Official FX intervention can't save the Yen

A successful currency defense means letting interest rates rise and Japan can't do that

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I wrote yesterday’s post about how the weak Yen isn’t actually a currency story but instead a story about Japan’s massive public debt. That’s because the standard way to stabilize and strengthen a currency - allowing interest rates to rise - isn’t possible in Japan as this would send the government’s interest expense through the roof, causing a debt crisis. The status quo of using the Bank of Japan (BoJ) to cap long-term yields gives the appearance that all’s well in the bond market, but it really just shifts fiscal distress to the currency. The Yen promptly fell to a new low yesterday.

When the Yen falls through psychologically important levels - the $/JPY exchange rate yesterday went above 160, which is clearly such a level - there’s always chatter that the government will intervene. The fact that Japan keeps resorting to this is crazy because intervention has never worked - not even once - to stabilize the Yen over the medium-term. If anything, there’s a risk intervention may become counterproductive, because it signals a government in denial. My view is that the Yen will have to fall a lot more before the government starts doing the right things to stabilize the Yen.

The chart above shows my trade-weighted index for the Yen against its G10 peers where I use BoJ weights to aggregate everyone up. The Yen is now over two percent weaker than it was mid-2024 when Japan intervened heavily to stabilize the currency. It’s also quite a bit below where it was after the infamous rate check by the NY Fed ahead of the February election earlier this year. There’s a simple reason intervention never works, which is that it runs against the direction of monetary policy.

The chart above shows this. The black bars are intervention by the Ministry of Finance (MoF) to strengthen the Yen. The blue line is BoJ buying of government bonds, which caps long-term yields and puts depreciation pressure on the currency. It’s quite literally the case that the MoF and BoJ are cancelling each other out, so it’s no wonder that intervention never works over the medium-term. If Japan succumbs to intervention once again, this time will be no different. In fact, it’ll be a signal that the Yen has further to fall.