness in Doubt
Against this backdrop, the market remains highly vigilant for another market intervention by the Japanese government. The online meeting this month between Finance Minister Kamikawa and US Treasury Secretary Bassett, along with their statements about taking "bold measures" if necessary, has been interpreted by the market as providing some political backing. However, analysts are cautious about the actual effectiveness of intervention.
Shaun Osborne, Chief Currency Strategist at Scotiabank, stated that the Bank of Japan is undoubtedly closely monitoring the situation. But observers generally point out that foreign exchange intervention alone can only provide short-term relief and is powerless to change the structurally driven trend fueled by interest rate differentials.
According to an analyst's judgment, based on IMF regulations related to free-floating exchange rate regimes, the frequency and scale of intervention are subject to certain constraints. Moreover, implementing intervention often requires selling US Treasuries first, and the financing process itself may trigger volatility in global bond markets, so authorities will act quite cautiously. The judgment is that it is necessary to first observe whether the area around 162 can trigger intervention. If not, the next key node is at 165.
Furthermore, analysis suggests that the optimal window for intervention effectiveness often occurs when the exchange rate is already in a "more undervalued" state—in other words, the deeper the fall, the higher the cost-effectiveness of intervention. However, before the US-Japan interest rate differential structure shows any substantial loosening, even if intervention successfully triggers a technical rebound in the yen, it would at best be a temporary, trading-level repair, making a confirmed trend reversal difficult.
As Andrew Hazlett said, intervention without solving the interest rate differential problem merely buys time; the next round of tests will inevitably come.
Comments