Even though Japanese Prime Minister Naoto Kan won this week’s DPJleadership election, parliament members were evenly split between him and his rival Ichiro Ozawa. While he is the first prime minister to keep his job through the autumn for five years, he will need to play considerable…
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‘politics’ to appease the Ozawa faction which may or may not be successful. In our view, near-term political stability will greatly depend on whether Mr Kan will give a significant role to Mr Ozawa and his supporters. This is entirely likely. In fact, in our view, Mr Ozawa has some interesting economic policies, one of which is to take more initiative on the currency.
It is therefore significant perhaps that a day after the election – as the yen reached a 15-year high of 82.88 vs the US dollar – an announcement was made that Japan had unilaterally sold the yen against the dollar, for the first time since 2004.
We do not think this intervention will necessarily work in changing exchange rates in the long term, but it does mark an important change in attitude. The move prompted concern from the US and Europe, yet the Nikkei rose 2.3% as exporters surged. The yen dropped to 85.6 vs the dollar, and bond markets rallied. Amid speculation that Japan could further intervene in the currency market, we make the following points:
• The value of the yen has far less impact on the Japanese economy than was the case in 2004, the last time the currency hit 80 to the dollar. This is primarily the case because companies have moved so much production offshore. This time round, our concerns are more focused on how the yen’s recent strength may lower profit growth in the corporate sector, whereas, in 1995, we were worried about whether exporters could survive.
• The Ministry of Finance (MoF) has intervened at roughly the levels that the yen hit 15 years ago, suggesting some sort of ‘line in the sand’. But inflation differentials over the last 15 years mean that the real exchange rate bears absolutely no relation to the level of 15 years ago.
We may debate endlessly the ineffectiveness of direct currency intervention, but the fact remains that something changed yesterday. The Japanese authorities (the MoF in this case) have actually done something. It may be ineffective in the long run but, compared to the policy inaction to date we think it’s a welcome change. And the timing? It may suggest that the pain threshold has increased to a level where a coherent economic policy becomes more likely.
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