What protects Japan’s economy? And what does it mean for the yen?
Japan has global businesses, valuable overseas investments and a central bank moving away from years of very low interest rates. But a strong economy does not automatically mean a strong currency.
Look at a Japanese castle surrounded by a moat and a simple idea comes to mind: the water and walls help protect what is inside.
An economy can have defenses too. Japan’s include businesses that sell products around the world and substantial investments in other countries. But its defenses have gaps, including a reliance on imported energy.
That raises an interesting question for anyone watching the Japanese yen: if Japan has so many economic strengths, why can its currency still struggle against the US dollar?
The answer begins with a distinction. The strength of an economy and the price of its currency are connected, but they do not always move together.
Japan’s economic moat
Japan is home to companies known around the world for cars, machinery, electronics and other products. It also supplies materials and equipment used to make computer chips.
When people and businesses abroad buy Japanese products, that creates income for Japanese companies and supports jobs at home. Japan’s exports of cars, semiconductors and chipmaking equipment grew in September, according to trade figures reported by The Japan Times .
Japan also owns substantial investments overseas. Think of these as assets held in other countries by Japanese businesses, investors and institutions. Taken together, Japan’s overseas assets exceeded what it owed to the rest of the world at the end of 2025, according to Japan’s Ministry of Finance .
These are useful strengths. But the moat is a metaphor, not a shield that guarantees Japan will avoid economic trouble or that the yen will gain value.
Where the moat has a gap
Japan relies heavily on other countries for oil and natural gas. Its government says the country produced the equivalent of just 16.4% of its energy needs domestically in the 2024 financial year. enecho.meti.go.jp
That matters because many energy purchases are priced in US dollars.
Imagine a Japanese company needs $100 to buy fuel. If one dollar costs 150 yen, it needs 15,000 yen. If the dollar rises to 160 yen, the same $100 costs 16,000 yen.
The fuel’s price in dollars did not change. But the company needs more yen to pay for it.
This is one reason a weaker yen can add to costs in Japan. It can also affect households when businesses pass some of their higher costs on to customers.
A weaker yen can help some exporters, though. If a Japanese company earns dollars overseas, those dollars can be worth more yen when converted back. The actual effect on a business depends on where it makes its products, what it imports and its other costs.
The takeaway: a weaker currency can help some parts of an economy while hurting others.
Why Japan’s interest rates matter for the yen
Another part of the story is the cost of borrowing money.
For many years, Japan kept interest rates very low. That made it relatively cheap for some investors to borrow yen and use the money to buy assets elsewhere that offered the possibility of higher returns.
If borrowing yen becomes more expensive, that strategy can become less appealing. Investors must also consider the risk that exchange rates move against them. If the yen strengthens while they owe yen, paying back what they borrowed can become more expensive in their own currency.
On October 30, the Bank of Japan kept its main interest rate at 1.25% . The central bank also left the door open to raising rates later as it watches price pressures. One of its nine decision-makers wanted a rate increase at the meeting. www.reuters.com
Why does the bank care about prices? Inflation means that, overall, the prices people pay for goods and services are rising. Japan’s central bank spent years trying to move away from a period when prices were often barely rising or falling. Now it is also watching the risk that inflation could rise too much.
Higher interest rates can help slow price increases by making borrowing more expensive. But they can also make life harder for borrowers and businesses, so central banks must weigh both sides.
The dollar is on the other side of the moat
Even if Japan raises rates, that does not guarantee that the yen will strengthen against the dollar.
The reason is simple: an exchange rate compares two currencies.
USD/JPY tells us how many yen it takes to buy one US dollar. If the number rises, the dollar is strengthening against the yen. If it falls, the yen is strengthening against the dollar.
Investors therefore pay attention to what is happening in both Japan and the United States. For example, if Japanese interest rates rise but US rates are also expected to rise, the dollar may remain attractive to investors.
And markets often move based on what investors expect to happen. If traders already expect Japan to raise rates, the decision itself may not produce the reaction some readers anticipate.
What to watch next
Japan’s economic moat has real strengths, but those strengths do not tell us exactly where the yen will trade next.
For now, a useful question is whether investors expect Japan’s interest rates to rise further, and how those expectations compare with what they expect in the United States. Energy costs and the effect of a weaker yen on prices in Japan are also worth watching.
The other part of the picture is the market itself: how will USD/JPY behave as investors weigh those developments? The economic story provides context. The price chart can help us examine how the dollar and yen are responding.
This article was written by Itai Levitan at investinglive.com.
