Yen Plummets to 187 per Euro as BoJ Stalls on Rate Hikes

Free-falling yen and a central bank trapped between inflation and debt

What is happening in Japan? This question is sweeping through markets this week as the yen hits 187 per euro, the worst level of the century, and the Federal Reserve sells euros to support a currency that cannot find its footing. Rumors of coordinated intervention mix with the reality of a central bank that has been trying to raise rates for months without success. The chronicle of a decline that no longer has any makeup.

A central bank that wants to raise rates but cannot

The Bank of Japan kept rates at 1.00% this week, with one council member, Takata, voting against because he wanted to raise them to 1.25%. The bank itself warns that inflation will clearly accelerate above 2% and repeats that it is prepared to continue raising them. So why does it stand still? Because raising rates for real, with the public debt they carry, blows up the budget through interest payments. When monetary policy stops being decided by inflation and starts being decided by the weight of debt, there is no longer monetary policy: it is emergency therapy.

The weakness of the yen is not an accident. After decades of deliberate depreciation to support exports –a strategy that worked while the world bought Japanese technology–, the currency no longer responds even to interventions. In 2008, the worst moment of the crisis, the euro traded at 161 yen. Last Monday, the exchange rate reached 187. And although the Japanese government already injected money a few months ago and managed to get some breathing room, the trend remains downward.

Spain has not surpassed Japan: the mirage of the exchange rate

One of the data points that has circulated most this week is GDP per capita: Spain, without Toyotas or Sonys or a comparable industrial sector, has surpassed Japan. True in current dollars, but misleading in almost everything else. Eurostat's real series, in constant euros, shows that Spanish GDP per capita rose from 21,640 euros in 2000 to 26,210 in 2024: a 21% increase, not the 250% suggested by the comparison in dollars. The difference is accumulated inflation and an euro that in 2000 traded at 0.92 dollars. The same distortion causes Japan's GDP to appear 20% below that of 2000 when in reality the adjustment is largely currency-related.

This does not miccionan Japan is thriving. Its absolute GDP, which was ahead of Germany's until 2022, is now surpassed by Germany. And the country has lost four million inhabitants since 2000, while Spain gained eight million. But confusing an exchange rate problem with an industrial debacle leads to erroneous conclusions: Japan still has an industrial, innovation, and competitiveness base that Spain cannot even dream of.

The FIMA trick: supporting the yen without burning bonds

Friday's intervention was no surprise. This week, US Treasury Secretary Bessent confirmed it, also requesting in writing to expand the Federal Reserve's FIMA facility. Why does it matter? Because a central bank that needs dollars has two ways to get them: sell the Treasury bonds it holds, or temporarily exchange them for dollars and recover them later. The first option lowers the bond price and raises the long US rate; the second does not. Washington prefers the second, and therefore asks for it openly.

The market, however, does not trust it. The carry trade –borrowing in cheap yen to invest in higher-yielding assets– is being reversed. The “reverse carry trade” is already here: loans are not renewed, interest rates rise, and the stock market could be the sacrifice that saves bonds. That is, the adjustment has only just begun.

The underlying problem is not the yen, but demographics

The currency is the symptom; aging is the disease. Japan is practically a nursing home for the entire nation, with a population shrinking by hundreds of thousands of people each year. Outside Tokyo, houses are given away because there are too many homes and too few heirs. Inheritable mortgages –the rat race taken to the extreme– were even invented so that debt would not die with the debtor. And no monetary policy can fix that.

Meanwhile, the country clings to its industrial traditions: companies still working with fax machines and floppy disks, an automotive sector that according to a former Toyota president must merge or disappear, and restrictions on exporting technology to China, which already produces and copies at prices Japan cannot match. Some see cheap yen as a tourism opportunity –eating and sleeping in Japan costs less today than in Spain–, but even this generates frictions, with signs distinguishing visitors who read Japanese from those who do not.

With rates trapped, debt soaring, and a shrinking population, the question is no longer whether Japan is in crisis. The question is whether the yen will find its footing before the financial adjustment takes it down. The “watch out for Japan” that markets warn of is not a warning: it is an anticipatory epitaph. Or not. It depends on how you look at it.