Bessent's defense of the Yen is a risky innovation

Treasury Secretary Scott Bessent's decision to jointly support the yen alongside Japan marks a rare and unexpected collaboration between the two nations in decades. On the surface, there appears to be merit in this cooperation, as both the U.S. and Japan stand to gain - at least temporarily. However, this policy does not address the root cause of the issue and may turn out to be counterproductive. Moreover, it risks involving the Federal Reserve in exchange rate policies during a highly sensitive period.

Over the past few months, the yen has plummeted to its lowest level against the dollar in 40 years. This depreciation is primarily attributed to mounting worries about inflation. Ironically, the weakening currency exacerbates the inflation problem, creating a vicious cycle. By endorsing the yen, Japan would need to purchase it using dollars from its reserves, which would entail selling U.S. Treasuries and consequently driving up dollar interest rates.

Although the stabilization of the yen would be advantageous for both the U.S. and Japan, Bessent is wary of increasing borrowing costs for Americans. He hopes to find a balanced approach that avoids exacerbating the situation further.