Japanese Yen Hits 40-Year Low Against U.S. Dollar

The Japanese yen has dropped to its lowest value in four decades compared to the U.S. dollar, causing concern among investors about potential responses from the Japanese government. Such actions could have broader implications for U.S. stocks, government bonds, and the global economy in general.

This significant decline in the yen, the lowest since 1986, appears to stem mainly from shifts in expectations regarding U.S. interest rates, influenced, perhaps, by the ongoing conflict in Iran. Consequently, the dollar has gotten stronger.

Earlier this year, the Japanese government attempted to bolster the yen, but those efforts didn’t stop its ongoing depreciation. Now, the currency remains at decades-long lows, and traders are preparing for new economic hurdles.

So, what’s taking place? Traders are anticipating that the U.S. Federal Reserve may keep interest rates steady or even lift them in an effort to counteract inflation triggered by the oil crisis related to the U.S.-Israeli actions against Iran.

This shift in the Fed’s approach has bolstered the dollar, applying more pressure on the yen and other currencies. The U.S. dollar index has increased by 3% this year, bouncing back after a 9% drop in 2025.

A senior currency economist at MUFG, Lee Herdman, noted in an email that the energy price crisis spurred by the U.S.-Iran conflict has significantly weakened the yen. However, the Fed’s recent hawkish stance has compounded these worries.

Currency values often fluctuate based on interest rate disparities among countries. The Bank of Japan raised its policy interest rate to 1% on June 16, the highest it has been since the 1990s. Yet, these rates are still notably lower than those set by the Federal Reserve, which held steady at a range of 3.5% to 3.75% in June.

This disparity has led investors to seek better returns in the U.S., diverting funds away from Japan. As a result, this situation has created added volatility in global markets, further strengthening the dollar while weakening the yen.

The Supreme Court recently ruled that the President cannot terminate Fed Director Lisa Cook without evidence of wrongdoing, reinforcing the Fed’s independence. This aggressive approach against inflation has also supported the dollar, placing downward pressure on the yen.

In recent months, the yen has hovered at its lowest point against the dollar since 2024, but has now slipped below that benchmark, reaching levels last seen in the 1980s.

After Japan’s economy experienced a serious recession in the 1990s, interest rates remained remarkably low to stimulate growth and prevent deflation. The Bank of Japan initiated rate increases in 2024 as domestic inflation exceeded its target, but, because Japan’s rates still lag behind, the yen continues to decline.

The steep drop in currency value, combined with persistent inflation, could trigger an economic crisis. A weaker yen means higher import costs, which is a particular concern for Japan, given its reliance on imports for food and energy. The conflict involving the U.S. and Israel against Iran and the escalating crude oil prices are heavily impacting economies across Asia that depend on Middle Eastern oil.

Chris Turner, head of global markets at ING, highlighted that the weaker yen poses a threat to import prices and the cost of living in Japan, making it a significant issue for voters.

The Japanese government has the option to strengthen its currency by selling dollar-denominated assets to acquire yen. Turner speculates that intervention may occur soon, possibly as early as this coming weekend.

If the yen surges, it may put pressure on the dollar and U.S. Treasuries, potentially impacting financial markets considerably.

Historically, Japan has intervened in currency markets, and most recently, it sold approximately $70 billion in assets earlier this year in hopes of stabilizing the yen. While the U.S. market wasn’t dramatically affected, the intervention didn’t get to the root of the yen’s issues.

Should Japan choose to sell more of its U.S. debt holdings, yields could rise, which happens when bond prices fall. However, analysts believe that the overall effects will be minimal given the size of the U.S. bond market.

As Karl Sciamotta, chief market strategist at Kopay, pointed out, Japan’s efforts to intervene in foreign exchange are often executed at scale too small to have significant effects, especially when juxtaposed against the vast U.S. bond market, which is around $29 trillion.

Additionally, the stock market still feels the repercussions. A common strategy on Wall Street includes borrowing yen to invest in U.S. stocks, a practice made more affordable by Japan’s near-zero interest rates.

However, if the yen appreciates sharply due to government action even as the Bank of Japan raises rates, borrowing costs would escalate. This scenario could prompt traders to unwind their positions, resulting in stock sales to repay those loans.

There’s a possibility that a more aggressive intervention, especially in coordination with the U.S. Treasury, might cause a significant unwinding of carry trades, which could adversely affect U.S. stock markets, Sciamotta added.

Back in August 2024, such unwinding triggered by Japan’s interest hikes in the previous month led to a sharp fall in U.S. stocks, particularly in the tech sector.

The relationship between the currency market and U.S. stock performance is direct; after all, the stock market manages substantial savings for Americans in retirement accounts. As markets increasingly rely on algorithms, erratic foreign exchange movements greatly influence stocks.

Some analysts are already expressing concern over how much AI and tech stocks might fluctuate this year, given the rising volatility in carry trades.

While the dollar exhibits a rebound, the yen’s 40-year low underscores just how tumultuous this year has been in the markets.

“The mid-year situation illustrates just how unpredictable things are,” Sciamotta noted. “Back in January, many thought the dollar would keep falling, and the yen would recover. Now, the unexpected turmoil in the global economy has vigorously challenged those assumptions.”