Brad Setser: Yen at 160 Is a “Return to the 1960s”; BOJ Rate Hike Needed for Rescue

In early August, the yen moved toward around ¥160 to the dollar, a level considered exceptionally weak, and Japan and the United States carried out coordinated intervention after a handwritten memo from the US Treasury. The yen moved stronger for a time after the intervention, but has since shown renewed signs of weakening. Washington has indicated that it may continue intervening. At least for now, some observers believe the intervention's impact is limited.

In this intervention, the US side acted by selling euros instead of using the traditional approach of selling dollars and buying yen. Selling euros did not significantly affect dollar positions, while also serving as an attempt to support the yen, making the strategy notable.

An important source of funding for intervention is the Federal Reserve's FIMA Repo Facility, under which foreign central banks pledge US Treasuries as collateral to the US Treasury and obtain dollars to use for intervention. The limit is $60 billion, which would constrain repeated intervention. Japan has a cash buffer, but in the past it has raised intervention funds by selling US Treasuries directly.

Setser said the yen's extreme weakness had diverged from fundamentals and represented a return to levels seen in the 1960s. At the same time, unless the BOJ raises interest rates in September, the effect of intervention will not last and positions could be rebuilt. Some have also pointed out that Japan's fiscal position is stronger than that of the United States, but genuine support will depend on Japanese investors deciding to bring their capital back into yen.

The ultimate turning point will depend on the BOJ's policy decision and the repatriation of overseas funds. The ¥160 level could function as a floor that both countries seek to maintain, but the outcome is expected to change again depending on the continuity of intervention and market developments.