Is Japan having a currency crisis?

If so, it could shake the foundations of the global economy.

Photo by jun rong loo on Unsplash

Japan’s currency isn’t in free fall yet, but it might be getting there. The yen has been weakening since 2021, but in the last month the slide has accelerated:

In the latest trading session, the yen dropped even more, from 154 to the dollar to 160.

For most of the two decades that I’ve been going to Japan, you could mentally assume that one yen was about equal to one cent, or maybe a little bit less. Now, a yen is about 0.63 cents. That’s a big drop!

People in Japan are naturally very upset about this, and with good reason. Japan is one of the most import-dependent countries in the world, importing over 90% of its energy supply and over 60% of its food. A weaker yen is making Japanese people feel suddenly poorer, as power bills go up.

Now let’s remember that a “weaker” exchange rate isn’t always a bad thing. A cheaper currency makes a country’s exports more affordable, meaning it can sell more overseas. In fact, the U.S. dollar’s perennial “strength”, stemming from its status as the world’s top reserve currency, is one big reason U.S. manufacturing and exports have suffered over the years. And this is why 20 years ago, Japan used to intervene to keep the yen cheap.

In fact, Japan can hopefully use the weak yen as an opportunity to restore its position in the global supply chains for electronics and cars. The semiconductor fabs that TSMC is building in Kumamoto are a prime example; TSMC earns its revenues in New Taiwan dollars, so when the yen is cheap, TSMC can afford a lot more fab construction and Japanese fab worker salaries.

But there’s a limit to how much a weak currency can help a country. If the yen weakens so much that the country can’t pay for food and fuel, it will rapidly fall into deep poverty, cheap exports notwithstanding. This is what happens to emerging markets that suffer currency crises, like Sri Lanka in 2022. The yen’s fall since 2021 is almost equal to the Sri Lankan rupee’s 40% plunge in 2022.

And Japan is no emerging market — it’s one of the world’s largest economies. A Japanese economic collapse wouldn’t just impoverish the people of Japan; it would shake one of the pillars of the global economy, causing negative ripple effects in the Western financial system and major headaches for Western companies. Sudden Japanese weakness would also alter the geopolitical balance of power in Asia, potentially bringing us closer to a major war.

The possibility that Japan could have an emerging market-style currency crisis should therefore be concerning to people all over the world. It’s a macroeconomic event that deserves our attention.

So let’s talk about why this is happening, and what Japan could do to reverse it.

Why is the yen getting so weak?