At the start of 2026, I identified Japan as the biggest risk in the foreign exchange market. The yen has been under pressure for the past six months and is now approaching a critical point. Late December saw stronger warnings about possible FX intervention from Tokyo. Japan faces major challenges as the world’s most-indebted major economy, with a debt-to-GDP ratio of 230%, poor demographics, mounting uncertainty over its alliance with the US, and increasing manufacturing competition from China.
For many years, concerns over Japanese debt have been dismissed as a ‘boy who cried wolf’ scenario. Despite this, Japanese borrowing costs have recently reached 30-year highs, signalling that the situation could escalate rapidly and potentially become an international problem.
The recent surge in 30-year Japanese bond yields is startling. This market, which normally experiences trading ranges of just 25 basis points over entire years, saw rates climb by that same amount in a single morning.
This turmoil was triggered by Senae Takaichi calling an early election and pledging further spending. While greater government spending has been the common approach in Japan for decades, given the current debt levels and a shifting global order, this strategy may now be unsustainable.
There remains widespread disbelief that Japanese debt could precipitate a full-scale crisis, largely due to longstanding warnings that have not materialised. But the question is whether the “wolf is truly at the gate” this time.
Japan’s debt has traditionally been considered safe because it is mostly held domestically. In that context, the yen has served as a relief valve. However, if the yen continues to weaken, the Bank of Japan may be forced to raise interest rates to defend the currency. Such a move would risk crippling Japan’s economy and could trigger a dangerous downward spiral.
Forex traders should closely monitor developments in Japan, especially bond yields, yen performance, and political moves, as these are likely to have significant implications for currency markets globally.
Original Source: Adam Button of investinglive.com
