The yen has slid to its weakest level versus the US dollar since 1986, and this may not be the end. Authorities intervened, spending £11.73 trillion (? $71.9bn) on currency operations between 28 April and 27 May, yet the USD/JPY surge to fresh 40-year highs was only delayed, not stopped.

Yen's value against broad currency basket

The problem runs deeper than a one-off dollar move. The Bank of Japan's nominal effective exchange-rate index, which tracks the yen versus a trade-weighted basket of peers, has printed fresh record lows this year. The yen's weakness shows up not only versus the dollar but also against the euro, pound, and a range of Asian currencies. That exacerbates imported inflation risks and erodes Japanese households' purchasing power.

The Bank of Japan is caught between a rock and a hard place. Keeping policy ultra-loose feeds inflation via a weak yen; tightening too quickly would raise debt-servicing costs and choke off a fragile recovery. A Reuters poll shows that 86% of economists expect the overnight rate to rise to 1.25% by the end of December, and nearly three-quarters think the Bank of Japan is acting too slowly given that core inflation has not yet settled at the 2% target.

According to Reuters sources familiar with the central bank's thinking, some policymakers are prepared to tighten monetary policy more aggressively than markets anticipate if yen-driven price pressures and rising AI-driven demand push inflation higher than expected. Almost 80% of surveyed experts believe the current USD/JPY is significantly detached from Japanese fundamentals, and more than half cite rising government debt-servicing costs amid multi-decade highs in Japanese government bond yields as a serious concern.

JGB yield dynamics

Fundamentally, the yen's problem is a problem of confidence in Japan's fiscal sustainability. Deutsche Bank argues that Prime Minister Sanae Takaichi's ambitious $2.3tn growth plan could force authorities to shift priorities from defending the currency to controlling bond yields. In other words, policy may move from capping USD/JPY to capping borrowing costs.

Currency interventions have already demonstrated their limits against fundamental imbalances. Isn't it time for Tokyo to acknowledge the truth: money alone cannot save the yen?

Technically, the daily chart shows that USD/JPY has formed an inside bar whose long lower wick indicates bear exhaustion and raises the odds of the rally continuing toward 163.7 and 164.8. Failure to consolidate above those levels would be a technical trigger for shorting.