Weak yen putting BOJ on collision course with Abe government

Tokyo

JAPAN may be headed towards a new kind of currency crisis in which the yen becomes "too weak" against the US dollar and other currencies - rather than too strong, as in the past. And what could trigger the crisis this time may be political stresses rather than economic problems, according to some analysts.

The yen recently slid below what they claim is a critical level of 125 to the dollar, marking a plunge of 40 per cent to a near eight-year low.

Meanwhile, charges (strenuously denied by the authorities) that Japan is "targeting" a weak yen threaten to sour relations with competitor countries.

Pressure to halt the unrelentless fall in the yen's value since Prime Minister Shinzo Abe's government came to power at the end of 2012 may come not from angry trading partners, however, but from within the Abe administration, which is becoming increasingly worried about the political fallout, some say.

"We do not believe Bank of Japan governor Haruhiko Kuroda draws the line at a certain (dollar-yen) level but we think the Japanese government may want to draw a line to prevent further decline," said former BOJ foreign exchange specialist Tohru Sasaki.

"We believe the government is concerned about further yen weakness," added Mr Sasaki, now chief foreign exchange strategist at investment bank JP Morgan. "Mr Abe and his two key economic advisers, (Etsuro) Honda and (Koichi) Hamada, have been expressing concern at the yen weakness."

The situation could pose a dilemma for the BOJ as Mr Kuroda's "missionary zeal" in pursuing a 2 per cent annual consumer price inflation target may require further yen-depreciating monetary easing, putting the central bank on a collision course with the government.

The yen's plunge (some 25 per cent since 2012 against a basket of leading currencies) is seen as being directly linked to the BOJ's massive monetary easing programme, and analysts say that further yen weakness is probable.

A growing view that the US Federal Reserve could begin raising interest rates from next month is likely to sustain upward pressure on the dollar while the fact that the BOJ's inflation target keeps slipping out of reach is seen by markets as likely to provoke further monetary easing in Japan by October.

Mr Kuroda has said repeatedly that he does not rule out further easing if inflation expectations do not respond to BOJ policies, and one source close to the central bank told The Business Times that the BOJ does not feel "constrained" by growing political concerns over yen weakness.

However, Mr Kuroda acknowledged last Friday in remarks after the regular monthly meeting of the central bank's policy board that while "the weak yen is positive for exports and companies operating globally, on the other hand, it hurts households and small firms via rising import costs".

Not just consumers "but also small and medium- sized corporates suffer from a weak yen", noted JP Morgan's Mr Sasaki. Smaller firms employ an estimated 85 per cent of the nation's total workforce.

"Mr Abe may not want (such) factors to damage his popularity among voters all over Japan after seeing a sharp decline in the approval rate of his cabinet ahead of the (2016 parliamentary upper house) elections," he said.

Market intervention strategy in Japan is dictated by the Ministry of Finance rather than the Bank of Japan and as a former vice-finance minister for international affairs, Mr Kuroda probably feels pulled in opposing directions, some economists say.

The central banker in him is committed to achieving the inflation target on which he has staked his reputation while the former finance ministry official in him is aware of the political risks in pursuing a target which some economists have labelled as "mission impossible".

A weak yen "is good for the Japanese economy, but probably not for Mr Abe's election prospects in 2016", said Mr Sasaki. "The number of voters who suffer from a weaker yen is probably much larger than those who benefit from it."

If the yen weakens further, "some industry groups in other partner countries may start criticising Japan", according to Mr Sasaki, and this could damage Japan's negotiating position in the Trans-Pacific Partnership (TPP) talks.

"Because of these political reasons in domestic and international settings, we think there are relatively large risks that government officials will try to talk down the dollar-yen rate if it continues to appreciate", Mr Sasaki said.

Mr Kuroda sparked a sharp reaction in foreign exchange markets recently when he noted in parliament that the real effective exchange rate of the yen (adjusted for inflation and other factors) has now fallen back to 1985 levels

Markets took this as a signal that the BOJ felt that the yen had now fallen far enough, forcing the BOJ governor to insist that his comment was not a reference to the yen's current nominal exchange rate.

"As agreed among G-7 nations, exchange rates should move in a way reflecting economic fundamentals," Mr Kuroda said last week after the BOJ policy board met. "If (rates) are moving so, it should be positive for the economy."

But, he added, "my remarks in parliament never talked about specific dollar/yen levels".