Yen trend analysis: How much further will the exchange rate fall by 2026?

The key to analyzing the yen’s trend lies in understanding the game between the US-Japan interest rate differential and market expectations. Since 2025, the yen has experienced intense volatility, retreating from a high near 160 at the beginning of the year to a low of 140.477, then depreciating again to 157, the half-year low. As the year ends, USD/JPY fluctuates around 156, and market divergence on the yen’s future direction is widening.

How Institutions View the Yen’s Outlook for 2026

Wall Street generally holds a pessimistic view on the yen. According to the latest market forecasts, the most critical factor in yen trend analysis is when the US-Japan interest rate spread will narrow.

Junya Tanase, Head of Japan FX Strategy at JPMorgan, issued the most bearish outlook on Wall Street — by the end of 2026, the yen could fall to 164. He pointed out that the yen’s fundamentals remain quite weak, and even into next year, this trend is unlikely to see a fundamental reversal. As global markets gradually digest the rising interest rate expectations of other economies, the tightening policies of the Bank of Japan will have limited effects.

Parisha Saimbi, Emerging Asia FX and Rates Strategist at BNP Paribas, also remains bearish, expecting the yen to weaken to 160 by the end of 2026. She believes that the macro environment globally next year is still relatively favorable for risk sentiment, which typically supports continued arbitrage trading. Considering the long-term demand for arbitrage, cautious pace of BOJ policy adjustments, and potentially more hawkish Fed stance than expected, USD/JPY is expected to stay in a high range.

These two major institutions’ forecasts imply a stark reality: the yen is unlikely to rebound in the short term.

Yen Trend Analysis: Four Major Depreciation Pressures

Why does the yen continue to be under pressure? A deeper analysis reveals four core driving factors:

First, the widening and slow narrowing of the US-Japan interest rate differential. Although the Bank of Japan gradually raised rates to 0.75% in 2025, Japanese interest rates remain far below those in the US. This creates a large arbitrage space — investors borrow heavily in low-yielding yen to invest in higher-yielding dollar assets, exerting persistent selling pressure on the yen. Even with rate hikes, market expectations for future policy paths remain cautious, limiting yen attractiveness.

Second, the fiscal expansion policies of the new Japanese government increase depreciation risks. After Prime Minister Sanae Suga took office in October 2025, she continued the “Abenomics” style, launching large-scale fiscal stimulus plans. This led to increased government debt issuance and rising concerns over fiscal sustainability, causing markets to worry about Japan’s fiscal health and further lowering the yen’s valuation.

Third, the relatively resilient US economy supports the dollar index. The US economy remains robust, with sticky inflation, and policies like the Trump administration’s strong dollar stance and tariffs provide solid support for the dollar. In contrast, the yen, as a low-yield currency, is more easily sold in risk-on environments. The rebound of the dollar index in the second half of 2025 drove USD/JPY from the 140-150 range up to above 155-157.

Fourth, Japan’s domestic economic fundamentals remain weak. Domestic consumption is sluggish, GDP occasionally contracts, and import-driven inflation pushes prices higher. Although wages have increased, real purchasing power remains constrained. This causes the BOJ to remain cautious about rate hikes, fearing that excessive tightening could harm economic recovery, prolonging the yen’s weakness.

Review of BOJ Policy Adjustments in 2025

Understanding the yen’s trend hinges on tracking central bank policy developments. 2025 was a turning point for the BOJ’s monetary policy:

January 24, the BOJ announced raising the benchmark interest rate from 0.25% to 0.5%, marking the largest single rate hike since 2007. This move was supported by core CPI rising 3.2% and wage increases of 2.7% achieved in autumn labor negotiations. The rate hike boosted government bond yields, causing the yen to strengthen against the dollar temporarily, with USD/JPY falling from 158 to around 150, and even reaching a low of 140.477 on April 21.

From February to October, the BOJ held rates steady at 0.5% across six policy meetings. During this period, the yen repeatedly depreciated, with USD/JPY breaking above 150, and continuing to rise into October.

December 19, the BOJ announced its latest rate decision, raising the policy rate by 0.25 percentage points to 0.75%, reaching the highest level in about 30 years since 1995. This was the second rate hike of the year and a key step toward normalizing monetary policy. However, the rate hike did not boost the yen; markets continued to digest the US-Japan interest rate differential, and USD/JPY remained around 156.

BOJ Governor Kazuo Ueda stated that despite some signs of weakness in Japan’s economy, the overall recovery remains moderate. He expects real interest rates to stay significantly low, and accommodative monetary conditions will continue to support the economy. This suggests future rate hikes will proceed cautiously.

Key Variables That Will Determine the Yen’s Direction in 2026

Whether the yen can stabilize or rebound in the short term mainly depends on these three critical factors:

First, the BOJ’s subsequent policy intensity and forward guidance. The market generally expects that only around mid-2026 or later will the BOJ raise rates to 1%. The January 22-23 meeting is an important window — if Ueda signals a more hawkish stance and clarifies future rate hikes, it could help strengthen the yen and narrow the US-Japan interest rate gap; otherwise, the yen will likely remain weak.

Second, the pace of narrowing the US-Japan interest rate differential. If the Fed accelerates rate cuts due to economic slowdown, rapidly narrowing the spread will favor yen appreciation. Conversely, if the Fed cuts rates slowly as expected or the US economy remains resilient, the dollar may stay strong, limiting the yen’s rebound potential.

Third, global risk sentiment and arbitrage trading flows. The yen is often borrowed for arbitrage investments when risk appetite is high. If stock markets and risk assets correct, unwinding arbitrage trades could cause the yen to appreciate rapidly. Conversely, stable global market sentiment will continue to exert capital outflow pressures on the yen.

Important Indicators for Yen Trend Analysis

Investors should keep an eye on the following data and factors:

Inflation (CPI): Japan currently has relatively low inflation globally. If inflation accelerates, the BOJ’s rate hike space increases, potentially boosting the yen; if inflation cools, the BOJ lacks incentive to raise rates, and the yen may face short-term pressure.

Economic growth data: GDP, PMI, and other indicators reflect the BOJ’s policy space. Strong data suggest room for rate hikes, supporting yen appreciation; slowing growth indicates continued easing and yen weakness.

Central bank comments: Ueda’s statements are often amplified by markets and can directly influence the yen’s short-term movements. Any clear guidance on future rate hikes warrants close attention.

International market conditions: Central bank policies and global inflation trends influence exchange rates. Additionally, the yen’s traditional safe-haven attribute means that during geopolitical conflicts or market turbulence, the yen tends to strengthen as investors seek safety, causing short-term appreciation.

Summary

Yen trend analysis shows that although short-term widening of the US-Japan interest rate gap and the slow pace of BOJ policy shifts make the yen difficult to strengthen immediately, in the long run, the yen will eventually return to a reasonable valuation, ending its persistent decline. Those with currency exchange needs may consider phased positioning to meet future demands; investors interested in forex trading should refer to the above analysis framework, tailor strategies to their risk tolerance, and consult professionals for risk management when necessary.