How Bessent is pushing the Fed to expand support for Japan's defense of the yen

US Treasury Secretary Scott Bessent is seeking to bring the Federal Reserve more directly into efforts to support the Japanese yen by expanding a special lending facility that would allow Japan to defend its currency without selling its massive holdings of US Treasury securities. The proposal could have significant implications for the roughly $29 trillion US Treasury market while giving the Federal Reserve a broader role in supporting Washington's financial diplomacy.

The initiative comes as new Federal Reserve Chair Kevin Warsh works to reshape the relationship between the US Treasury and the central bank, a partnership that could define how the two institutions coordinate in managing global financial markets.

Supporting the yen while protecting the Treasury market

Bessent said maintaining stability in the Japanese yen is a priority given Japan's role as one of the world's largest economies and its importance to global trade, savings, and investment flows. A stable yen, he argued, contributes to broader stability across international financial markets.

On Sunday, Bessent announced in a post on X that the United States had participated in foreign exchange intervention to support the yen, an exceptionally rare move. Such operations are normally carried out solely by Japanese authorities, with the last comparable US intervention taking place in 2011 following Japan's devastating earthquake and tsunami.

The yen has been under heavy pressure since 2022 as widening interest rate differentials between the United States and Japan, combined with Japan's growing public debt, slowing economic growth caused by demographic challenges, and higher energy import costs, weakened the currency. The dollar climbed to around ¥164 last week, its strongest level against the yen since 1986, before retreating to roughly ¥157.5 following the coordinated intervention.

During the operation, the US Treasury reportedly sold euros from the Exchange Stabilization Fund to finance yen purchases instead of selling US dollars, a strategy designed to avoid creating additional pressure on the US Treasury market.

Bessent believes supporting the yen benefits not only Japan but also the US Treasury market. A weaker yen has fueled the carry trade in recent years, allowing investors to borrow cheaply in yen and invest in higher-yielding US Treasury securities and US equities, particularly artificial intelligence-related stocks.

That strategy has recently come under pressure as US tariffs increased and investors sought greater protection against dollar volatility. Several economists, including Apollo Global Management's chief economist, argue that the yen-funded carry trade is beginning to lose momentum.

Bessent has also been closely watching US Treasury yields, particularly the benchmark 10-year yield, which climbed above 4.7% last week before retreating after the intervention. Higher yields remain a concern because they increase borrowing costs for households, businesses, and the US government.

Expanding the FIMA facility

Bessent has called for expanding the Federal Reserve's Foreign and International Monetary Authorities (FIMA) Repo Facility, which allows foreign central banks to obtain short-term US dollar liquidity by pledging US Treasury securities as collateral instead of selling them into the market. The facility helps reduce volatility in the Treasury market and limits upward pressure on yields.

The current daily borrowing limit under the facility stands at $60 billion per central bank. Japan, however, holds roughly $1.1 trillion in US Treasury securities, while estimates suggest its latest intervention required between $60 billion and $80 billion, prompting Bessent to argue that the current cap should be increased.

According to the Treasury secretary, Federal Reserve tools, including both the FIMA facility and dollar swap lines, should be used to shield the US economy from financial instability originating overseas.

Not everyone agrees. Several analysts argue that current pressure on the yen does not yet justify greater Federal Reserve involvement, noting that Japan already has a standing dollar swap line with the Fed but chose not to use it during its latest intervention.

The report also notes that any permanent expansion of the FIMA facility would require approval from the Federal Open Market Committee, placing new attention on Federal Reserve Chair Kevin Warsh. During his confirmation hearings, Warsh argued that the Treasury Department should play a larger role in international financial policy and that the Federal Reserve should coordinate more closely with both the administration and Congress on such matters.

That closer coordination could eventually extend to other issues, including the United Arab Emirates' request for a Federal Reserve swap line. Although such decisions traditionally fall under the Fed's authority, Warsh's approach could give the Treasury Department greater influence over future international liquidity arrangements.

The increasingly close relationship between Bessent and Warsh, who have both confirmed they meet regularly to coordinate policy discussions, points to a new phase of cooperation between the Treasury and the Federal Reserve that could redefine the balance between fiscal and monetary authorities while expanding Washington's influence over global financial stability.