Why the Yen Keeps Falling Even After the BOJ Raises Rates—The Culprit Is Not 'Japanese Interest Rates' but 'US Re-acceleration'

*The following is a memo from an AI brainstorming session and does not constitute investment advice.

“Even though Japan has ended its zero-interest-rate policy and rates are rising, why is the yen not strengthening at all?”

Many people are likely scratching their heads every time they see headlines in the news like “BOJ considers additional rate hikes” or “Japanese government bond yields rise.” The textbook explanation for foreign exchange is that “if Japanese interest rates rise, the interest rate gap between Japan and the US will narrow, leading to a stronger yen.”

However, the phenomenon occurring in the current foreign exchange market is different. In conclusion, the fact that US interest rates continue to rise so rapidly that no matter how much Japan raises its rates, it cannot catch up is the true nature of the current downward pressure on the yen.

The ‘Reversal of the Interest Rate Gap’ Told by the Chart

Seeing is believing. Let’s look at a weekly chart showing the spread between US and Japanese 10-year government bond yields (US 10-year Treasury yield – Japanese 10-year JGB yield).

【日米10年債利回り差（US10Y - JP10Y）の推移】
・2024年初頭〜2026年半ば：縮小トレンド（ピークの4.2%超から1.6%台まで急低下）
・直近：1.6%台で底を打ち、2.156%まで反転上昇中

Due to the lifting of Japan’s zero-interest-rate policy, expectations for additional rate hikes, and hopes for a shift toward rate cuts by the FRB (Federal Reserve Board), the yield gap had been steadily narrowing to the 1.6% range. Many investors must have thought at this time that “a full-scale yen appreciation phase is finally coming.”

However, as you can see by looking at the right edge of the chart, the yield gap has reversed and expanded at a sharp angle to 2.156%–2.143%.

The interest rate gap that had finally narrowed is being pushed wide open again.

Why did the interest rate gap widen again?

It is not that Japanese government bond yields have fallen. Since the lifting of the zero-interest-rate policy, the 10-year JGB yield has been steadily rising.

Nevertheless, the reason the interest rate gap continues to widen is that the speed of the rise in US long-term interest rates (US 10-year Treasury yield) far exceeds the pace of Japan’s interest rate increases.

The background to the re-acceleration of US interest rates mainly includes the following factors:

1. The unexpected resilience of the US economy: Despite talk of a recession, employment and consumption remain firm, and inflationary pressure remains deeply rooted.

2. Expectations of a slower pace of FRB rate cuts: Due to the stickiness of inflation, the view has strengthened that US rate cuts will not proceed at the pace the market had expected.

3. Massive issuance of US Treasury bonds (fiscal deficit): With the expansion of the US fiscal deficit, the supply of government bonds has increased, causing bond prices to fall (= yields to rise).

In other words, rather than factors within the Japanese market, the current situation is that US interest rates are being strongly pulled upward by US economic and fiscal circumstances.

Summary: Do not misidentify the ‘subject’ of the yen’s depreciation

I often see arguments bashing Japan, claiming that “the yen is weak because confidence in the Japanese currency is falling” or “the yen is weak because the BOJ is not raising rates enough.”

Of course, structural factors on the Japanese side, such as the trade deficit and digital deficit, cannot be ignored. However, the biggest engine driving the recent rapid pressure for a weaker yen lies in the fact that ‘US interest rate hikes are not over.’

Even if Japanese interest rates rise, if US interest rates rise with even greater momentum, the incentive to buy dollars and sell yen (the carry trade margin) will not disappear.

What is happening in the foreign exchange market now is not so much a ‘yen sell-off’ as it is a ‘dollar-buying yen depreciation accompanying the re-soaring of US interest rates.’ In assessing future exchange rate trends, it is necessary to focus more on ‘where US inflation, fiscal policy, and US Treasury yields will peak’ than on the movements of the Bank of Japan.

Afterword: ‘Dollar Sole Strength’ Confirmed by Euro-Dollar Trends

In the main text, I focused on ‘USD/JPY’ and the ‘interest rate differential between Japan and the US,’ but this composition of ‘US-led dollar strength’ is self-evident when looking at the movements of the Euro-Dollar (EUR/USD).

1. Euro-Dollar Trends Over the Past Six Months (March–September 2026)

Looking at the Euro-Dollar over the past six months, there was a phase from around March to April where the euro temporarily strengthened and the dollar weakened to the high 1.17 dollar range. However, since then, against the backdrop of strong US economic indicators and a re-rise in long-term interest rates, the upside has been gradually lowered, and despite a rebound in August (high 1.16 dollar range), the upward trend was interrupted in late September, with the dollar being bought up to the mid 1.13 dollar range.

2. Euro-Dollar Trends Over the Past Week (Late September 2026)

Even focusing on the movements of the past week, the Euro-Dollar has moved from around 1.145 to near 1.134, with the euro weakening and the dollar strengthening by more than 100 pips (about 1%) in just a few days.

Reinforced Conclusion

If this exchange rate fluctuation were due to ‘Japan-specific factors (yen selling),’ there would be no reason for the dollar to be bought this much against the euro.

The fact that strong dollar buying is progressing not only against the yen but also against the euro, a major European currency, strongly confirms that this phase is indeed ‘a global sole strength of the dollar due to the re-emergence of US interest rates.’

1. Two Major Causes for the Sell-off of US Bonds (Rising Yields)

Regarding whether it is ‘risk-on due to high stock prices’ or ‘deterioration of the primary balance (PB),’ the conclusion is that ‘PB deterioration and excessive supply of government bonds (deterioration of supply and demand)’ are the main causes, compounded by the ‘bizarre toughness of the US economy (prolonged high interest rates).’ It is not just that ‘funds are fleeing bonds because stock prices are high.’

2. Why Does ‘Bond Selling but Dollar Strength’ Hold True? (Verification of Hypothesis)

You might feel that ‘bonds being sold = US credit is falling, so the dollar should weaken,’ but the opposite mechanism works in the foreign exchange market.

① [Interest Rate Mechanism] Bond Price Decline = ‘Rise in Yield (Interest Rate)’

The fact that bonds are being sold and prices are falling means ‘the yield (interest rate) obtained when buying government bonds becomes higher.’ From the perspective of investors in the foreign exchange market, since it becomes a state where ‘if you invest in dollar-denominated assets, a high yield of 5% or more is guaranteed,’ ‘dollar buying’ floods in from all over the world, aiming for the expansion of the interest rate differential between Japan and the US or the US and Europe. In other words, ‘bond weakness (= high interest rates)’ is the engine of strong ‘dollar strength’.

② [Economic Fundamentals] ‘US Exceptionalism’

If this recent bond sell-off were caused purely by ‘fear of US fiscal collapse or national breakdown,’ we would see a ‘triple sell-off’ (selling of US assets) where bonds, stocks, and the dollar all fall. However, in reality, ‘US stocks are high, and corporate earnings and the economy are outperforming the rest of the world.’ Because confidence in the underlying strength (fundamentals) of the US economy remains unshaken, investors have decided that ‘if fiscal deficits are flooding the market with Treasury bonds and yields are rising, we are happy to chase those high interest rates (the dollar),’ leading to continued dollar and stock buying.

Bonus

The analysis so far is a logical and persuasive scenario that centers on ‘rising US interest rates and economic strength (US Exceptionalism)’ as the primary cause. However, if we attempt to offer a counterargument or critique (playing devil’s advocate) from the perspective of macroeconomics and market practice, the following four blind spots and risks emerge.

1. Underestimating ‘Structural Yen Selling’ on the Japanese Side

The narrative that ‘the yen’s depreciation is not Japan’s problem, but the fault of the strong US dollar’ risks downplaying the ‘structural real-demand yen selling’ occurring within Japan.

• Digital Deficit and Changes in Trade Structure: There is a ‘digital deficit’ associated with cloud usage fees and licensing costs (payments to Big Tech), as well as constant capital outflows due to energy imports.

• Outflow of Household Funds via New NISA, etc.: Since the expansion of the program, monthly systematic purchases of foreign bonds and foreign stocks (such as All Country or S&P 500 funds) by Japanese individual investors have become established as ‘mechanically occurring monthly yen selling and dollar buying,’ regardless of the interest rate differential between Japan and the US.

• Point of Criticism: Even if US interest rates stop rising, the view that ‘the yen will immediately strengthen once US factors disappear’ may be overly optimistic because these structural real-demand yen-selling pressures exist.

2. Analysis Biased Toward ‘Nominal Interest Rates’ and Lack of Perspective on ‘Real Interest Rates’

The Japan-US 10-year bond yield spread (US10Y – JP10Y) presented in the chart is based on ‘nominal interest rates.’ What determines the essential purchasing power and capital movement of exchange rates is the ‘real interest rate’ (nominal interest rate minus expected inflation rate).

• Japan’s Real Interest Rates Remain Deeply Negative: Although the BOJ ended zero interest rates and raised nominal rates, they remain below Japan’s inflation rate, meaning Japan’s real interest rates remain firmly in negative territory.

• The US Maintains Positive Real Interest Rates: Meanwhile, the US maintains solid positive real interest rates due to the Fed’s policy of keeping interest rates high.

• Point of Criticism: Unless we adopt the view that ‘the real interest rate gap has actually widened (or the value of the yen continues to erode) because Japanese rates have not caught up with inflation,’ rather than simply saying ‘even though Japanese rates are rising,’ we cannot accurately capture the distortions in the foreign exchange market.

3. Downplaying the ‘Triple Sell-off’ Risk Triggered by ‘Bad Interest Rate Hikes’

The hypothesis that ‘the dollar remains strong because the economy is robust, despite the increase in Treasury issuance due to the deterioration of the US fiscal primary balance (bond weakness)’ explains the current market well, but this state stands on a very unstable equilibrium.

• Self-fulfilling Concerns Over Interest Payment Burdens: As fiscal deficits lead to increased Treasury issuance and rising interest rates, the US government’s interest payment burden expands further, creating a vicious cycle (fiscal domino effect) that increases the deficit again.

• Delayed Shock to the Stock Market: Long-term interest rates remaining high above 5% will eventually hit corporate financing costs and mortgage rates, putting delayed pressure on stock prices and the real economy.

• Point of criticism: Currently, ‘high interest rates = dollar buying’ is interpreted positively, but the moment interest rate hikes exceed the economy’s tolerance (threshold), market interpretation will reverse toward ‘US fiscal risk and economic deterioration,’ carrying the risk of a sudden shift to a ‘triple slump’ (dollar crash) where US stocks, US bonds, and the dollar all fall simultaneously.

4. The decline of the euro-dollar is not ‘dollar strength’ but ‘European weakness’

I used the decline of the euro-dollar as ‘proof of the dollar’s global independent strength,’ but there is a counter-argument to this.

• Stalling European economy: Due to manufacturing slumps and economic deceleration in Europe (especially Germany), the ECB (European Central Bank) is being forced to cut interest rates.

• Selection by elimination: In other words, the view is that the euro is being sold not just because ‘the dollar is attractive,’ but because ‘the fundamentals of the eurozone economy are worse than those of the US,’ which has a strong aspect of dollar buying by elimination (passive selection).

• Point of criticism: If it is merely a case of the relatively ‘better currency (the dollar)’ being bought, the unwinding (pressure to sell the dollar) when market risk tolerance changes could be more rapid than imagined.

Summary for refining the analysis

The considerations so far accurately capture ‘short- to medium-term market psychology and interest rate mechanisms,’ but incorporating a critical perspective will provide a more three-dimensional insight.

1. Short-term (up to several months): The logic of ‘dollar independent strength’ due to the strong US economy and high interest rates is dominant.

2. Medium- to long-term (1 year and beyond): Magma is accumulating underneath in the form of Japan’s ‘negative real interest rates’ and ‘structural yen selling,’ and the US’s ‘fiscal collapse risk due to bad interest rate hikes.’

If I were to revise this scenario, I think the depth of the argument would be further increased by presenting ‘dollar strength due to US strength’ while adding a counter-scenario: ‘However, this is a state where US fiscal risk is being masked by high stock prices, and close attention must be paid to the risk of a shift to a weaker dollar when high interest rates begin to break the US economy.’

Bonus

The considerations so far are a logical and persuasive scenario based on ‘the re-acceleration of US interest rates and economic strength (US exceptionalism),’ but if we dare to attempt a counter-argument or criticism (devil’s advocate) from the perspective of macroeconomics and market practice, the following four blind spots and risks emerge.

1. Underestimation of ‘structural yen selling’ on the Japanese side

The argument that ‘the weak yen is not Japan’s problem, but the fault of the strong US dollar’ carries the risk of overly downplaying the ‘structural real-demand yen selling’ within Japan.

• Digital deficit and changes in trade structure: There is a ‘digital deficit’ associated with cloud usage fees and license fees (payments to Big Tech), as well as constant capital outflows due to energy imports.

• Overseas outflow of household funds via New NISA, etc.: Since the expansion of the system, monthly installment purchases of foreign bonds and foreign stocks (All Country, S&P 500, etc.) by Japanese individual investors have become established as ‘mechanically occurring yen selling and dollar buying every month,’ regardless of the Japan-US interest rate differential.

• Point of criticism: Even if US interest rates stop rising, because these structural real-demand yen sales exist, the view that ‘the yen will return to strength as soon as US factors disappear’ may be too optimistic.

2. Analysis biased toward ‘nominal interest rates’ and a lack of perspective on ‘real interest rates’

The US-Japan 10-year Treasury yield spread (US10Y – JP10Y) presented in the chart is the ‘nominal interest rate.’ What determines the essential purchasing power and capital movement of exchange rates is the ‘real interest rate (nominal interest rate – expected inflation rate).’

• Japan’s real interest rate remains deeply negative: Although the Bank of Japan ended its zero-interest-rate policy and raised nominal rates, they remain below Japan’s inflation rate, meaning Japan’s real interest rate remains firmly in negative territory.

• The US maintains a positive real interest rate: Meanwhile, the US maintains a solid positive real interest rate due to the Federal Reserve’s high-interest-rate policy.

• Point of criticism: Instead of simply saying ‘even though Japanese interest rates are rising,’ one cannot accurately capture the distortion in the exchange rate without taking the view that ‘because it is not keeping up with Japanese inflation, the real interest rate gap remains wide (or the value of the yen continues to erode).’

3. Neglecting the ‘Triple Weakness’ risk caused by ‘bad interest rate hikes’

The hypothesis that ‘the dollar can maintain its strength because the economy is strong, despite the increase in government bond issuance due to the deterioration of the US fiscal primary balance (bond weakness)’ explains the current market well, but this state stands on a very unstable equilibrium.

• Self-fulfilling concerns about interest payment burdens: When government bonds are issued to cover fiscal deficits and interest rates rise, the US government’s interest payment burden expands further, leading to a vicious cycle (fiscal domino) where that in turn increases the deficit.

• Delayed shock to the stock market: Long-term interest rates remaining high above 5% will eventually hit corporate financing costs and mortgage rates, putting pressure on stock prices and the real economy with a lag.

• Point of criticism: Currently, ‘high interest rates = dollar buying’ is interpreted positively, but the moment interest rates exceed the economy’s capacity (threshold), market interpretation will reverse to ‘US fiscal risk/economic deterioration,’ carrying the risk of a sudden shift to ‘triple weakness (dollar crash)’ where US stocks, US bonds, and the dollar all fall simultaneously.

4. The decline of the euro-dollar is not ‘dollar strength’ but ‘European weakness’

The decline of the euro-dollar was used as ‘proof of the dollar’s unique global strength,’ but there is a counter-argument to this.

• Stalling of the European economy: Due to manufacturing slumps and economic slowdowns in Europe (especially Germany), the ECB (European Central Bank) is being forced to cut interest rates.

• Selection by elimination: In other words, the view is that the euro is being sold not just because ‘the dollar is attractive,’ but because ‘the fundamentals of the Eurozone economy are worse than those of the US,’ which has a strong aspect of dollar buying by elimination (passive selection).

• Point of criticism: If it is merely a case of the relative ‘lesser evil currency (the dollar)’ being bought, the unwinding (pressure to sell the dollar) when market risk tolerance changes could be more rapid than imagined.

Summary for refining the analysis

The considerations so far accurately capture ‘short- to medium-term market psychology and interest rate mechanisms,’ but incorporating a critical perspective will provide more three-dimensional insights.

1. Short-term (up to several months): The logic of ‘dollar unique strength’ due to the strong US economy and high interest rates is dominant.

2. Medium- to long-term (1 year and beyond): Underlying factors such as Japan’s ‘negative real interest rates’ and ‘structural yen selling,’ and the US’s ‘fiscal collapse risk due to bad interest rate hikes’ are building up like magma.

If this scenario were to be revised, adding a counter-scenario that states, ‘While presenting dollar strength due to US economic robustness, note that this is a state where US fiscal risk is being masked by high stock prices, and attention must be paid to the risk of a shift to dollar weakness when high interest rates begin to break the US economy,’ would further deepen the analysis.

※The above is a memorandum for AI brainstorming and does not recommend investment.