Japan records leap in currency-driven bankruptcies triggered by yen weakness

JAPAN’S weak currency caused the most bankruptcies for the first half of a year since 2022, underscoring the growing economic costs of the currency’s slump.

The number of firms that failed from January to June for that reason stands at 45, up more than 30 per cent from a year earlier, according to a report by Tokyo Shoko Research on Wednesday (Jul 1).

The figure was the highest since 2022, when the data firm started counting companies that specifically cite currency weakness in filing for bankruptcy.

The findings suggest the smaller firms that employ most of Japan’s workers are finding it increasingly difficult to withstand the yen’s prolonged weakness, casting a shadow over the nation’s economy, even as exporters benefit. 

The data also strengthens the case for continued interest-rate hikes from the Bank of Japan. While higher borrowing costs alone would typically push more firms toward insolvency, closing the gap with US rates could help support the yen.

The yen has steadily weakened against the dollar in recent years as US interest rates climbed to combat pandemic-era inflation while Japanese rates were negative to break free of deflation.

While the rate differential has since narrowed, a rally in the dollar and high oil prices from the war in Iran are pressuring the yen.  

The yen continued to trade past 162 per dollar on Thursday, around its weakest levels since 1986. While the weaker currency has boosted exporters’ earnings, it has also driven up import costs, squeezing profit margins across a broad range of import-dependent industries. 

The conflict in the Middle East has also drastically boosted costs.

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A price index for raw materials and merchandise purchases among a broad range of smaller firms surged in the second quarter, according to a survey by the Organization for Small & Medium Enterprises and Regional Innovation.

The Bank of Japan’s producer price index has also jumped in recent months.

Tokyo Shoko Research’s report showed bankruptcies were particularly concentrated in the wholesale sector.

One example was Tokyo-based Merry Time Foods, an importer of crab, shrimp and tuna from other parts of Asia. The company went bankrupt in May, citing deteriorating profitability due to the weak yen and political instability in its supplier countries.

The research firm said in the report that currency-related bankruptcies are likely to remain elevated for some time, particularly among wholesalers, retailers and manufacturers with limited pricing power.

The strain has been acute for small- and mid-sized businesses, who are more affected by higher borrowing costs than their larger counterparts.

These businesses are also contending with mounting wage hike pressures amid persistent labour shortages. Smaller firms often have limited ability to pass higher costs to customers due to intense competition.

“The weak yen is one contributing factor,” said Yoshihiro Sakata, manager at Tokyo Shoko Research. “Combined with inflation and rising labour costs, it is creating a cumulative burden on businesses.”

Another source of pressure on smaller businesses may be foreign-exchange hedging, including the use of so-called reverse knockout options, according to Yuji Saito, executive adviser at SBI FXTrade.

Such products are widely sold by regional banks as structured hedging products, particularly to small and regional importers seeking to minimise upfront option premiums.

Once the exchange rate reaches a preset knockout level, the option expires and the hedge ceases to provide protection.

Companies needing dollars must then either purchase them in the spot market, enter into a new hedge – often at less favourable levels – or leave themselves exposed to further currency moves.

“The weaker the yen gets, the more importers roll into increasingly risky option structures,” Saito said.

“Once the knockout level is breached, they are forced to buy dollars in the spot market, creating a negative spiral that puts even more downward pressure on the yen.”

Analysts estimate that remaining reverse knockout levels are clustered between 163 and 170 yen per dollar, territory that many firms didn’t think the currency would reach. 

“The number of knockouts could increase if the yen weakens further,” said Hiroyuki Machida, director of Japan FX and commodities sales at Australia & New Zealand Banking Group.

“The situation is becoming significant for companies that are unable to pass on higher costs.” BLOOMBERG