Reason for the Dollarized Strength of the Japanese Yen
The Japanese yen, once a symbol of economic strength, has been experiencing a period of weakness despite a more promising economy than in the past. This unexpected trend has caught the attention of analysts and policymakers alike.
In contrast to many parts of the world, interest rates in Japan have remained effectively zero, while 10-year government bond yields are just over 1%. This is in stark contrast to the rapid rise in interest rates observed in many regions since 2022.
The yen's current weakness is not solely explained by interest-rate differentials. The continued weakness of the yen is pushing up import costs and potentially creating instability for businesses and the financial system.
One of the key factors contributing to the yen's weakness is the Plaza Accord agreement, a result of a prolonged period of dollar strength and growing US trade deficit tensions. This agreement, reached in 1985, aimed to address the imbalance by depreciating the US dollar and appreciating the yen.
Interventions to weaken the yen have been undertaken by the Japanese Ministry of Finance and the U.S. Treasury, coordinated between Japan and the United States. Notable interventions occurred in 2022 and 2024, with the actions reaffirmed in a joint statement in September 2025.
Despite these interventions, the Bank of Japan has been selling currency reserves and buying yen in an attempt to influence the market. However, these efforts have had little impact on the longer-term trend.
Surprisingly, the yen's weakness was expected to stabilize and rise. The yen today is weaker than it was before the global financial crisis, both in nominal terms and after adjusting for inflation. However, it is not expected to return to where it was three years ago. Instead, it is expected to strengthen eventually, especially if the Bank of Japan starts raising rates.
This weakness of the yen could create more harm than benefits. It has the potential to destabilize the economy, particularly as it pushes up import costs. However, some argue that a healthy turnaround in the Japanese market needed to be accompanied by a reversal in the oppressively strong yen.
Evidence of a turnaround in the Japanese market has emerged as the currency weakens. Japanese firms are growing exports and investing more overseas, a sign of a revitalized economy. The yen, against the US dollar, has returned to levels last seen in the 1980s.
While forecasting currencies is even more perilous than most predictions, one thing is clear: the yen's current trajectory is a departure from its past strength. Whether this trend continues or reverses remains to be seen.
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