April 9, 2016

From lows of 121.7 per dollar and 132.3 per euro on January 29, the Japanese yen appreciated 13.0% and 8.0%, respectively, over the ensuing 9-1/2 weeks to highs last Thursday of 107.7 and 122.6.  The onset of this rally paradoxically coincided with the announced introduction of a negative interest rate by the Bank of Japan policy Board, which was meant in part to weaken Japan’s currency further.  Japanese officials have recently protested the abrupt advance of the yen in a verbal way, calling such undesirable and hinting at the possibility of policy counter-measures including currency market intervention.

Viewed broadly, present yen levels do not look excessively pricey. 

  • Dollar/yen since the start of 2013, around when Abenomics was launched, has averaged 108.8, very close to the current level.
  • The yen’s peak against the dollar was only marginally more than 5% stronger than its average value since the start of 1987.  It’s still weaker than its 10-year mean of 100.3 and very comparable to its 20-year average of 108.2 per dollar.
  • The yen has recently climbed much less in trade-weighted terms than against the dollar or euro.
  • Japan’s current account has returned to surplus, and such is improving rapidly.  February’s surplus was 64% bigger than a year earlier.  This year’s surplus is likely to be 3.5% of GDP or larger.
  • When The Economist most recently updated its Big Mac index for currencies on January 6, the yen was found to be almost 40% undervalued on this measure which is based on purchasing power parity theory that currency movements in the long run tend to offset divergences in relative inflation.
  • Because Japan has had chronically lower inflation than other economies including the United States, one would expect the yen to have climbed over the past ten or twenty years.  Japan’s GDP price deflator fell 0.6% per annum in 2005-15 and by 0.8% per year during the last two decades of time.
  • The yen has been much stronger than present levels, reaching highs of 75.55 per dollar in 2011, 76.00 in 2012, 86.50 in 2013, and 100.75 in 2014.  As long ago as April 19, 1995, dollar/yen touched an extreme of 79.85.  To be sure, the yen is now pricier than its whole 2015 trading range of 125.86 to 115.86, but its not extraordinarily stronger than last year’s range ceiling.

Japan’s part experience with currency market intervention has been not especially successful and very controversial.  Intervention has been asymmetric, used almost exclusively to counter yen appreciation and almost never at times when the currency has depreciated.  These days currency warfare is a sensitive subject in the Group of Twenty and among the wider audience of all nations.  The U.S. is in an election year with several of the candidates outright hostile to anything resembling currency manipulation.  It’s one thing for Japanese officials to hint that intervention might be used, but quite another thing to make good on the threat.  Intervention would be unilateral, missing one of the cardinal rules that intervention tends to be more successful when multiple governments act in concern and with a unity of purpose.

The biggest risks of intervention stem from the fact that yen appreciation now undermines Japanese policy objectives of avoiding recession and lifting core inflation to 2.0%.  Core CPI was at zero in both January and February, and real GDP was negative in two of the last three quarters.  A rising yen depresses the prices of imports and import-competing domestic goods and, other things being equal, makes companies less likely to invest in capital equipment or agree to the kind of wage increases that the government wants to see.   Weak GDP growth is not a new story.  Real GDP expanded 0.7% per year over the twenty years through 2015, and nominal GDP was unchanged in that period.  The kind of growth experienced in Japan shouldn’t be compared straight up to what the United States has experienced, for example.  Because of declining population, Japan needs less economic growth than other countries to match their per capita pace, that’s what determines the standard of living.  Japan has an enviably low unemployment rate of 3.3%.

Copyright 2016, Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.



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