Japan and South Korea Diverge on Dollar Strategy

Japan, which holds the largest foreign share of American government debt, has been both reducing its Treasury holdings and spending unprecedented amounts to support the yen. South Korea has also been active in currency markets during periods of pressure on its currency, the won. However, characterizing both nations as "dollar dumpers" overlooks the distinct strategies each country is pursuing. Recent data reveals two very different approaches, a distinction crucial given Japan and South Korea's roles as vital economic and strategic partners for the United States in Asia.

This figure represents a decrease of roughly $26 billion, or about 2.3%, from approximately $1.143 trillion in May. Despite this reduction, Japan maintains its position as the largest single foreign holder of US government debt, though its current holdings are considerably below the peak of around $1.325 trillion recorded in November 2021. Japan was not alone in this trend, as total foreign holdings of US Treasuries collectively fell by $72.1 billion in June, decreasing to $9.299 trillion from $9.371 trillion the preceding month.

The $9.299 trillion total in June marked the third decline in four months, measured from the record high of roughly $9.489 trillion established in February. China's holdings decreased by about 4% to $633.4 billion, reaching their lowest level since September 2008. Britain, the second-largest holder, trimmed its position by approximately 1% to $939.9 billion. Country-level figures for July are scheduled for release on September 16th, so any claims regarding more recent Japanese selling should be treated with caution. What remains undeniable, however, is the significant scale of Japan's intervention in the currency market.

This represents the largest single month of yen-buying intervention ever recorded, following an earlier round of approximately 11.73 trillion yen conducted between late April and early May. Cumulatively, Japan's currency operations this year have now exceeded 27 trillion yen, surpassing the previous annual record of about 15 trillion yen set in 2024. This dramatic intervention was triggered by a sharp depreciation of the yen.

On July 23rd, the dollar surged to nearly 164 yen, reaching its strongest level against the Japanese currency in about 39 years and 8 months. Tokyo intervened on July 30th, and notably, on July 31st, the United States participated in the first coordinated yen-buying operation between Washington and Tokyo in 28 years. This intervention successfully pushed the yen back to as strong as 155.20 by August 3rd. It subsequently slipped back towards 160 before recovering to around 155 to 156 in early September. Japanese Finance Minister Satsuki Karayama stated that Japan would not hesitate to conduct further coordinated interventions. US Treasury Secretary Scott Bessant confirmed Washington's involvement, affirming that Friday's coordinated foreign exchange actions countered disorderly yen movements.

Significantly, the US Treasury purchased yen by selling euros instead of dollars, a detail that suggests Washington carefully considered protecting its own bond market. This intervention required funding, and the cost has now become evident. Japan's foreign reserves plummeted by $79.6 billion in August, marking a record monthly drop of 6.18% to $1.208 trillion, down from $1.287 trillion at the end of July. This decline was primarily driven by a fall in foreign securities. Reports indicate that Japan sold a portion of these foreign securities to acquire the necessary dollars for the intervention. A second, slower but potentially more impactful force is also at play.

For a country that experienced decades of near-zero domestic returns, this marks a genuine turning point. Japanese banks, insurers, pension funds, and households can now earn significant income domestically in yen without incurring foreign exchange risk. Data already indicates a shift in investor behavior, with Japanese investors selling a net 3 trillion yen, or about $18.7 billion, of overseas debt through August 22nd. This represents the largest year-to-date outflow since the bond market rout of 2020-2022. A survey of 82 Japanese corporate pension funds revealed the highest net share planning to increase domestic bond holdings since the survey began in 2018. This trend, while not a stampede, is significant.

Although Japan still holds roughly $2.44 trillion in overseas debt, and positions built over decades do not unwind quickly, this shift is noteworthy. Masahiko Lua, senior fixed income strategist at State Street Investment Management in Tokyo, precisely described this change, characterizing Japan as gradually ceasing to be the marginal buyer of foreign assets. This distinction is crucial: Japan does not need to aggressively sell its holdings to impact global markets; it only needs to reduce the amount it buys. Bank of Japan Governor Cazwell UEA is under pressure to maintain tightening policies, as a weak yen continues to drive up import costs for Japanese households. The central bank's policy rate stands at 1.00% compared to the Federal Reserve's target range of 3.50% to 3.75%, with its next decision scheduled for September 18th. Prime Minister Sonia Takichi's spending plans also contribute to the economic landscape. Karayama, for her part, has refrained from commenting directly on the 3% threshold, stating only that the government is committed to responsible debt management.

This contrasts sharply with South Korea's situation. Seoul's holdings of US Treasuries increased in June to approximately $135 billion, up from about $132 billion the previous month and well above the $126.5 billion recorded a year earlier. The reserve picture further emphasizes this difference.

South Korea's foreign exchange reserves stood at $442.28 billion at the end of August, marking an increase of $14.33 billion from July. This represents the largest monthly increase since the Bank of Korea began compiling this data in 1971, and the highest overall level since May 2022. Securities holdings, the largest component of these reserves, rose by $7.1 billion to $387.1 billion, while deposits jumped by $7.2 billion to $30.3 billion. This is where the popular narrative often misinterprets the situation. This buildup was not a result of Seoul buying billions of dollars to replenish a war chest. The Bank of Korea primarily attributed it to a surge in foreign currency deposits placed with banks by companies.

This notable increase in South Korea's foreign exchange reserves and US Treasury holdings, particularly in August, was driven primarily by a surge in foreign currency deposits from domestic companies and the operational profits of financial institutions. This contrasts with a perception that the government actively bought dollars to rebuild reserves. Korea's June current account surplus hit a record $49.73 billion, with first-half surpluses running roughly four times last year's pace. Both Japan and South Korea will sell dollars at specific times to stabilize their currencies, which is standard central bank behavior during periods of excessive volatility. This does not indicate either country has decided to abandon the dollar. South Korea, under President Lee Jang, is also operating in a very different economic environment. On August 27th, the Bank of Korea, led by Governor Hyan Shin, raised its benchmark rate by 25 basis points to 4.00%, a second consecutive increase, with six out of seven board members in favor. The bank also elevated its growth forecast for the year to 3.3%.

Higher domestic interest rates in South Korea support the won by making Korean assets more attractive, which in turn reduces the need to constantly deplete foreign exchange reserves. This brings us to the question: what happens if Japan continues to step back from buying US debt? The primary area to monitor is the US Treasury market itself. Washington finances a significant portion of its deficit by selling government debt, and foreign investors remain crucial buyers. The June TIC report indicated net foreign purchases of long-term US securities at $133.5 billion, representing total net capital inflows into US assets. In other words, there is no evidence of a global rush to exit US assets.

While there's no global rush for exits, if Japan transitions from a portfolio adjuster to a persistent seller, the financial dynamics will change. Reduced foreign demand would exert upward pressure on US bond yields, as Washington would need to offer more attractive terms to entice replacement buyers. Higher Treasury yields would then directly impact mortgage rates, corporate borrowing costs, credit markets, and the government's own interest expenses. The 10-year note was already trading above 4.7% at the time of this report. The second effect would manifest in currencies. When Japan sells dollar assets and converts the proceeds into yen, it generates fresh demand for the Japanese currency. If private Japanese investors simultaneously repatriate money, this pressure intensifies, which benefits households facing import costs but negatively impacts exporters whose overseas profits shrink when converted back home. A safety valve exists for Japan.

Japan has indicated its intention to utilize the Federal Reserve's Foreign and International Monetary Authorities (FIMA) repo facility. This mechanism allows foreign official institutions to borrow dollars short-term against their holdings of US Treasury securities, providing a crucial source of dollar liquidity. US Treasury Secretary Bessant has publicly advocated for expanding this facility, stating, "We would encourage it to be upsized in the coming months." The FIMA facility currently has a $60 billion daily limit per counterparty. Kevin War, who became Fed Chairman on May 22nd, 2026, succeeding Jerome Powell, has a significant influence on this situation.

At the Jackson Hole Symposium in late August, War adopted a hawkish tone, telling the audience, "I'm impressed by the overall appearance of the economy, which appears to have strengthened." Market pricing for future rate hikes has climbed, indicating expectations of continued tightness. If US rates remain high while Japanese rates stay considerably lower, investors will still have an incentive to hold dollars. However, if that rate gap narrows, capital could flow back towards Tokyo. This differential is the true narrative behind the dramatic discussions about countries "dumping the dollar."

The dramatic talk of countries dumping the dollar masks a more nuanced reality. This is not a coordinated Asian rejection of the US currency. Japan is deploying its immense financial firepower to defend the yen and is gradually reducing its exposure to overseas bonds as domestic yields become more competitive. Conversely, South Korea has moved in the opposite direction, increasing its reserves and Treasury holdings. The genuine risk would emerge if these separate actions became part of a much broader trend, where Japan, South Korea, China, and other major reserve holders all began systematically cutting their Treasury exposure for structural reasons. In such a scenario, yields would rise, the dollar would weaken, and global capital flows would look very different.

Currently, there is little evidence to suggest such a widespread exodus is occurring. However, Japan's record intervention and the evolving economics of Japanese investment clearly demonstrate why this issue warrants attention. For decades, the world grew accustomed to Japanese money flowing outward in search of higher returns. Now, for the first time in a very long time, keeping that money at home is beginning to appear to be the more favorable trade. If this trend continues, the most significant consequence may not be the end of the dollar. Instead, it could signal the end of an era in which America could consistently rely on other nations to purchase its debt.

While a global exodus from the dollar is not currently evident, Japan's unprecedented intervention and the changing dynamics of Japanese investment underscore the importance of this issue. For decades, global financial markets adapted to the steady outflow of Japanese capital seeking higher returns abroad. Now, for the first time in a considerable period, domestic investment in Japan is becoming more appealing. Should this trend persist, the ultimate impact may not be the downfall of the dollar, but rather the conclusion of an era where the United States could always depend on other countries to absorb its debt.