Decline of Yen "Carry Trade" Won't Destabilize US Finances

In the past few weeks, fearmongers have been prophesying that rising Japanese interest rates will wreak havoc with stock and bond markets all over the world. The claim is that US interest rates will soar because rising rates in Japan will end the so-called “carry trade.” That refers to investors borrowing yen at very low interest rates and then investing in US assets offering much higher interest rates. In this view, cheap Japanese capital is indispensable to keeping US rates relatively low. However, if the gap between US and Japanese rates shrinks, that will greatly reduce the carry trade, thereby sending US rates to skyward. As part of this process, it is claimed, the dollar’s value will plunge due to less demand from Japan. Here’s a headline of a post on LinkedIn typical of traders who may be seeking to profit by stoking people’s fears: How Japan's Yen Carry Trade Could Trigger a Global Liquidity Crisis.

That’s the scare story Treasury Secretary Scott Bessent reinforced at Davos.

The reality is that Japanese interest rates are rising no faster than they’ve been doing for the past four years. Moreover, the majority of the carry trade has already been “unwound,” i.e. diminished since the Bank of Japan raised overnight rates and let the ten-year JGB be determined by market forces rather than the JGB. Despite the rise in the yield on JGBs, US ten-year Treasury bond rates have been flat since mid-2023.

The panicmongers talk of a dollar crash, but it’s really a slow decline from a very high level and the dollar is still higher than its 40-year average.

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