How the Japanese Yen “Carry Trade” Fuels Global Bubbles

How the Japanese Yen “Carry Trade” Fuels Global Bubbles

In early August 2024, something eerie swept 
through global markets. Virtually overnight, the Japanese yen – a currency that had been quietly 
weakening for months – surged in value by over 10% against the U.S. dollar. Stock prices from Tokyo 
to New York buckled as panicked traders raced to unwind their positions. Billions of dollars in 
seemingly “safe” bets unraveled within hours. It was as if an invisible force in finance had 
suddenly snapped, jolting the world economy. What on earth just happened? The answer lies in 
a long-standing, little-understood strategy often likened to financial “dark matter” – unseen but 
immensely powerful. It’s called the Japanese yen carry trade. For decades, this obscure maneuver 
quietly pumped cheap money out of Japan and into riskier assets around the globe. It has helped 
inflate property booms in places like Australia and fueled stock and bond bubbles from New 
York to Istanbul. Now that invisible force is shuddering. How did a lowly Japanese interest 
rate become the fuel for global bubbles? What exactly is the yen carry trade, and why does 
it hold the power to rock economies on multiple continents? And most importantly – what happens 
if this house of cards comes crashing down? To understand the yen carry trade, we first need 
to understand why Japan’s money became so cheap in the first place. Flash back to the 1980s: 
Japan’s economy was on fire, with its stock market and real estate prices soaring to dizzying 
heights. This “bubble economy” eventually burst spectacularly around 1990, plunging Japan into 
a severe recession. In response, the Bank of Japan (BOJ) slashed interest rates dramatically 
in the 1990s, trying to spur growth and fight off deflation. By 1999, the BOJ’s policy interest 
rate was effectively zero – the start of Japan’s now decades-long experiment with ultra‐easy money.
For perspective, while U.S. or European interest rates fluctuated over the years, Japan’s stayed 
near 0% (even dipping slightly negative to -0.1% in 2016). The BOJ kept rates at rock-bottom 
to jumpstart the stalled economy and encourage borrowing. But an unintended side effect was that 
money in Japan became practically free to borrow. Imagine walking into a Tokyo bank and getting a 
loan at 0.5% interest – it sounds like a dream. In Japan, for many years that was close to reality.
With few good returns at home, Japanese investors began casting their gaze abroad. By the early 
2000s, they faced what one analyst called “zero yields at home”, so they ploughed trillions of yen 
into foreign markets in search of better returns. This flood of outbound investment turned Japan 
into the world’s biggest creditor nation. In fact, as of early 2024, Japanese investors held roughly 
¥667 trillion in foreign stocks and bonds – about $4.5 trillion USD – more than half of that in 
overseas bonds and debt assets. These enormous capital outflows from Japan created the perfect 
conditions for the yen carry trade to thrive. At its heart, the yen carry trade is a 
straightforward money-making maneuver. The idea is simple: borrow money in a country 
with very low interest rates (like Japan), and invest that money in a country with higher 
interest rates. The profit comes from the interest rate differential. If done correctly, it’s almost 
like free money – like borrowing cash at a cheap rate in one place and watching it earn a higher 
rate somewhere else. This strategy isn’t limited to big banks or hedge funds; it’s been popular 
with all sorts of players, from Wall Street traders to multinational companies and even 
ordinary individuals funding their mortgages. Let’s break down how a typical 
yen carry trade works in practice:  Borrow Low-Interest Yen: A trader first 
borrows a large sum of Japanese yen at Japan’s ultralow interest 
rate. Thanks to BOJ policy,   yen loans might cost almost nothing in interest 
– for example, an annual rate around 0.5%. Convert to Higher-Yield Currency: The trader 
immediately converts those yen into a different currency from a country where interest 
rates are higher. In the 2000s and 2010s, favorites included the U.S. dollar, 
Australian dollar, New Zealand dollar, Turkish lira, Indonesian rupiah, Mexican peso 
– basically any currency with a juicy yield. Invest for Higher Return: The funds are 
then invested in assets denominated in that higher-yielding currency. This could be government 
or corporate bonds, stocks, real estate, or even just deposited in a bank to earn interest. The 
key is that the target investment might yield, say, 5–10% annually, while the cost of the 
yen loan remains near 0%. For instance, at one point an investor could borrow yen at 
~0.5% and buy a safe U.S. Treasury bond yielding ~5.5% – pocketing an easy 5% profit margin minus 
hedging costs. Multiply that by millions or billions of dollars, often using leverage, 
and the carry trade looks very lucrative. Profit – As Long as Nothing Changes: As time 
goes on, the trader collects the higher interest from the foreign investment and periodically 
pays the negligible interest on the yen loan, profiting from the difference. If the yen 
stays weak or depreciates further against the target currency, there’s a bonus: when converting 
back, the borrowed yen are cheaper to repay. This enhances profits even more. In an ideal scenario, 
the trader eventually converts the foreign assets back into yen at a favorable exchange rate, 
repays the yen loan, and keeps the profit. It sounds like a money-printing machine, and 
for a while it can be. In fact, annualized returns of 5–6% or more have been typical on yen 
carry trades in recent years – roughly the gap between U.S. and Japanese interest rates. Some yen 
carry plays have been even more lucrative if the exchange rate moved favorably during the trade.
However, there’s a catch (and it’s a big one): the whole strategy only works “if all goes 
well,” as traders like to say. The biggest risk is currency fluctuation. Because the trader 
eventually must convert foreign currency back to yen to repay the loan, any sharp rise in the yen’s 
value can wipe out the profit margin or even cause huge losses. In other words, the exchange rate 
risk looms over every carry trade. If the yen strengthens unexpectedly, the trader will need 
more of the foreign currency (dollars, lira, etc.) to buy back the yen owed – potentially 
erasing that interest differential gain. Carry traders typically bank on stability 
– they seek out times of low volatility and predictable central bank policies. That’s why 
Japan’s long-standing predictability (years of zero rates and anemic growth) made the yen 
a favorite funding currency. But if something upsets that stability, the exits can get crowded 
fast. A veteran Japanese trader once warned: when a “crowded trade” like the yen carry 
starts to unwind, everyone tries to get out of the pool at once, and the rush for the exits 
can be “swift and violent”. In those moments, the benign carry trade morphs into a 
stampede, as we’ll see in real examples. The yen carry trade isn’t just a 
theoretical concept – it’s played   out dramatically in real markets. Let’s 
explore a few vivid examples to see how this works and how it sometimes goes terribly wrong:
Boom and Bust in the Australian Dollar: Australia, with its historically higher interest rates and 
resource-fueled economy, has long been a prime target for yen-funded carry trades. In the early 
2000s, many investors borrowed yen at near-zero rates and used it to buy Australian dollars and 
Australian assets. This “Aussie carry trade” was highly profitable between 2003 and 2007, as the 
Aussie dollar consistently appreciated against the yen instead of falling as theory might predict. 
Not only were investors earning higher interest on Australian bonds or deposits, but their Aussie 
dollars were gaining value relative to the yen, amplifying returns. By mid-2007, these 
traders were sitting on sizable gains. It looked like a one-way bet… until it wasn’t. 
When the global financial crisis hit in 2008, risk sentiment reversed violently. The Australian 
dollar plunged in value (falling sharply against the yen), and in a matter of months it wiped 
out years of accumulated carry trade profits. What went up came crashing down. Those who had 
gotten too comfortable were reminded why the carry trade’s gains are sometimes described as 
“picking up pennies in front of a steamroller.” The Turkish Lira Temptation: In the 2010s, Japan’s 
proverbial Mrs. Watanabe (a nickname for Japanese retail investors) found a new love: Turkish lira 
bonds. Turkey’s interest rates were very high – for example, around 7% or more on government 
bonds – at a time when Japan’s were near 0%. That interest gap was too delicious for yield-hungry 
Japanese households to ignore. They poured money into lira-denominated assets, effectively engaging 
in the carry trade from their living rooms. By 2018, the Turkish lira had become hugely popular 
with Japanese retail traders. One could borrow yen cheaply and earn a fat yield in lira, boosting 
returns on personal savings. Many even looked past Turkey’s creeping inflation and President 
Erdogan’s unorthodox economic policies because the interest payoff seemed worth the risk. But 
this story, too, ended in tears. In August 2018, a diplomatic spat between Turkey and the U.S. 
triggered a colossal sell-off in the lira. The currency plummeted over 13% in just days. Japanese 
mom-and-pop investors who had been “buying the dip” on lira suddenly saw their positions collapse 
in value. Data from Tokyo showed Japanese traders cut their lira holdings by a record amount in one 
day, scrambling to stop the bleeding. The formerly high-yielding lira had turned into a trap. As one 
analyst quipped, “They had been buying on dips, but the fall was too large to stomach”. Many also 
rushed to dump their other favorite high-yield plays, like the South African rand, which only 
exacerbated those currency drops. The Turkish saga showed how quickly a carry trade can 
unravel when an external shock hits a target country – and how the fallout can even roil other 
markets (like the rand) as investors cut losses. Mortgages and Emerging Markets: It’s not only 
professional traders or investors benefiting from Japan’s cheap money. Over the years, there have 
been cases of individuals and companies around the world taking out loans in yen to fund projects 
or purchases at home. For example, in some emerging markets or Eastern European countries, 
borrowers once obtained yen-denominated or Swiss franc–denominated mortgages because the interest 
rates were far lower than local currency loans. This is effectively a carry trade in personal 
finance – you borrow in yen at, say, 1%, to fund a house purchase where local mortgages 
would cost 5%. It works nicely until the yen’s value rises. When the yen strengthens, 
suddenly the amount you owe (in local currency terms) balloons, even if your interest 
rate was low. Many such borrowers learned the hard way that a cheap yen loan can become very 
expensive if the exchange rate moves. In fact, even companies in Asia participated historically 
– during the 1990s, some firms in Thailand, Indonesia, and South Korea borrowed in yen or 
dollars to capitalize on lower foreign rates. When the Asian Financial Crisis struck in 1997 and 
local currencies collapsed, those yen debts became crippling. It was another reminder: the carry 
trade giveth, and the carry trade taketh away. Each of these examples illustrates a 
common pattern. The yen carry trade can   quietly pump up asset prices and currencies – 
Australians enjoyed an influx of investment, Turkey enjoyed lots of Japanese buyers for 
its bonds – creating a sense of stability or even euphoria on the way up. The “bubble” builds 
almost imperceptibly. But when conditions change, the reversal can be sudden and severe. 
We’ll now turn to how these flows have   contributed to broader asset bubbles 
and market instability over time. The yen carry trade has been implicated in 
inflating asset-price bubbles across the world during periods of abundant liquidity. When money 
is essentially free to borrow in Japan, it tends to flow outward and find homes in higher-yield 
or speculative investments abroad. By amplifying global liquidity, the yen carry trade has at times 
added extra froth to markets already on the rise. Consider the mid-2000s, a period often remembered 
for various booming markets – U.S. housing prices surging, stock markets climbing, and a feverish 
hunt for yield globally. Japan had kept rates at rock-bottom after its late-90s ZIRP (Zero Interest 
Rate Policy), and by the early 2000s the country was still mired in deflation. Japanese yen was 
cheap. This coincided with a voracious appetite among investors worldwide for higher returns, 
leading to a massive yen carry trade build-up. By 2007, the yen had weakened to around ¥125 per 
US$ – reflecting investors heavily selling yen to buy higher-yield assets. While it’s hard 
to get exact figures (these trades aren’t neatly reported on any single balance sheet), some 
estimates put the scale of yen carry positions in the hundreds of billions of dollars by the eve of 
the 2008 global financial crisis. In other words, a vast pool of borrowed yen was fueling asset 
purchases worldwide, from U.S. subprime mortgage bonds to European stocks and emerging-market 
loans. It was a hidden accelerant behind the bubble-like asset inflation of that era.
However, just as dark matter in space is only obvious when something disturbs it, the yen 
carry trade’s presence became dramatically evident when the bubble began to burst. In 2007–2008, as 
cracks formed in the global financial system, risk sentiment flipped. The seemingly endless appetite 
for risk gave way to a panicked flight to safety. And one of the safest havens? The Japanese yen. 
Investors who had bet against the yen suddenly rushed to buy yen back – either to close their 
carry trade positions or simply as a safe store of value. This caused a vicious feedback loop: 
as global markets tumbled, carry traders dumped their risky assets and repatriated funds into 
yen, driving the yen’s value sharply higher, which in turn made remaining carry trades even 
more unprofitable, forcing more liquidation. The scale of this unwinding during the 2008 
meltdown was stunning. The dollar–yen exchange rate, which had been around ¥120–125 per US$ 
in mid-2007, plunged to about ¥87 per US$ by late 2008. That’s roughly a 30% appreciation of 
the yen in a matter of months – an enormous move for a major currency. For context, a year’s worth 
of interest differential gains (maybe 5–10%) was wiped out in days by the exchange rate swing. 
Anyone in a yen carry trade saw their profits evaporate and potentially turn into painful 
losses. The rapid unwinding of the yen carry trade didn’t cause the global financial crisis 
(that root cause was subprime mortgages and banking leverage), but it poured fuel on the fire. 
As one retrospective analysis noted, the yen carry trade’s collapse worsened the 2008 global market 
meltdown. The forced unwinding contributed to the extreme volatility: when the yen surged and carry 
traders ran for cover, it added extra downward pressure on stock and commodity prices worldwide.
Japan itself was not spared from this whiplash. The yen’s spike hammered Japan’s export-heavy 
economy – suddenly Japanese goods were much more expensive overseas, just as global demand 
was cratering. In fact, during the 2008 crisis Japan’s economy suffered the worst contraction 
among G7 nations. A strong yen was the last thing Japan needed in a recession, yet that’s 
precisely what the carry trade unwind delivered. Fast-forward to the 2010s: the yen carry 
trade went through lulls and revivals. In the early 2010s, the yen actually strengthened 
to record highs (around ¥75–80 per US$ by 2011) as a result of global risk aversion and Japan’s 
own economic woes. But then came a new chapter: Abenomics. Starting in 2013, Prime Minister Shinzo 
Abe and the BOJ launched aggressive easing – QQE (Quantitative and Qualitative Easing) – aiming 
to finally break deflation. The BOJ flooded the market with yen, and the currency began a 
steep decline from 2013 onward. By 2015, the yen had weakened significantly, and Japan 
was again a premier source of cheap funding. This reenergized the carry trade, now not 
just through banks but also via algorithmic funds and global investors seeing an easy play. 
Observers noted that the yen carry trade in the 2013–2019 period kicked off in a big way, since 
U.S. rates started rising (the Federal Reserve hiked rates in the late 2010s) while Japan stayed 
ultra-loose. The interest rate divergence was back, and so was the carry. Japanese cash 
flowed into higher-yield corporate bonds, emerging market debt, and equities worldwide.
By 2022–2023, the yen carry trade arguably reached new heights – some called it “gargantuan”. 
Why? Because the divergence hit an extreme: the U.S. Federal Reserve hiked U.S. interest 
rates from near zero to over 5% in 2022-23 to fight inflation, while the BOJ still pegged 
its short-term rate around -0.1% and capped long-term yields. The result: a massive 5%+ 
interest gap between yen and dollar yields. The yen also plunged in value during this time 
(at one point losing over 20% against the dollar in 2022 alone), making yen borrowing even more 
attractive. Traders could borrow yen practically for free and buy U.S. Treasuries, earning a hefty 
yield. Or invest in Indian or Indonesian bonds, or tech stocks – almost anything offering higher 
returns. By mid-2023, yen-funded trades had quietly permeated many corners of global markets; 
it was like an ocean current, subtly lifting asset prices. Some market commentators even suggested 
that the rally in U.S. tech stocks and crypto in 2023 was partly juiced by yen-funded liquidity, 
though that’s hard to prove definitively. What’s clear is that Japanese institutions and 
individuals alike were pouring money abroad: Japan’s foreign portfolio investment hit record 
highs. Trillions of yen were sluicing into global assets, often unhedged, in pursuit of yield.
This brings us full circle to 2024, the episode we opened with. After years of easy 
money, inflation started creeping up in Japan (for once!). By mid-2023 into 2024, prices were 
rising enough that the BOJ began hinting it might finally tighten policy. In late July 2024, in a 
surprise move, the BOJ adjusted its yield-curve control and nudged interest rates slightly higher. 
That tiny policy tweak – raising a benchmark rate to 0.25% from essentially 0% – and some tough 
talk about possible further hikes sent a shock through the complacent ranks of carry traders. 
The yen suddenly reversed its long decline and started strengthening fast. In the first week 
of August 2024, as mentioned, the yen’s spike triggered a rapid unwind of yen-funded trades 
across the world. It was like a mini replay of 2008 (though far more contained). Stocks dipped 
sharply, especially sectors that had benefitted from abundant cheap liquidity. Tech stocks and 
even cryptocurrencies – some of the riskiest, most leveraged assets – wobbled as that 
tide of cheap yen receded. One analysis noted that the most dramatic drops were seen 
in areas like U.S. momentum stocks and crypto, which “hardly the reaction investors 
would normally expect” – suggesting the   yen carry trade had been quietly propping them up.
Within days, Japanese officials scrambled to calm markets. A BOJ deputy governor publicly reassured 
that the bank “will not raise rates further if there is market turmoil,” trying to put the genie 
back in the bottle. This succeeded in stemming the yen’s rise for the moment – the yen gave back some 
gains and stock markets rebounded by mid-August 2024. Yet, the episode was a stark warning: the 
yen carry trade had grown into a huge, invisible bubble-maker, and even the smallest pinprick 
from the BOJ could send shockwaves through global markets. Like a finely tuned orchestra, 
the world’s asset prices had been marching to the quiet drumbeat of the BOJ’s zero-rate policy. 
Change that tune, and the dancers can stumble. Why does all this matter beyond the 
esoterica of currency trades? Because   the yen carry trade affects us all – it’s a 
key part of the plumbing of global finance. Think of the yen carry trade as a giant siphon, 
drawing money from where it’s cheap (Japan) and spraying it into asset markets worldwide. When 
that spray is steady, it pushes up asset prices, compresses yields, and often suppresses 
volatility. It’s one reason interest rates on things like U.S. or Australian bonds may have been 
lower than they otherwise would: Japanese demand kept yields down. It’s one reason stock markets 
had extra fuel: cheap leverage from Japan found its way into equities. In good times, this extra 
liquidity can reinforce optimism – a virtuous cycle of rising prices begetting more risk-taking.
However, this comes at a cost: it can make bubbles bigger. Former U.S. Federal Reserve Chairman 
Ben Bernanke once referred to a “global savings glut” keeping rates low; in a similar vein, 
one could argue there has been a “global carry glut” – an excess of cheap borrowed yen 
sloshing around. The Economist back in 2007 presciently warned that the yen carry trade was 
inflating asset-price bubbles across the world. When Japanese housewives can influence the 
South African rand’s value from their kitchen,   and when a minor tweak in Tokyo’s policy can 
cause a flash crash in New York, it’s clear we’re dealing with a deeply interconnected system.
One could call the yen carry trade financial dark matter. Just as dark matter in astrophysics is 
invisible yet holds galaxies together with its gravity, the yen carry trade is largely unseen 
(few headlines scream “Yen Carry Trade Flows Today!”) yet it quietly holds up markets 
– until it suddenly doesn’t. Importantly, like dark matter, it’s hard to measure directly. 
Even experts can only estimate the size of carry trade positions. A Reuters analysis in 2024 noted 
“no one is quite sure” how large the yen carry trade truly is. One rough proxy was the short-term 
external loans by Japanese banks – about $350 billion – which could be tied to yen-funded 
trades. But that might vastly understate things, since it doesn’t count positions taken by 
global hedge funds or the trillions of yen   Japanese investors have plowed into longer-term 
foreign investments. Furthermore, leverage (through derivatives, currency forwards, etc.) can 
amplify the real exposure beyond what simple loan data show. In short, we often only see the carry 
trade’s footprints after the fact – when a sudden move in the yen or a crisis forces it to unwind.
For other countries, the yen carry trade can be a double-edged sword. On one hand, capital inflows 
from Japanese investors can be beneficial. They finance government deficits (e.g. 
foreigners buying Indonesian or Mexican bonds), buoy stock markets, and sometimes contribute to 
economic growth by lowering financing costs. Many emerging economies have welcomed global investors 
(including Japanese) buying their high-yield bonds; it’s a source of funding. Even developed 
markets like Australia benefited – Japanese demand for Aussie dollar assets helped keep 
Australian interest rates relatively low and supported the currency during boom times.
On the other hand, these flows can create   a false sense of security. They can lead to 
currency overvaluation and asset bubbles that aren’t supported by local economic fundamentals. 
And if the tide turns – say, Japan’s rates rise, or a global shock sends investors rushing home 
– those countries can see abrupt outflows. The result might be a sudden asset price collapse 
or currency crisis. For instance, some analysts have speculated: what happens if Japanese yields 
rise enough that Japanese institutions sell their U.S. Treasuries and other foreign holdings en 
masse to invest back home? It could send U.S. bond yields higher and weaken currencies like the 
dollar or Australian dollar as money “sucks” back to Japan. In 2023–25, we’ve started to see hints 
of this: as Japan signals tightening, there’s concern that the “loud sucking sound” could be 
global liquidity draining out, back to Tokyo. In ASEAN countries, economists have been weighing 
whether they can weather a potential yen carry trade reversal – essentially, are their financial 
systems resilient if Japanese capital pulls back? In global forums, Japanese officials have often 
faced questions (and sometimes complaints) about the yen carry trade’s impact. Interestingly, 
Japanese policymakers for years took a sanguine view of it. As long as it reflected market choices 
and didn’t destabilize the yen too much, they were mostly hands-off. After all, with Japan’s economy 
sluggish, who could blame Japanese investors for seeking yield abroad? However, their tune changes 
when the carry trade threatens to disrupt Japan’s own currency too sharply. We saw multiple direct 
interventions by Japan in 2022 and 2023 to prop up a free-falling yen. In effect, Japan was fine 
with exporting capital – until the resulting yen weakness became too extreme (fueling import 
inflation at home). It’s a delicate balance. Counterpoints and Risks: Is the Party Ending?
Not everyone is convinced that the yen carry   trade is an all-powerful boogeyman. Skeptics 
offer a few counterpoints worth considering: First, they argue that global bubbles have 
multiple causes, and low Japanese rates are just one factor. The U.S. housing bubble, for 
example, had a lot to do with U.S. interest rates, lax regulation, and financial engineering – not 
only yen carry trades. Similarly, stock market bubbles often coincide with technological hype 
cycles or corporate earnings growth. In this view, the yen carry trade amplifies trends 
but doesn’t create them from scratch. It’s part of a broader ecosystem of easy money 
that includes U.S. Federal Reserve policy, European banks, and more. For instance, during 
the 2020-2021 pandemic stimulus period, it wasn’t Japanese money but rather Fed-driven liquidity 
that arguably led the charge in inflating asset prices. So, some say we shouldn’t overstate 
the yen carry trade’s role – it’s important, yes, but it’s one piece of a complex puzzle.
Second, central banks today are more aware and better prepared to handle carry trade volatility 
than in the past. After the chaos of 2008, regulators beefed up surveillance of cross-border 
flows and bank exposures. Many emerging markets now maintain higher foreign exchange reserves 
and employ macroprudential measures to guard   against sudden outflows. As one analyst noted, 
compared to 2008, authorities today are “more engaged in intervening in currency markets, 
which could mitigate the impact of carry   trade unwinding.” In other words, if a rush of 
yen appreciation starts destabilizing markets, we might see coordinated responses – like 
central banks cutting rates elsewhere,   or Japan smoothing the currency moves with 
intervention. Indeed, when the yen spiked in 2024, the BOJ quickly communicated a dovish stance to 
calm the waters. And in previous episodes (e.g., 2011’s yen surge post-Fukushima disaster), G7 
finance ministers coordinated to stabilize the yen. This implies that while the carry trade can 
cause abrupt pain, global financial authorities won’t be caught completely off guard. 
The safety nets are stronger (one hopes). Third, some analysts point out that Japan’s own 
policy shifts may be very gradual. The BOJ has been ultra-dovish for so long that it will likely 
move cautiously to avoid economic harm at home. If Japan only raises rates slowly and modestly, the 
carry trade might unwind in an orderly fashion rather than a sudden crash. In late 2024, 
even after the BOJ’s slight hawkish turn, the yen’s value, while higher, was still weak by 
historical standards (hovering around ¥140–150 per USD, compared to ¥100 or stronger in earlier 
eras). This suggests the “correction” may have more to run but perhaps over a period of years, 
not overnight. In fact, one prominent economist forecast in 2024 that the yen might revert to a 
“fair value” of around ¥115 per USD over the next three years – a significant strengthening, but 
not a disorderly one. If that gradual path holds, carry traders would have time to adjust 
their positions without a full-blown panic. That said, serious risks remain on the horizon:
BOJ Policy Reversal: The biggest risk to the carry trade is the BOJ fully normalizing monetary 
policy. If Japan decisively ends its negative-rate policy and raises rates meaningfully, the 
fundamental arithmetic of the carry trade   flips. Japanese yen would no longer be the 
ultra-cheap funding it once was. Already, Japan ended its negative rate era by moving to a 
0% to 0.1% range in late 2023, and there is talk of further hikes as inflation has perked up. A 
faster-than-expected tightening (for instance, if inflation in Japan surprises to the upside) 
could send the yen soaring and catch carry traders off guard. The proverbial “carry trade party” 
would truly be over. This scenario would test global markets’ resilience – remember that 
even a 0.25% tweak rattled stocks in 2024. A larger, concerted BOJ tightening could trigger 
a much bigger unwinding of positions globally. Global Inflation or Rate Shifts Elsewhere: Another 
risk is if interest rate differentials narrow from the other side – say the U.S. Federal Reserve 
or European Central Bank cut their rates sharply (due to recession) while Japan holds steady or 
only inches up. In that case, the advantage of borrowing yen to invest in dollars diminishes. 
Some carry trades might unwind simply because the yield pickup shrinks. We could actually 
see the opposite flows: if, hypothetically, U.S. rates fell below Japan’s, investors might 
borrow dollars to invest in yen assets – a reversal known as the “reverse carry trade.” 
While that scenario isn’t likely in the near term, the point is that changing macro conditions can 
rapidly alter the incentives for carry trades. Safe-Haven Shock (Geopolitical or Financial 
Crisis): Perhaps the most unpredictable risk is a major geopolitical or financial shock that 
sends everyone fleeing to safe havens. The yen, famously, is a safe-haven currency. In 
times of global panic – be it a war, a pandemic resurgence, or a severe credit crisis 
– the yen tends to strengthen as investors around the world seek stability. This happened in 
past episodes like the 1997 Asian crisis, 2008 crisis, and briefly in early 2020 (COVID’s 
onset) and could happen again. If something sparks a sudden risk-off wave, yen-funded carry 
positions would implode as the yen spikes. The paradox is that what was once the cheap funding 
currency becomes the refuge. For carry traders, that is the nightmare scenario: not only 
are the risky assets falling in value,   but the yen loan they owe is surging in value 
simultaneously – a double hit. Such an unwind can be self-reinforcing and painful, as we 
saw. Geopolitical instability (for example, an expansion of conflict in Eastern Europe or 
East Asia) could trigger this kind of chain reaction even if unrelated to economics. The “dark 
matter” could swiftly turn into dark storm clouds. Japan’s Economic Health: There’s also the 
chance that Japan’s own economic trajectory surprises in either direction. If Japan falls 
back into deep deflation and growth stagnation, the BOJ might keep money ultra-cheap indefinitely, 
encouraging even more carry trade buildup (and thus future bubbles). Conversely, if Japan 
finally achieves sustained growth and inflation, it would transform the yen from a funding currency 
to perhaps an investment currency. That could fundamentally alter global capital flows in 
ways we haven’t seen in a generation. Either scenario would be a regime change from the status 
quo, and big regime changes tend to be bumpy. In short, while many are aware of the risks and 
prepare for them, the yen carry trade remains a precariously balanced phenomenon. It’s like a huge 
spring that’s been coiled by years of low rates – compressing more and more – and one wonders how 
much energy will release when that spring uncoils.

The carry trade has been notorious for helping fuel global economic bubbles, and here’s how it works.

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