The Federal Reserve may soon be drawn into the Trump administration’s efforts to back the embattled currency of U.S. ally Japan.
Treasury Secretary Scott Bessent wants the apolitical Fed to expand a lending facility that would enable Japan to support its currency without roiling the sensitive U.S. Treasurys market. That request comes as new Fed Chairman Kevin Warsh is seeking to rewrite the relationship between the Treasury and the Fed. How the two collaborate could have important consequences for the management of the $29 trillion Treasurys market and could see the Fed take on a new role backing U.S. financial diplomacy.
It isn’t clear how much support the chairman has within the Fed for major policy changes. The Fed declined to comment.
The Treasury didn’t respond to a request for comment about its plans.
Bessent said in a post on X on Sunday that the U.S. had intervened in foreign exchange markets to support the Japanese yen. It is routine for Japan to intervene on behalf of its perennially weak currency. But it is exceedingly rare for the U.S. to join in. The U.S. joined a broader effort in 2011 to support Japan after a devastating earthquake and tsunami.
The yen has slid sharply since 2022, when sharply higher interest rates in the U.S. weren’t matched in Japan. Economists have debated the factors behind the slide, but they include huge debt issued by the Japanese government, a shrinking and aging population that weighs on growth prospects and, lately, expensive energy imports. A weak currency can stoke inflation by making imports more expensive, and Japan’s government has frequently expressed concern about the issue.
At one point last week, one U.S. dollar bought nearly 164 Japanese yen, the weakest the currency pair has been since 1986, according to Factset data.
Then the U.S. joined Japanese authorities to try to backstop the yen. “Friday’s coordinated foreign exchange actions countered disorderly yen movements,” Bessent said Sunday. The Treasury sold euros from its Exchange Stabilization Fund to fund yen purchases, the Financial Times reported. The yen retreated 3.5% from its low to just under 157 by Monday afternoon U.S. time.
That action may have also been aimed at the Treasury market. The difference in interest rates between Japan and the U.S. has contributed to a long-standing “carry trade,” where investors borrow cheaply in yen and invest in higher-returning Treasurys or in the AI-driven U.S. stock boom.
But the future of that trade is in doubt. President Donald Trump’s tariffs and other policies have prompted global investors to hedge their dollar trades.
“The yen carry trade has broken down,” Torsten Slok, chief economist at Apollo Global Management, wrote in a research note published on Sunday.
Arresting the slide in the yen could bolster the carry trade and help keep up demand for Treasurys in the U.S. When financial firms, governments, or central banks sell Treasurys, their prices fall and yields rise.
The 10-year note rose above 4.7% last week before the intervention, before falling slightly below that level. Elevated Treasury yields make consumer and business borrowing more expensive, and Bessent has said he closely monitors the 10-year yield.
The way Bessent intervened also suggested he had Treasury markets in mind. His department sold euros, not dollars, to buy yen. He also said going forward he wants to see Japan make use of a Fed borrowing facility called the the Foreign and International Monetary Authorities, or FIMA, Repo Facility.
The FIMA Facility allows foreign central banks to lend their Treasurys for short periods rather than selling them. That avoids causing a political and economic problem from rising Treasury yields.
The central bank often supports efforts to stabilize the global financial system in moments of stress. In this case, however, it isn’t clear the long-term pressure on Japan’s currency amounts to such a concern for market liquidity or functioning.
Japan, for instance, has access to a Fed swap line, which allows Tokyo to trade yen for dollars. But it didn’t use the line this time.
The “current norm is that the central bank swaps are used to fund dollar lender of last resort type activity, not intervention,” Brad Setser, a former Treasury official now with the Council on Foreign Relations, wrote in a post on X.
Bessent said in his X post he wanted to see FIMA “upsized.” The repo facility has a per-counterpart $60 billion a day limit. U.S. data showed Japan had approximately $1.1 trillion in U.S. Treasurys as of May. Estimates put Japan’s recent intervention on the order of $60 billion to $80 billion.
Were the FIMA facility to be more widely used, it could broadly ease fiscal pressures in the U.S. by making the Treasury market more attractive.
That idea may have broad political and economic appeal, but it isn’t necessarily the Fed’s remit. Expanding FIMA would require a vote of the Federal Open Market Committee.
Warsh may believe it’s worthwhile. He said before becoming chairman that he wants to rewrite the relationship between the Fed and Treasury known as the Treasury-Fed Accord.
He answered questions from Democratic senators during his confirmation process in April by suggesting the Fed might want to give way to Treasury on similar issues. “Fed officials are not entitled to the same special deference in areas affecting international finance, among other matters. In those matters, the Fed will work with the Administration and with Congress,” Warsh wrote.
Renewed Fed-Treasury collaboration could extend to other areas. The United Arab Emirates has requested a swap line of its own, a matter that would normally be up to the Fed to decide. Warsh’s view of deference to Treasury suggests he might be open to considering extending swap lines to new countries. And he is already working closely with Bessent.
The two, Warsh told the Senate, talk often between the weekly breakfasts that have long been on the Fed chairman and Treasury secretary’s schedules.
