“The Yen's Decline Will Continue” Is the Majority View. Why Prepare for a Stronger Yen Now

The government expects the FY2027 initial budget request to total approximately ¥143 trillion, against a backdrop of plans to formulate it together with the supplementary budget. Although Japan's fiscal deficit is relatively small among advanced economies, concerns over the amount of government bond issuance and fiscal soundness remain persistent.

The Japan-US interest-rate differential is regarded as an important determinant of exchange rates. The current five-year government bond yields are 4.5% in the US and 2.2% in Japan, a difference of 2.3 percentage points. This may encourage the movement of funds and affect the dollar-yen exchange rate.

While the market expects the policy rate to rise to approximately 1.9% by the end of next year, some also believe that measures to combat inflation, such as cutting the consumption tax on food and providing energy subsidies, would be unfavorable for yen depreciation.

Fiscal deterioration is not a problem unique to Japan but a common challenge among major economies, and there are periods when the fiscal deficit appears relatively smaller against a backdrop of expanding nominal GDP and improving tax revenue. Over the long term, the level of government bond yields could help maintain fiscal discipline.

In assessing exchange rates based on interest-rate differentials, some observers point out that with the Japan-US differential currently around 2.3 percentage points, it would not be unusual for the dollar-yen rate to remain in the low ¥130s.

Issues surrounding the stronger-yen scenario include the possibility that the conduct of the Bank of Japan's monetary policy and the direction of the government's fiscal spending will create differences going forward. Attention is focused on the passage of next fiscal year's budget and trends in the amount of government bond issuance.