Fears that Japan’s anti-deflation strategy is unravelling have intensified after a sharp rise in the value of the yen against the dollar prompted a concerted attempt by policymakers in Tokyo to talk down the value of the currency.
Japan’s finance minister, Taro Aso, raised the prospect of intervention on the foreign exchanges to counter what he called the “excessive” rise in the yen, which has gained 12% against the dollar since the start of 2016 to stand at a 16-year-high.
A weaker yen formed a central plank of the so-called Abenomics programme launched by prime minister Shinzō Abe in late 2012, since a depreciating currency pushes up inflation by making imported goods dearer.
But in recent months the yen has been climbing as a result of two factors. Financial markets believe that the Federal Reserve is wary of further increases in US interest rates and were unimpressed when the Bank of Japan failed to respond at its March meeting to the weakness of the dollar.
The result has been a flow of money out of the dollar and into the yen, which will make it even harder for the government in Tokyo to raise inflation – currently 0.3% – to the target of 2%.
“A rapid move toward either yen rise or yen fall is not desirable. It is desirable that currencies are stable at levels that match the economy’s fundamentals,” Aso said on Friday.
“As the G20 confirms, excess volatility and disorderly moves in the exchange market hurt (the economy), so we are watching currency moves with a sense of urgency. We will take necessary steps under certain circumstances,” he added.
Analysts at Capital Economics described Aso’s comments as “sabre-rattling” and said they were unlikely to be backed up with intervention on the foreign exchanges, in which Japan would buy dollars or sell yen to influence the level of the exchange rate.
The consultancy firm noted that Japan had signed up to a joint G20 pledge to refrain from competitive devaluations – attempts to secure a trading advantage at the expense of another country.
Instead, the Bank of Japan is expected to take further action to stimulate the economy in the hope that higher levels of activity will push up prices.
The options are limited, and amount to driving interest rates deeper into negative territory or expanding Japan’s quantitative easing (QE) programme.
But producing a package that will “shock and awe” the markets is not going to be easy. QE is becoming less and less effective, while the decision to push interest rates below zero has not gone down well with Japanese voters.
As a result, the risk is that the Bank of Japan’s response to a rising yen will be underwhelming when it meets at the end of the month.
The upshot of that would be a continuation of the yen’s rise, a threat of a further dose of deflation and the prospect of direct action on the foreign exchanges. With protectionism sentiment rising globally, that could start a currency war.
