The worst number of the Japanese summer was 164: yen to the American dollar, the weakest the currency had been in forty years. On July 31, the United States and Japan did something about it together. In massive coordinated purchases — the first joint action in defense of the yen since 1998 — the two governments bought the currency back up to 157. President Donald Trump described the operation as a gesture of friendship toward Japan, then offered a friendship with a footnote attached: “Japan’s been very good to us, with the exception, of course, of Pearl Harbor.”
Six weeks later came the second half of the arrangement. On Friday, September 18, the Bank of Japan raised its interest rate by 0.25 percentage points, to 1.25 per cent — a 31-year high that closed out decades of ultra-loose monetary policy. The increase had been announced in advance, but by the time it arrived the Federal Reserve had moved first: its own 0.25-point hike, announced September 16, left American rates in an average range of 3.87 per cent and widened, rather than narrowed, the gap between the two economies.
The move surprised almost no one. U.S. Treasury Secretary Scott Bessent had repeatedly and publicly advocated a stronger yen, while the BOJ’s governor, Kazuo Ueda, had expressed support for the increase. The stated objectives were to curb the depreciation of the Japanese currency and bring inflation under control.
Sayuri Shirai, a professor at Keio University in Tokyo who sat on the BOJ’s Policy Council from 2011 to 2016, describes an underlying tension: a central bank willing to raise rates to strengthen the yen, set against the government of Prime Minister Sanae Takaichi, which prefers low rates to support its expansionary fiscal policy. American pressure, she asserts, gave the bank its pretext. Until Bessent’s statements, she adds, “there was no clear direction.”
The risk of a devalued yen
Washington’s concern is mechanical, not sentimental. When the yen is too weak, Japan is forced to sell U.S. Treasuries to obtain physical dollars, which are then used to prop up its own currency; too big a difference between the two, and the fear of a massive sell-off becomes imminent. Shirai points to the nearly $1.2 trillion in Treasury bonds Japan holds: selling them to repatriate yen would increase the cost of American debt. Layered on top is Tokyo’s promise to invest $550 billion in the United States through 2029, made in exchange for lower tariffs on Japanese goods — a commitment that a weak yen renders shakier. Raising rates makes returns on Japanese assets more appealing to local and foreign investors, strengthening the yen and making dollar investment more feasible.
In an export economy dependent on imported materials, currency swings cut in both directions. For Toyota, a one-yen drop against the dollar increases operating profit by 50 billion yen, roughly $317 million, according to a study by the news agency Jiji Press — but the gross foreign-exchange gain is eaten into by dollar-denominated payments for steel, electronic components, lithium for batteries, freight and insurance.
Tsuyoshi Ueno, an analyst at the NLI Research Institute, reaches back over two decades of wage stagnation, during which the average Japanese citizen lost purchasing power while the country flooded with tourists whose spending power was multiplied by the weakened yen. Wages have begun to rise, he notes, but rapid depreciation keeps the pressure on households. “Japan is at a turning point,” he warns. The U.S. Treasury’s support, he argues, stems from Japan’s inability to curb the weakness despite repeated unilateral interventions since 2022: “It was necessary to send a stronger warning to speculators.” Whatever Bessent’s defense of American interests, Ueno suggests, “he may have created a sense of indebtedness and gratitude in Japan.”
The history hangs over everything. When the BOJ cut rates to zero in 1999, the yen became the favorite raw material of the carry trade — borrowing in yen to invest in higher-yielding assets elsewhere — fueling one of the largest speculative operations in the global financial system.
Ippei Fujiwara, a professor of macroeconomics at Keio University and the University of Tokyo who worked as a BOJ economist from 1993 to 2011, summarizes the joint intervention as an “alignment of interests” between the two countries. His own worry is fiscal: a national debt “whose ratio to GDP is 250%,” counting sovereign bonds and all government debt. Rate normalization, necessary against inflation, will raise debt-servicing costs and could bring unexpected increases in the sale of new Japanese government bonds. Who exactly bears that burden, he emphasizes, must be monitored — and the answer runs through demography.
Almost 90 per cent of Japan’s debt is held by Japanese citizens. But that financing has rested on the savings of baby boomers now around 75 years old, who — facing massive expenses for medicine and care — can no longer accumulate. In Fujiwara’s scenario, Japan will come to depend on less-predictable foreign investors to hold its bonds.
Rate hikes on the horizon
Ueno sketches the path forward: two further increases of 0.25 percentage points in 2027, one in January and one in July, taking the rate to 1.75 per cent. “There’s a slightly greater resolve when it comes to containing the yen’s depreciation,” he concludes. Shirai anticipates a similar pair of hikes, one in December of this year and another in March 2027.
She considers expectations of rates near 2 per cent unrealistic, for a household reason: more than 70 per cent of Japanese mortgages are variable-rate, reviewed every six months. Each step up arrives in the post.
Despite the pressure applied by Washington and by Takaichi, Shirai supports the monetary authority’s technical independence, though she fears the public may not feel the same way. The gap between Japanese and American rates still stands at around 2.6 percentage points. The friendship, whatever else it is, is currently priced in basis points.