STEM major here. I saw this recently about how Japan raised its interest rates to .25%. Can someone please explain to me how this strengthens the yen? In addition to this why would the US increasing interest rates at this time decrease the value of the dollar? Please help me I’m lost here 😅 have a great day everyone!
In: Economics
I will try to summarize the key points as concisely as possible.
1. Japan’s interest rate has historically been low, and the Yen has remained weak.
2. Considering this, investors often obtain loans in Yen at low-interest rates to invest in other countries with higher returns. For example, they might secure a loan in Japan at a 1.5% interest rate and invest in U.S. Treasury securities to earn a 4.5% return. This strategy is known as the “carry trade.”
3. However, when the Bank of Japan raises interest rates, as has been occurring recently, the carry trade becomes riskier. Investors may sell their foreign assets to buy more Yen to repay their loans in Japan.
4. When a large number of investors sell their foreign assets, the demand for Yen increases, leading to an appreciation in its value. The issue arises because Japan’s economy is heavily reliant on exports, and an appreciating Yen reduces the profitability of Japanese businesses.
5. Consequently, Japan’s market is experiencing a downturn. As future profit expectations for Japanese businesses decline, market valuations are adjusted downward, reflecting reduced anticipated profitability.
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