Why is the yen exchange rate fluctuating?

The yen exchange rate is fluctuating. On March 25, the yen depreciated and the dollar appreciated to nearly 151 yen per dollar in the Tokyo market, but the direction of the yen exchange rate has continued to fluctuate since the Trump administration began to strengthen tariffs in early February. The reason why market participants’ expectations are shaken is that Trump’s tariffs have both inflationary and deflationary effects on the US economy.

US President Trump said on March 24 that he would “announce in a few days” the imposition of tariffs on imported cars, which would have a huge impact on Japan’s exports to the United States. On the other hand, Trump also hinted at the possibility of easing measures on “reciprocal tariffs” that would impose the same level of tariffs on trading partners.

The market has temporarily given priority to buying back US dollars due to the relaxation of tariff policies, but its vigilance against Trump’s turn to a tough stance has not diminished.

The market is confused about Trump’s judgment on tariffs, because it may be a reason to buy the US dollar or a reason to sell the US dollar. Daisuke Karakama of Mizuho Bank believes that “Trump’s tariffs have two sides, bringing both short-term inflationary pressure and medium- and long-term deflationary pressure.” Strengthening import tariffs makes it easier for domestic prices in the United States to rise. At the same time, rising prices suppress personal consumption and are accompanied by the risk of deflation caused by economic stagnation.

Moreover, Trump’s policies often change. In March, the heads of the central banks of Japan and the United States, who decided to maintain the current monetary policy, expressed the same opinion after the meeting. Bank of Japan Governor Kazuo Ueda said: “Uncertainty is very large.” Federal Reserve Chairman Powell said: “The uncertainty of expectations is abnormally high.”

There is also a view in the market that “even after April 2, when the details of the reciprocal tariffs are expected to be announced, the direction of the yen exchange rate may still be unclear” (Daisuke Karakama).

What keenly reflects this market atmosphere is the behavior of speculative funds engaged in short-term buying and selling. Mizuho Bank calculated the buying and selling trends of the U.S. dollar for eight major currencies by hedge funds based on data from the U.S. Commodity Futures Trading Commission (CFTC). The results showed that long positions of more than $30 billion before early February had been lifted by mid-March and turned into a small number of short positions. Speculative funds are also ready to buy and sell dollars at any time. For individual investors, the direction is also unclear. “The spread between buying and selling dollars is shrinking.” Foreign exchange margin (FX) trading has a certain influence on the formation of the Tokyo market. Takuya Kanda of Gaitame.com Research Institute revealed: “Individual investors have limited market information compared to professional investors. In the current situation, they can only make reverse transactions repeatedly to earn foreign exchange spreads when the exchange rate fluctuates by less than 1 yen.” The yen exchange rate trend is completely unclear. Judging from the exchange rate fluctuations during the Trump administration, the market was once tossed by his soft and hard economic policies, and eventually lost the novelty of his economic policies as a factor affecting the exchange rate. Now, this scene during the first term is looming again.

Regarding Trump’s tariffs, which have caused market turmoil, the initial tough policy of applying equal tariffs to all countries has been replaced by a loose policy of taking lenient measures for different countries. All the policy cards in Trump’s hand have been exposed to the market, and the impact of the tariff policy is gradually fading. Similar to Trump’s first term, the reaction of speculative funds to the yen exchange rate may gradually become limited, and exchange rate fluctuations are likely to shrink.

The market is still in a state of war, but it may eventually tend to the “fragile yen appreciation” scenario that conforms to fundamentals. This fundamental is due to the Bank of Japan’s tendency to further raise interest rates, while the Federal Reserve is considering restarting interest rate cuts, resulting in a narrowing of the interest rate gap between Japan and the United States.