The Real Reasons Behind the Weakness of the Japanese Yen

The Japanese yen (JPY) is experiencing a historic sell-off, and its index (JPY Index [JXY], measuring the strength of the JPY against a basket of currencies) is at multi-year lows.

This unprecedented weakness is not the result of a single factor, but is based on two powerful structural pillars. In addition, in recent weeks (October-November 2025), a third factor has come into play: speculative momentum that seems detached from traditional models.

Monetary Policy Drives Yen Sell-Off

The most frequently cited reason for the weakness of the JPY is divergence in monetary policy. However, the key factor here is the pace, not just the direction. It is a mistake to view the Bank of Japan (BoJ) as "ultra-dovish". The bank is in cautious normalisation mode. On the one hand, at its meeting on 30 October 2025, the BoJ kept its main interest rate at 0.50%, which the market interpreted as a "dovish" signal. Earlier, on 19 September 2025, the BoJ took a symbolic decision to start selling its holdings in ETFs, signalling an "exit strategy" (出口戦略, deguchi senryaku). While the BoJ is acting so cautiously, the US Federal Reserve (Fed) and other G10 banks are keeping interest rates at restrictive levels, in the US still around 4.75%-5.25%. This huge difference in interest rates (the so-called spread) makes holding JPY extremely unprofitable and drives the carry trade strategy. As a result, global investors are borrowing "cheap" JPY en masse, selling it immediately and using the proceeds to buy "expensive" currencies such as the USD. This creates constant, synthetic supply pressure on the yen.

Trade Deficit Weakens Yen

The second pillar, often overlooked by speculators, is equally important and non-financial in nature. It concerns Japan's chronic trade deficit (貿易収支の悪化, bōeki shūshi no akka). As a net importer of energy, food and raw materials, Japan faces a real cash flow problem. High global prices mean that Japanese importers must sell JPY and buy USD every working day to pay their foreign invoices. Unlike carry trade, which can reverse sharply, this is a constant, one-way pressure on the JPY to weaken, resulting directly from the real economy.

Speculation Fuel

In recent weeks, the yen has been losing value even as the yield spread between US and Japanese bonds has narrowed slightly. Japanese analysts refer to this as "weakness without reason" (理由なき円安, riyū naki en'yasu). This means that the market has entered a phase of momentum-driven speculation (投機主導, tōki shudō). The downward trend of the JPY has become so strong that it is attracting more speculators betting on the continuation of the movement, and Prime Minister Sanae Takaichi's administration, perceived as reluctant to raise interest rates quickly, is further encouraging such speculation.

Yen for the win?

The popular thesis that the yen has "lost its safe haven status" is inaccurate. This status has not been lost, but is suppressed by the dominant force of carry trade. Two types of risk should be distinguished. In the case of geopolitical risk, such as an oil price shock, the yen loses ground because higher energy prices exacerbate Japan's trade deficit. In the case of systemic risk, such as a global financial crash, the yen is likely to appreciate sharply. In a panic scenario, investors would close their risky carry trade positions en masse, which would require the repurchase of JPY. The rollback would trigger a sharp appreciation of the JPY.

Conclusions

As long as both pillars – the monetary policy rate differential and the structural trade deficit – remain intact, the fundamental path for the JPY remains negative. A reversal of the trend would require one of two scenarios: a shock from the BoJ, i.e. a sudden and aggressive series of rate hikes, which is currently unlikely, or a global shock in the form of a recession in the US and Europe, forcing the Fed and the ECB to make sharp rate cuts, which would destroy the attractiveness of carry trade.