The U.S. and Japan have joined forces to intervene and intensify the weakening of the dollar, while doubts surrounding Federal Reserve policies remain the biggest "driving force."

On Monday (August 3), the U.S. dollar index continued to decline. The U.S.-Japan joint intervention to support the yen, combined with last week's Federal Reserve meeting which triggered selling pressure on the dollar, contributed to the ongoing downward trend of the dollar. The Bloomberg Dollar Spot Index hit a one-month low during the session, with the G10 currencies down 0.5%. As of the time of writing, the dollar index had recovered most of its losses, with the decline narrowing to 0.03%. Meanwhile, the yen rebounded from a 40-year low under the boost of U.S.-Japan intervention. U.S. Treasury Secretary Scott Bessent stated that the U.S. will not hesitate to intervene in the market again, indicating that the Japanese government has a strong partner in curbing excessive depreciation of its currency. On the day, the dollar fell 0.3% against the yen. Rate decision as the root cause of dollar weakness However, the root cause of the dollar's current weakness can be traced back to last week. The Federal Reserve decided to keep interest rates unchanged at its meeting on July 28-29, raising doubts in the market about new chair Kevin Warsh's determination and ability to combat inflation. Last week, the dollar index fell a total of 1.3%. It all began after the Fed meeting, said Francesco Pesole, a foreign exchange strategist at ING. Before that, the market was heavily long on the dollar. Looking at the positioning indicators, short-term investors were aggressively holding long dollar positions. Data released last Friday showed that bullish bets on the dollar had risen to the highest level since 2014 before the Federal Reserve meeting on July 28-29. Pesole believes that many traders are considering whether to establish structural short positions on the dollar. However, he also noted that the yen intervention is only a temporary measure, and the true determinant of the dollar's trajectory remains the Fed's policy path. Current pricing in the currency markets indicates a nearly 70% probability of a Fed interest rate hike next month, and the market has fully priced in an expectation of one rate hike this year. Mohit Kumar, a strategist at Jefferies, stated that unless there is a significant drop in oil prices, the Fed's inaction on inflation will undermine Warsh's policy credibility. Putting aside the intervention factor, I still believe the fundamentals remain unfavorable for the yen and favorable for the dollar, Kumar remarked. The pressure for the Fed to raise rates will only increase. U.S. detours through euros to avoid currency depreciation Strategists noted that to avoid putting further pressure on its currency, the U.S. Treasury may choose to use euros instead of dollars to fund yen purchases during this intervention. Since Japan initiated this round of intervention on July 30, the euro has weakened against most G10 currencies. According to insiders, at least two major U.S. banks received inquiries from the New York Fed last Friday (July 31) to confirm the exchange rate of the yen against the euro. Additionally, reports last week indicated that the New York Fed had sold euros and bought yen on behalf of the U.S. Treasury. David Forester, a senior strategist at Credit Agricole CIB in Singapore, stated, The U.S. likely does not want to be seen as selling dollars in the market. The U.S. adheres to a strong dollar policy and does not want to be interpreted as trying to gain a competitive advantage by weakening its currency, which would contradict the G20 consensus on the foreign exchange market. This operation of intervening in the yen through euros differs from previous market intervention methods used by the U.S.where it often directly intervened using dollars. According to the latest three-year central bank survey by the Bank for International Settlements (BIS), the euro is the world's second-largest trading currency, accounting for about 29% of the daily trading volume in the global foreign exchange market of $9.6 trillion as of April 2025. Jason Huang, a foreign exchange strategist at the Bank of New Zealand in Wellington, noted, If the Treasury directly sells dollars, it creates a bad impression, so they switched to euros. But the ultimate effect is still the samethe position will still need to be reallocated back to euros, and at that time, dollars may still be sold, just in a less transparent manner.