THE YEN WAS THE BEST-PERFORMING CURRENCY OF 2011 — despite government-orchestrated intervention aimed at weakening the unit. The Bank of Japan managed to push it down 10 percent in the first quarter of this year by easing monetary policy, but the currency has since rebounded by half. Will the Ministry of Finance be tempted to try its hand at intervention once again? Several factors have buffeted the yen in recent months, according to Alan Ruskin, global head of Group of Ten foreign exchange strategy at Deutsche Bank Securities in New York. One of the biggest was a record current-account deficit of ¥437 billion ($5.4 billion) in January, mainly because Japan had closed 52 of its 54 nuclear power stations after the Fukushima reactor accident and had to import much more oil. Also, exports of products such as cars and electronics fell sharply in the wake of the disaster. A deteriorating trade balance suggested that the government might resort to intervention and contributed to the currency’s weakness.
More significant was the BoJ’s February 12 announcement of fresh quantitative easing in which the bank would buy ¥10 trillion worth of government bonds, the fifth such round of purchases since 2010. Like the Federal Reserve in the U.S., which adopted a similar strategy two years ago, the Japanese central bank was trying to drive down the yield on the government’s benchmark two-year bonds. The BoJ also announced an inflation target of 1 percent, signaling to traders that it would actively keep interest rates down to encourage inflation.
Both moves made an immediate impact. The yen, which began the year at 76 to the U.S. dollar, sank to 78.44 on February 16 and reached 83.71 on March 22. That was a decline of more than 9 percent in less than three months.
Ironically, quantitative easing succeeded where several rounds of intervention had failed. The BoJ, which acts on behalf of the Ministry of Finance, spent roughly ¥14 trillion in 2011 trying to keep the yen down, without much in the way of results.
One reason may have been the crisis in Europe, which made the yen a safe-haven currency. “Japanese investors repatriated a lot of money in the second half from Europe, and that pushed the yen to a really strong level,” says Jens Nordvig, New York–based global head of foreign exchange strategy at Nomura Securities International. “When the risk comes out of the markets, the yen typically performs poorly, and I think that the yen weakness in February and March was just this relaxation.”
The latest setback for the yen was March’s disappointing U.S. job numbers, which were reported in mid-April. Currency traders worry that the American economy might slip back into recession, causing the Fed to embark on more of its own quantitative easing. Such fears have prompted investors to sell the greenback and buy the yen again. As a result, the Japanese currency climbed more than 5 percent from its March lows.
The yen’s fall and rise has everything to do with yield, says Simon Derrick, London-based chief currency strategist at Bank of New York Mellon Corp.: “The history of the past decade has been about Japan’s search for high yields overseas.” Derrick notes that the yen really began to weaken in 2001, when the BoJ adopted a program of quantitative easing and Japanese investors first looked offshore for higher yields.
Recent BNY Mellon data shows that after the BoJ turned to quantitative easing in February, money poured out of the yen and into the Australian dollar, which had much higher interest rates than in Japan. But when a slowdown in China sank the outlook for commodity-producing Australia, that money flowed back into Japan, causing the yen to rebound, Derrick says.
At its April 10 meeting, the BoJ didn’t mention the yen-dollar exchange rate and left its benchmark overnight call rate unchanged at zero to 0.1 percent, a sign that the yen’s current state doesn’t bother the central bank. The government, which is more sensitive to exporters’ concerns, reacted differently. “I feel the size of daily fluctuations has been a bit large, but I will look at the situation further,” remarked Finance Minister Jun Azumi, leading some analysts to conclude that intervention was again on the table.
But such a move could raise tensions with Europe and the U.S., which criticized Japan’s interventions last year. “Rather than reacting to domestic ‘strong yen’ concerns by intervening to try to influence the exchange rate, Japan should take fundamental and thoroughgoing steps to increase the dynamism of the domestic economy, increase the competitiveness of Japanese firms — including those in utilities and services — and raise potential growth,” the U.S. Treasury Department said in a December 2011 report to Congress.
Given a reluctance to face embarrassing criticism as it prepares to host the annual meeting of the International Monetary Fund in October, Japan is moving cautiously on the currency front. But on April 27 the BoJ bought another ¥10 trillion in government bonds, further evidence that the Japanese don’t want the world’s best-performing currency again in 2012. • •
