The Story Behind Japan's Weak Yen

The yen has been on a historic slide, mainly because Japan’s central bank is keeping interest rates at rock-bottom levels while the Federal Reserve and other central banks have been on a hiking cycle. The downtrend persists even as the pace of inflation is now about the same in Japan as in the US. That’s partly because the Bank of Japan (BOJ) still thinks price growth has yet to get settled in the minds of consumers and businesses. The yen’s decline has both benefited and harmed the economy, businesses and consumers. Policymakers remain on guard to see if they need to curb its decline through currency intervention as they did in 2022.

Why is the yen so weak?

The yen has been the worst performer this year among major currencies against the US dollar, falling about 11 per cent.

That’s mainly because Japanese interest rates remain low to nurture inflation while the US and others have hiked them to cool price growth, making US dollar-denominated assets more attractive for investors.

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The BOJ loosened its grip on Japan’s 10-year government bond yields, but it keeps rates low to support the economy, which has contracted in the quarter through September. Yields on Treasuries remain relatively high as the Federal Reserve stands ready to hike rates more if needed to cool inflation and the economy.

Why doesn’t Japan raise rates?

BOJ governor Kazuo Ueda still does not have confidence that inflation will be anchored beyond the bank’s 2 per cent goal in the long term while being accompanied by sufficient wage gains, and so far the government has not declared an end to its long fight against deflation. 

Inflation has been above the target level for 19 months, but Ueda says it will come down as the impact of higher imports tapers off. He would like to see further evidence that inflation and wages will keep rising hand in hand.

What does the weak yen mean for the economy?

Generally, a weaker yen helps large Japanese companies with global operations because it increases the value of repatriated overseas profits. A weak currency can also help tourism by boosting the buying power of travellers from abroad. This year, visitor numbers and their spending have recovered to pre-pandemic levels.

On the downside, a soft yen makes imports of energy and food more expensive, hitting consumers whose pay cheques are not keeping up with the rise in living costs. Their ongoing angst has weakened public support for Prime Minister Fumio Kishida. The premier has put together another economic stimulus package to ease the pain of inflation, which in return prolongs the BOJ’s efforts to nurture inflation. This sets Japan apart from other major economies that have focused on monetary policy to curb price gains. 

What does that mean for Ueda?

Ueda is largely expected to keep interest rates unchanged for now. But expectations for a rate hike next year continue after he made small policy adjustments this year and explicitly said that currency moves are considered when deciding on policy.

The BOJ no longer keeps a tight cap on 10-year government bond yields and has been raising its economic forecasts. Still, it remains to be seen if the central bank can raise its policy rates when the economy is losing momentum and support for the premier remains low. The BOJ’s low rates help Kishida to increase public spending to support the economy. 

Could the government intervene?

The yen fell close to a level of 152 against the US dollar in November, just short of its historic low reached last year. Officials at Japan’s finance ministry, which is in charge of currency policy, have stepped up verbal warnings, but they have not taken direct action in the market.

Last year, they intervened multiple times to support the yen. US Treasury Secretary Janet Yellen said this year that any intervention by Japan to prop up the yen would be understandable if it were aimed at smoothing out volatility – not at affecting the level of the exchange rate.

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