Widening Divergence Aids Dollar, but No Currency War
Some journalists, like Ambrose Evans-Pritchard of the U.K.’s Telegraph and Michael Casey of the Wall Street Journal, have already claimed this to be a shot in the currency wars. Casey focuses exclusively on the BOJ activity and does not even mention GPIF. Evans-Pritchard spends most of his time talking about the bearish yen implications of the increased BOJ purchases, and mentions GPIF only at the very end of the his essay, and even then to dismiss it as “a clever way for Japan to intervene in the currency markets to hold down the yen.”
Why hasn’t the world responded to the more than 30% depreciation of the yen under Abenomics? Casey warns us it is just a matter of time, but offers no explanation for why, as he recognizes that “the biggest players in the global monetary system have mostly resisted direct tit-for-tat responses to Japan’s yen-weakening moves over the past two years.” Evans-Pritchard suggests that the QE was launched when the yen was terribly over-valued, but this time it is not.
Casey and Evans-Pritchard are well versed in economic theory. A weaker currency is supposed to boost exports and squeeze Japan’s competitors. In practice, the situation is considerably more complex. Japanese companies do not appear to be using the weaker yen to gain market share as economic theory would suggest. Indeed, Casey’s colleague at the Wall Street Journal, Takashi Nakamichi noted at the end of July, “[Japan’s] export volumes have hardly budged. Many manufacturers opted to keep their export prices little changed to enjoy inflated foreign earnings”.
In September, the most recent data available, China’s exports were up over 15% on a year-over-year basis. Despite the pressure on the yen-yuan rate that Evans-Pritchard notes, it is hard to make a case that the weakening yen has sapped Chinese exports. Both Casey and Evans-Pritchard cite South Korea as another victim of Japan’s attempt to drive the yen lower. South Korean exports were up nearly 7% in the year through September over the comparable period in 2013. Moreover, we note that in both of this year’s U.S. Treasury reports on foreign exchange and the international economy, South Korea was cited for not permitting more currency adjustment. The OECD measures of purchasing power parity have the won some 25%.
In market lore, Japanese postal savings, like Kampo, was thought to time its purchases and sale of foreign currencies to assist MOF objectives. The long-discussed changes to the allocation of the government’s largest pension fund cannot be regarded as intervention, regardless of appearances. Motivations matter. The movement of assets out of low-yielding Japanese fixed income market is aimed at enhancing returns and addressing the looming pension challenge in the aging Japanese society. Similarly, if Calpers, (California Public Employees Retirement System) changes its allocation to boost holdings of foreign assets, it too is not intervention.
That neither the expansion of QE nor the diversification of Japanese pension money reaches the threshold of currency manipulation does not mean that Japan’s strategy will not face objections. This more aggressive monetary policy stance, and augmented by the diversification of Japanese savings seems to be instead of the kind of structural reforms that will boost Japan’s growth potential. The first arrow of Abenomics, fiscal stimulus, was blunted by the sales tax increase. The third arrow of Abenomics, structural reforms, have largely disappointed local and international investors.
Japanese policy makers have resorted to the easy course, relying ever more on the second arrow. The BOJ’s new measures mean that it will be expanding its balance sheet about 1.4% of GDP a month. This is around three times Fed’s QE pace. And even with this, the BOJ cut its forecast for inflation in FY15 to 1.7% from 1.9% and left its forecast for growth unchanged at 1.5%. The world needs a stronger Japan, and it is not clear that Japan has found that path yet.