This historic yen depreciation phase, which has rapidly advanced since 2022, seems at last to be coming to an end. Although the dollar-yen exchange rate did see the yen depreciate on July 11 of this year in the overseas market to the level of 161.5-162.0 yen against the U.S. dollar, on August 5 it briefly changed course and appreciated to the 141-yen-level against the dollar. An appreciation of approximately 20 yen in less than a month constitutes quite a rapid correction to the currency’s downward trend. Following a short-lived appreciation of the yen last year and the year before, the dollar-yen exchange rate once again reversed course toward yen depreciation, but this latest change does not seem to be a temporary correction. That’s because Japan-U.S. monetary policy—which significantly affects the dollar-yen exchange rate—is undergoing a major change by finally moving in the opposite direction.

The government once again makes a foreign exchange intervention to buy yen and sell dollars

The Japanese government seems to have made a foreign exchange intervention on July 11 and 12 to buy yen and sell dollars. Subsequently, the Ministry of Finance announced that it had made interventions on the scale of 5.5 trillion yen between June 27 and July 29. The government had also carried out yen-buying, dollar-selling interventions on April 29 and May 1, the total amount of which came out to 9.8 trillion yen. While this latest round of interventions was smaller in scale than that, it had a relatively significant impact on the exchange market, and since July 11 this correction of the yen’s depreciation has broadly continued.
It’s difficult for currency interventions alone to change the flow of the exchange market but compounded with the Bank of Japan’s normalization of monetary policy and expectations of monetary easing in the U.S., these interventions have driven this currency correction along.

Bank of Japan scales back its JGB purchases and makes additional rate hike

At a Monetary Policy Meeting held on July 31, 2024, the Bank of Japan decided at the same time on implementing an additional rate hike and on a plan to scale back its JGB purchase amount. The announcement of this JGB purchase amount reduction plan had already been decided at the previous meeting in June, but the part about enacting an additional rate hike had suddenly become a topic of speculation just before the latest meeting.
The policy interest rate, which is the Bank’s target interest rate for the uncollateralized overnight call rate, was raised from its previous range of 0 to 0.1% up to around 0.25%. Back in March when the Bank eliminated its negative interest rate policy, the short-term prime rate (which influences variable rates for housing loans as well as other rates) was not raised by major banks. This latest interest rate hike will raise the short-term prime rate, leading variable rates for housing loans and corporate lending rates to increase as well. This rate hike could well be regarded as the beginning of genuine interest rate increases.
It's possible that the timing of this additional rate hike was hastened by the depreciation of the yen, which was an unexpected development after the elimination of the negative interest rate policy in March. I think that underlying the Bank of Japan’s decision to raise interest rates in conjunction with its plan to scale down its JGB purchases, there might also have been the aim of taking a strong stance against the yen’s depreciation. This anti-depreciation posture taken by the Bank of Japan would seem to be in line with the government’s intentions as well.
When asked at a press conference following April’s Monetary Policy Meeting about the relationship between the yen’s depreciation and monetary policy, Governor Ueda explained that “a temporary rise in import prices from the yen’s depreciation will lead to sustainable price increases through wage growth, making it more likely that the 2% price target will be achieved. In response, it may be appropriate to raise the policy interest rate.” This statement explained the situation in terms of so-called “good depreciation”, in which the weak yen aids the achievement of the Bank’s 2% price stability target, but at the most recent press conference in July, following the meeting at which it was decided to go through with a rate hike, the explanation was more nuanced, with Ueda stating that “There was a risk that price increases caused by the weak yen could spur on price trends toward the 2% price stability target faster than projected, and so we acted quickly.” Governor Ueda emphasized here that this was a response to so-called “bad depreciation”.
The likely reason for this major change in the Bank’s statements in such a short period of time is that Governor Ueda’s briefing at the April meeting was taken to be tolerant of the depreciation of the yen, which accelerated the yen’s downward slide. There were also news reports that the government—wary of the deleterious effects that the weak yen would have on personal consumption—had become more critical of the Bank of Japan.
This latest additional rate hike was presumably made based on this bitter experience that the Bank of Japan had to endure. While it’s possible that the yen’s depreciation pushed up the timing of the additional rate hike, it’s also conceivable that this rate hike was intended to rein in the yen’s downward spiral.
In fact, following the latest Monetary Policy Meeting, as well as Governor Ueda’s remarks at the press conference about implementing more such rate hikes going forward, the yen’s depreciation underwent even further correction.

Mounting speculation about monetary easing in the U.S.

Last year and the year before, when the dollar-yen exchange rate briefly saw the yen strengthen, only to then revert to a depreciation trend, one of the underlying factors involved was that an uptick in U.S. economic and price indicators led expectations of rate cuts (cuts to the federal funds rate) by the FRB (U.S. Federal Reserve Board) to be pushed back. However, it now seems that nothing will dissuade the FRB from making the rate cut in September of this year. Given the foregoing, we may well suppose that this time, we’ve entered a new phase in which the yen’s depreciation will be well and truly corrected.
What has made the FRB’s September rate cut all but certain to happen are the U.S. employment statistics from July, which were published on August 2. The July employment data showed that non-farm payrolls added 114,000 new jobs from the month prior, which fell short of the 175,000 new jobs that had been expected. In these employment statistics, the three major indices—employment, the unemployment rate, and wages—all suggested that labor market conditions were easing and that economic activity was slowing down. The employment data reflect the combined results from separately conducted business surveys and household surveys, in many cases the results being a mixture of stronger and weaker segments, and the key indices were aligned in a weaker direction, which gave the financial markets a stronger impression that the U.S. economy was cooling off. I would think that these were the first key indices we’ve seen to truly raise concerns about an economic recession.

Is the “weak yen, high stock price” cycle created by monetary easing about to reverse?

The yen’s historic depreciation trend was in some sense brought about by the disparity between Japanese and U.S. monetary policies. Yet it would seem that this is not simply a matter of the different standards or directions of Japanese and U.S. policy interest rates, but rather also has to do with how the Bank of Japan’s monetary policies up to now have heightened medium-to-long-term inflation forecasts (or inflation expectations), which in turn has propelled the yen’s depreciation.
In the U.S. and Europe as well as in other major countries, aggressive monetary tightening measures were taken to combat soaring prices, which served in a way to check medium-to-long-term inflation forecasts (inflation expectations). Yet the Bank of Japan has for a long-time tolerated price surges and the yen’s ongoing downward slide. That is because of the great emphasis it’s placed on the 2% price stability target. As a result, the medium-to-long-term inflation forecasts in Japan have ticked upward, but that will only serve to weaken the yen further. This is because high prices are the flip side of a decline in the currency’s value.
On the other hand, the depreciation of the yen drives up prices, thus raising medium-to-long-term inflation forecasts. If the Bank of Japan keeps interest rates low under such conditions, real interest rates (nominal interest rates minus medium-to-long-term inflation forecasts) will fall and monetary easing effects will intensify, bolstering the cycle of weak yen and high stock prices.
Thus, I believe one could say that as the depreciation of the yen, high prices, and monetary easing have worked together synergistically, stock prices have been pushed upward (diagram).
Recently, however, with the correction of this depreciation trend rapidly underway, the prices of Japanese stocks have been spiraling even further downward. On August 5, 2024, the Nikkei Stock Average experienced its most dramatic drop on record, and such developments briefly plunged the Japanese financial market into a panic. This could signify that the “weak yen, high stock price cycle” created by the Bank of Japan’s monetary easing has begun to reverse course. That trend is only being amplified further by concerns over the economic slowdown in the U.S.

Will the correction be a gradual one? Or will it be rapid?

A weak yen drives corporate earnings around the globe higher, and bolsters stock prices. Conversely, a weak yen also fuels fears of rising prices down the road, creating headwinds for personal consumption. In this way, the yen’s depreciation has led to the polarization of the Japanese economy.
As the depreciation of the yen goes through this correction process, individuals’ concerns over price increases will gradually begin to ease, and this can be expected to help personal consumption rebound from its current slump. A gradual correction to the yen’s depreciation would conceivably work in favor of the Japanese economy.
At this moment, I believe that the correction the depreciation trend is about to undergo under the Bank of Japan’s normalization of monetary policy will be a relatively gradual one. That’s because it will surely take time for the uptick in medium-to-long-term inflation forecasts (a major factor behind the depreciation of the yen) to be rectified. I think the main scenario here will involve a slow correction to the depreciation trend over several years to an equilibrium of around 110-120 yen against the U.S. dollar.
However, as we have seen even recently, if the yen were to continue to appreciate and stock prices were to drop at an even quicker pace, then the Japanese economy instead would likely suffer a major blow as corporate earnings rapidly deteriorate, stock prices take a nosedive, and negative wealth effects ensue.
While the mere normalization of monetary policy by the Bank of Japan would seem unlikely to bring about a rapid strong yen, low stock price scenario, that risk may emerge depending on conditions in the U.S. Such conditions would include the U.S. falling into a recession, or former President and Republican candidate Trump winning a second term in the November 2024 election and ushering in weak dollar policies, for instance. The sort of “wild cards” that would shake the Japanese financial market and economy would therefore seem to be found over in the U.S.