The Japanese yen continues to hover near its lowest levels in nearly 40 years. However, a former senior official who once directed Japan's foreign exchange policy believes this weakness has significantly deviated from fundamentals and is unsustainable.

On July 6, Bloomberg reported that Tatsuo Yamasaki, the former Vice Minister of Finance for International Affairs, known in markets as the "currency czar," stated the yen is currently undervalued by approximately 20%. He argued that the reasonable level for the USD/JPY pair should return to around 130. He also warned that intervention by Japanese authorities is no longer just verbal, and traders holding short positions on the yen are facing systemic risks of being forced to cover their bets.

Yamasaki led Japan's massive foreign exchange intervention in 2003-2004, deploying a cumulative 35 trillion yen to curb yen appreciation. During the yen's rapid depreciation in 2022, he also forewarned of intervention risks, which were validated by the market two days later.

Yen Deviates from Fundamentals as Depreciation Drivers Weaken

In an interview, Yamasaki explicitly stated that a retreat of the USD/JPY pair to around 130 would not surprise him, noting the current exchange rate has clearly detached from fundamentals. "This is no longer a matter of fundamentals; expectations have become distorted," he said. "But we are gradually approaching a turning point."

In contrast, some market views suggest the yen still has significant room for depreciation. For instance, Jesper Koll of Monex Group and Calvin Yeoh of Blue Edge Advisors have previously pointed out that if the Bank of Japan continues to maintain its accommodative stance, the USD/JPY pair could even test the 200 level.

The core logic behind the yen's prolonged weakness lies in the Japan-U.S. interest rate differential. However, Yamasaki believes this structural factor is changing. He noted that the Bank of Japan's next move will "undoubtedly be a rate hike," possibly even consecutive policy tightening measures. In contrast, the Federal Reserve's policy direction remains unclear; even if it hikes rates, it is more likely to be a one-off move rather than a sustained hiking cycle.

In his view, this means there is limited room for the interest rate differential to widen further, and the core driver of yen depreciation is gradually weakening.

Furthermore, as the Japanese government begins drafting the budget for the next fiscal year, the market will gain a clearer assessment of the new government's fiscal and monetary policy mix. Yamasaki believes concerns about the deterioration of Japan's fiscal situation are significantly exaggerated, and the current exchange rate does not reflect the true fundamental picture.

Rising Intervention Risks: Shorting Yen Faces "Invisible Constraints"

Although some market participants believe Japanese authorities have remained silent recently, Yamasaki cautioned that the risk of foreign exchange intervention has not subsided but is instead entering a more covert and unpredictable phase.

He pointed out that Japan's Ministry of Finance is no longer just at the "verbal warning" stage but has the capability to take actual action at any time. "Anyone shorting the yen knows they could be hit by intervention at any moment and forced to cover their positions," he said.

Compared to large-scale, high-profile foreign exchange interventions, Yamasaki believes authorities are more likely to employ "small-scale, asymmetric" covert operations to disrupt speculative momentum and suppress one-sided depreciation expectations. "Once the market truly believes the yen has a foundation for appreciation, the exchange rate trend will naturally reverse," he stated.

Regarding external coordination, Yamasaki believes joint U.S.-Japan intervention is politically difficult to achieve. However, he also noted that at the bilateral communication level, current U.S.-Japan exchange rate dialogue has reached an unprecedented level of closeness. Notably, he also quoted current foreign exchange chief Atsushi Mimura as saying that the U.S. side's current understanding of Japan's intervention stance is "unprecedented."