While all attention is focused on the actions of the US Federal Reserve, a real time bomb is ticking in Japan. The analytical service The Macro Paper identifies three critical areas where the country's economy is cracking: unprecedented tightening by the Bank of Japan, the collapse of the yen, and a demographic catastrophe. It is Tokyo, not Washington, that is highly likely to become the epicenter of the next global market shock.
The Bank of Japan is conducting the most aggressive balance sheet reduction in its history. In the quarter ending June 30, the regulator withdrew 23.5 trillion yen (about $146 billion) from the market — a record quarterly contraction for the entire cycle. Since the peak of 2024, the BOJ's balance sheet has shrunk by 116.9 trillion yen ($726 billion), or 15.6% of all assets. Now, any assets on the balance sheet are subject to reduction, including direct sales of exchange-traded funds (ETFs) and Japanese real estate investment trusts (J-REITs). There are no more exceptions.
The debt market is already showing signs of stress. The yield on 10-year Japanese government bonds (JGBs) has reached 2.90% — a high not seen since September 1996. 20-, 30-, and 40-year bonds have set new historical records at 3.89%, 4.03%, and 4.055%, respectively. Inflationary pressure is only intensifying: the Producer Price Index (PPI) rose to 7.1% year-on-year against a forecast of 6.8%, while the key interest rate remains at just 1.0%. High inflation will inevitably push for further rate hikes, which will further drain already scarce liquidity.
The second problem is currency-related. The USD/JPY pair is holding near 162, close to the yen's 40-year low. Small interventions in recent days have not held — the market simply "absorbed" them. Earlier this year, Japan already spent $72-73 billion to defend its currency, but to no avail. A weak yen carries serious risks: Japanese companies are going bankrupt due to a sharp rise in import costs. To strengthen the currency, the country would have to deplete reserves and raise rates further, risking a collapse of its own stock market.
Carry Trade and Demographic Dead End
Of particular danger is the yen carry trade — a strategy where investors borrow cheap yen at near-zero rates and invest them in higher-yielding assets abroad. According to analysts' estimates, its volume still ranges from $4 to $8 trillion. These are yen-denominated borrowed funds invested in US stocks, emerging market debt, and even cryptocurrencies. There is already a precedent: in August 2024, a single rate hike of 0.15% triggered an unwinding of the carry trade, crashing the Nikkei index by 12.4% in one session — the worst day since 1987.
The third and perhaps most intractable problem is demographics, which, as experts note, has no political solution. In 2025, 671,236 children were born in Japan — the lowest since records began in 1899. The fertility rate fell to 1.14, against a replacement threshold of 2.1. For the second consecutive year, deaths exceed births by 900,000, and the population has shrunk from 128 million to approximately 123 million. Nearly 29% of the country's residents are over 65. Debt is growing, while the workforce that must service it is disappearing.
The outcome is bleak: Japan has the world's highest debt-to-GDP ratio at 204.4%. The central bank is draining liquidity, bond yields are at 30-year highs, the currency is collapsing, and future taxpayers are simply not being born.
Cryptalist's Comment: For the crypto market, the Japanese carry trade is a hidden lever that could detonate at any moment. If the BOJ continues tightening, a sharp unwinding of positions will cause cascading liquidations across all risk assets, including Bitcoin. Investors should closely monitor the dynamics of USD/JPY and JGB yields — these indicators could become the trigger for a global correction.