Reuters/Tokyo
Few in Japan seem to harbour any illusions that the latest efforts to tame the yen can push it away from record highs far enough and for long enough to make much of a difference. A look at forces behind the yen’s strength suggests possible lasting remedies—policies that would make the world’s No 3 economy less export-reliant and reduce its unwanted safe-haven appeal. The problem is most would take time and a political consensus that Japan sorely lacks, so in the meantime everyone sticks to a time-honoured ritual. The script goes like this: Exporters warn how expensive it has become to be patriotic and keep production at home, officials intervene or threaten to do so and offer subsidies and soft loans as painkillers, while markets take it all in stride. “This has little to do with the yen’s strength,” Takuji Okubo, chief economist at Societe Generale in Tokyo says about proposed subsidies to firms expanding local production and a $100bn credit line to help foreign acquisitions. “It’s all about lobbying. Bureaucrats approach companies and ask them what they want and they say this is what we want.” Analysts say companies that shop abroad to take advantage of the yen’s strength would have done so without extra incentives, while subsidies will not stem the “hollowing out” of the Japanese manufacturing. The yen is one of many reasons why companies are shifting production abroad: lower taxes, cheaper labour and proximity to markets that grow also count. Interventions and monetary easing by the Bank of Japan have helped keep aggressive one-way speculative bets on the yen in check, but there is widespread scepticism those can counter market forces supported by trade and investment flows. So what could work? In the near-term, Japan should focus on pumping reconstruction funds into the economy’s bloodstream rather than obsess about the yen, says Naomi Fink, equity strategist at Jefferies Ltd in Tokyo. “There’s ¥12tn reconstruction budget that waits for approval. Fiscal policy is of much greater importance than forex or monetary policy and they need to spend it.” In the longer run, Japan could for example start by encouraging more imports, opening up its markets via free trade pacts. Japanese business has lobbied for such pacts as a way to expand abroad, but they should also boost imports, particularly of agricultural products, lifting demand for foreign currencies. That is important because, despite the outcry over a strong yen, Japan remains a major net exporter and continues to chalk up considerable trade and current account surpluses that underpin the yen. More ambitiously Japan should tackle reforms aimed at reviving the domestic economy. They would have a two-fold effect: bring trade flows closer to balance, addressing one source of yen strength, and also make the economy less dependent on exports. Trade accounts for about a third of Japan’s economic output, not much more than in the US or the European Union as a whole and less than in China, Germany or France, according to the World Trade Organisation. But with shrinking working-age population and stagnant incomes, virtually all growth that Japan manages to eke out is driven by overseas markets. Masafumi Yamamoto, chief currency strategist at Barclays Capital in Tokyo, says corporate tax cuts advocated as a way of keeping businesses at home were needed, but were not a magical cure given stiff competition from low tax Asian rivals. The cures are well known, but applying the medicine would require breaking social and political taboos: immigration and traditional gender roles. “We are depending on external demand because domestic demand is very weak. In order to change that we need more businesses in Japan, but also more people,” Yamamoto says. “So the cost of raising children should be lower and restrictions on immigration should be eased.” Such reforms, would also address Japan’s biggest scourge - deflation. It is both the symptom of Japan’s long post-bubble hangover and a key reason for the yen’s appeal as a safe haven during down times and a funding currency for riskier investments during economic upswings. Deflation means the yen’s purchasing power increases over time making it a great store of value, which is key when fear rules. But record-low rates associated with it also make the currency of choice for carry trades where investors borrow in a low-yielding currency to buy riskier higher-yielding assets. Deflation is also one more reason for the yen’s upward bias. Compared with 1995, when it hit its previous high against the dollar, today’s yen buys slightly more goods, while the dollar a third less. To account for that the yen would need to trade at around 52 to the dollar rather than 76. As long as Japan doesn’t tackle the root causes of deflation, it may simply have to live with a strong currency. “Yen’s strength over time is only natural,” says SG’s Okubo. Trying to limit extreme appreciation while accepting some yen gains is probably the best the authorities can do.”