Photo by Yorgos Ntrahas on Unsplash
 

The yen has been weakening over the last month, but that trend picked up pace substantially on Wednesday. The USDJPY rose to levels not seen since January, and could potentially crack highs for the year above the 158 handle. This is a bit contradictory to the usual function of the yen as a safe haven.

Since the start of the week, there has been a general risk-averse trend in the market ahead of Nvidia earnings. US indices have unusually high valuations amid the AI surge, and traders are worried about the lack of breadth in the market. That means, other stocks aren’t rising at the same pace as tech stocks. Amid increasing signs of stress in the economy, markets are worried that there might be a correction. At a certain point, that becomes a self-fulfilling prophecy.
 

Why Is the Yen Weaker?

Given the global risk-off position at the start of the week, it would stand to reason that investors would pile into the yen as a safe haven bet. But, that hasn’t happened. In fact, the reverse has occurred, as investors are pulling assets out of Japanese markets. Part of this could be technical profit taken after the Nikkei’s strong performance during the summer.

But it could also be in response to the shift in fiscal policy under the new Prime Minister, Sanae Takaichi. Markets had anticipated her dovish fiscal style, and th yen started weakening as soon as she was the favorite to win the leadership competition a couple of months ago. Since then, it seems her policies have generally supported the market’s impression, and this has left the yen generally weaker.
 

China Tensions Create Geopolitical Concerns for the Yen

Besides promoting expanding the economy with stimulus, Takaichi is often described as “hawkish” in terms of foreign policy. Some analysts characterize her position as “ultra conservative”. The recent tensions with China illustrate this change in position from some of her predecessors who have sought to calm the waters separating Asia’s two largest economies. And China is Japan’s largest trade partner, which makes the issue more relevant.

Last week, Takaichi made waves by asserting that Japan would defend Taiwan in the event of a Chinese invasion. This caused a rather pointed response from China’s representative in Japan. The war of words took on policy implications on Wednesday after China re-imposed import restrictions on Japanese fish products. The exchange suggests that Japan’s more hawkish leadership, which has closer ties with the Trump Administration, could strain trade relationships with China.
 

Will the Yen Keep Falling?

While geopolitical tensions could make traders pause for a bit, the main driver of the currency is likely to remain fiscal and monetary policy. On Wednesday, Japanese Finance Minister Satsuki Katayama tried to talk some strength into the yen just days after confirming the government would increase stimulus spending. BOJ Governor Kazuo Ueda also made a rare verbal intervention in the FX market, saying there was a strong sense of urgency in the government over the weaker yen.

The comments might signal that the government is moving closer to stepping in to slow the rise of USDJPY. That is, assuming that it doesn’t get help from the Fed cutting rates, which would close the interest gap between the two countries and put downward pressure on the currency pair.

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