Carry Trade Decline: The Impact of Japan's Liquidity Contraction on Global Assets

A long-overlooked risk is emerging — Japan, as a major source of financing for global carry trades, faces a dramatic shift in its financial environment that could reshape the liquidity landscape of the entire cryptocurrency market.

The End of the Thirty-Year “Zero Interest Rate Dividend”

Over the past thirty years, Japan’s ultra-low interest rate policy (effectively zero or negative rates) created a unique arbitrage mechanism: global investors borrowed yen at nearly free costs, then exchanged these funds into dollars or other assets, investing in global equities, bonds, real estate, and even cryptocurrency markets. This process absorbed trillions of dollars in capital flows.

This financing model is known as Carry Trade, which essentially exploits interest rate differentials. Japan’s abundant domestic savings and weak demand, combined with the Bank of Japan’s deliberate maintenance of low interest rates to stimulate the economy, inadvertently provided a continuous stream of cheap liquidity to global capital markets.

The Sudden Rise in Japanese Government Bond Yields

By the end of 2024, Japan’s long-term government bond yields have risen significantly:

• 20-year bond yields approaching 2.8%
• 40-year bond yields reaching 3.7%

This is not a mild adjustment but a rapid rebound after thirty years of suppression. Rising bond yields mean the cost of borrowing yen has increased sharply, and the previous “free money” financing approach is no longer viable.

Systemic Risks of Carry Trade

As the cost of borrowing yen increases, weak links in the carry trade chain begin to unravel:

Exchange Rate Risks Intensify — Yen appreciation raises the cost of repaying yen-denominated debt. Investors holding dollars or other assets face exchange losses and may be forced to close positions or reduce holdings of overseas assets to convert back to yen.

Leverage Positions Trigger Chain Reactions — Many carry trade positions are leveraged. When exchange rate fluctuations exceed expectations, these positions trigger stop-losses, leading to liquidity crises. Trillions of dollars of carry trade funds are turning back to Japan.

Rapid Liquidity Dry-Up — When global investors simultaneously withdraw overseas assets and repatriate funds to Japan, markets such as US stocks, US bonds, emerging markets, and cryptocurrencies will experience a liquidity vacuum. This is not a slow outflow but a macro-level “sudden brake.”

Impact on Cryptocurrency

During the boom of carry trades, cheap funds flowing from Japan heavily supported high-yield assets, including Bitcoin and Ethereum. Although the scale of this capital is difficult to estimate precisely, its liquidity support role is significant.

Now, the contraction of Japanese liquidity directly means a reduction in “risk-free liquidity” worldwide. As a high-risk asset, cryptocurrencies tend to be most vulnerable during periods of liquidity tightness. Recent increases in Bitcoin and Ethereum volatility reflect, to some extent, this deep macro change.

The Market’s Real Threat

When carry trade is not just about to collapse but is already collapsing, any bottom-fishing behavior is fraught with risk. The scale of this liquidity crisis could surpass the Swiss franc crisis of 2015 and the COVID-19 risk event of 2020.

On the surface, the fluctuations in the cryptocurrency market are driven by technicals and sentiment; but from a macro-financial perspective, they are a reflection of Japan’s liquidity shifts. When the world’s largest “liquidity vault” begins to tighten, no high-risk asset can remain unaffected.

Conclusion

Japan is no longer a “zombie” economy but is undergoing self-adjustment. The rise in its long-term government bond yields marks the end of an era — the era of cheap yen financing fueling global asset prices. For Bitcoin, Ethereum, and other crypto assets, this represents a systemic risk that must be taken seriously. Before this liquidity tsunami, any short-term rebound may be just a false signal before the tide recedes.