Written by Linh Tran, Market Analyst at XS.com
USDJPY has risen for two consecutive weeks since mid-February and has continued its upward momentum at the start of this week, currently trading around the 157.50 area, nearly erasing the pullback seen in the second week of February.
However, USDJPY is no longer a one-sided story of USD strength. It has become a tug-of-war between two safe-haven currencies amid escalating geopolitical tensions and shifting monetary policies. This dynamic has widened volatility ranges and made the overall trend less stable.
The Bank of Japan has officially exited its ultra-loose monetary policy by raising interest rates to 0.75%, the highest level since the mid-1990s. This marks a significant turning point after years of negative rates and yield curve control. Nevertheless, despite the beginning of policy normalization, the interest rate differential between Japan and the United States remains substantial.
The Federal Reserve is currently holding rates at 3.50%–3.75% following its January 2026 meeting. This still represents a meaningful gap between USD and JPY, maintaining the attractiveness of the U.S. dollar in carry trade strategies. This rate differential explains why, despite JPY’s safe-haven appeal, capital flows continue to tilt more heavily toward the USD.
Recent data indicate that U.S. inflation has not yet returned to the 2% target. Core PPI rose 0.8% month-over-month in the latest release, well above the 0.3% forecast, while headline PPI increased 0.5%. CPI, although significantly lower than its peak, remains around 2.4%. As a result, the Fed has limited room to ease aggressively in the near term. The interest rate market continues to price in a “higher for longer” stance for longer than previously expected.
Meanwhile, escalating tensions between the U.S. and Iran have intensified defensive sentiment across global financial markets. In periods of heightened geopolitical risk, capital typically flows into traditional safe-haven assets, including both USD and JPY. This has provided near-term support for both currencies.
However, there remains a crucial difference in their underlying fundamentals.
The conflict in the Middle East has raised concerns about potential disruptions to oil supply, particularly if tensions expand near the Strait of Hormuz – a strategic global energy shipping route. In this context, the transmission mechanism is clear: escalating conflict pushes oil prices higher, increases production and transportation costs, and raises the risk that inflation may decline more slowly. If inflation struggles to return to 2%, the Fed will have further justification to maintain a cautious policy stance and keep rates elevated for longer, preserving a significant differential relative to the BoJ. This yield advantage continues to favor the USD over the JPY in a risk-off environment. Although the yen is also considered a safe haven, it does not offer the same rate advantage as the dollar.
From a personal perspective, I believe that in the short term, the balance remains tilted toward the USD. USDJPY could continue to hold at elevated levels and potentially extend toward the 158–160 zone if U.S. Treasury yields remain stable or resume rising. As long as the Fed does not signal a clear shift toward easing and inflation has not fully returned to target, the “higher for longer” narrative should continue to support an attractive yield differential for global capital flows.
That said, the medium-term outlook appears more sensitive. USDJPY is no longer driven purely by carry trade dynamics as it once was. Any indication that the BoJ may accelerate its rate hikes beyond expectations, or that geopolitical risks intensify and shift safe-haven flows more decisively toward the JPY, could trigger meaningful corrections in USDJPY.
Therefore, while the short-term trend still leans bullish, volatility is likely to increase and the risk of deeper pullbacks is higher compared to previous phases. This implies that further upside moves may be accompanied by sharper and faster reversals.