Japan’s economy shrank almost 10 percent in the half decade since Shinzo Abe was last prime minister, as a soaring yen hollowed out manufacturing. Abe’s return may be exporters’ best chance yet to halt the damage.
Abe’s calls for unlimited central bank liquidity have taken the yen down about 5 percent against the dollar since mid-November, as his Liberal Democratic Party led pre-election polls, then romped to victory Dec. 16. Futures traders boosted bets on yen declines to the most since July 2007, when the currency traded around 120, compared with about 84 today.
The wagers reflect a groundswell of concern among policy makers including Abe and outgoing Economy Minister Seiji Maehara that the Bank of Japan hasn’t enacted sufficient monetary stimulus to end deflation and revive the economy. Critical to the yen’s outlook will be whether Abe can secure BOJ action to set and achieve an inflation target, according to Jim O’Neill.
“If the BOJ starts to treat inflation targeting as a genuine target and not a goal, then it is very important and could result in notable yen weakness,” said O’Neill, chairman of Goldman Sachs Asset Management in London. “The yen has been unjustifiably overvalued since the Lehman collapse,” he said, referring to the September 2008 demise of Lehman Brothers Holdings Inc. that tipped the world into a recession.
An “equilibrium” level for the yen against the dollar would be closer to 105, said O’Neill, who previously served as chief economist and as chief currency economist at Goldman Sachs. A level between 100 to 120 is possible in the next one to two years, he said.
Japan’s Chamber of Commerce and Industry, a business lobby, on Dec. 19 urged Abe to aim for a yen at about 85 to 90 per dollar by the summer. The LDP chief is poised to become prime minister in a special session of the lower house of parliament on Dec. 26, after his party’s coalition secured a majority in this month’s elections, sweeping the Democratic Party of Japan from power.
The yen’s tumble has ignited the nation’s stocks, with Toyota Motor Corp. climbing 24 percent since mid-November and seeing the most buy recommendations in nearly five years, according to analysts’ ratings tracked by Bloomberg. The Nikkei 225 Stock Average this week rose above 10,000 for the first time since April. The benchmark was down 0.8 percent as of 2.27 p.m. in Tokyo today amid concern over a lack of progress on U.S. budget talks. The yen was at 83.96.
Robert Feldman, the head of Japan economic research at Morgan Stanley MUFG Securities Co. in Tokyo, says the boost to earnings and stocks from a weaker currency should flow through to consumer spending and capital investment. Toshiba Corp., which has businesses from nuclear reactors to home electronics, says that every 1-yen gain against the dollar and euro cuts its annual operating profit by 5 billion yen ($60 million).
Abe, 58, wants the central bank to adopt a 2 percent inflation target, a contrast with its current policy of having a goal of 1 percent. BOJ Governor Masaaki Shirakawa and his colleagues yesterday said they will reconsider their approach to consumer prices next month.
The incoming leader’s views have evolved since 2006, when he backed the BOJ in raising interest rates -- a move he now says was a mistake. Bruce Kasman, chief economist at JPMorgan Chase & Co. in New York, said this month that the world’s third-largest economy may be on the verge of an historic shift, akin to the late 1970s in the U.S., when American policy makers’ ended their toleration of trenchant inflation.
In Japan’s case, the economy has been gripped by deflation since the late 1990s caused by burst stock and land-price bubbles, and the ensuing hobbling of the financial system by non-performing loans.
“I don’t think we’ve really seen an aggressive and committed effort to get Japan out of deflation,” Kasman said. “Political pressures are shifting in a way that may produce that fight.”
The next administration will have the power to nominate a replacement for Shirakawa, who’s term is due in April, along with the two deputy governors who exit in March. Two entrants to the policy board this year have already pressed for bolder monetary action, giving Abe the chance to forge a majority on the board that supports expansive stimulus.
Abe’s ascendance coincides with other dynamics undermining the yen’s appeal. The currency has soared 35 percent in the past five years as the U.S. mortgage meltdown, global credit freeze and Europe’s debt crisis burnished the appeal of Japan’s status as the world’s largest net creditor.
Now, a recovering American economy, diminished risk of a euro-zone break-up and a widening Japanese trade deficit make the yen less of an attraction. In November, the trade shortfall was the third-largest on record, a reflection of the increased cost of energy imports in the aftermath of Japan’s nuclear-industry shutdown and in part the decisions by exporters to shift production overseas.
“The weakening of the yen isn’t just a reflection of the government’s policies in recent months,” said Osamu Takashima, Tokyo-based chief currency strategist at Citigroup Inc. “It reflects a slow-motion decline of the economy overall.”
Morgan Stanley and UniCredit SpA see a revival of the so-called yen carry trade, which helped to fuel a 17-percent decline in the currency between January 2005 and June 2007. Under the trade, investors take advantage of Japan’s low borrowing costs to buy assets where returns are higher.
The difference in the number of wagers by hedge funds and other large speculators on a decline in the yen compared with those on a gain -- so-called net shorts -- was 94,401 on Dec. 11, compared with 90,326 a week earlier, figures from the Washington-based Commodity Futures Trading Commission show.
The median forecast in a Bloomberg News survey of 20 analysts after the Dec. 16 election was for the currency to slide to 86.5 per dollar by the end of next year.
Any fillip to exports from exchange-rate depreciation would come at a welcome time for the economy, which was 9 percent smaller in the third quarter than it was in the final quarter of Abe’s last term in office, unadjusted for changes in prices, according to data compiled by Bloomberg.
Gross domestic product contracted at an annualized 3.5 percent pace in July through September, unadjusted for prices. The BOJ on Dec. 20 said that weakness in the economy had deepened “somewhat.”
Profits reported by companies on the Nikkei 225 show the cost of yen gains and economic decline, with a slide of about half over the past five fiscal years, according to data compiled by Bloomberg. Manufacturers from Panasonic Corp. to Nissan Motor Co. have moved production overseas.
Yen weakness in 2013 isn’t assured. Low U.S. interest rates discourage investors from buying dollars, and any aggressive move by Japan to undermine its currency may incur criticism from global policy makers.
“My concern is that in 2013 we’ll see the growth of actively managed exchange rates as an alternative to the use of domestic monetary policy,” Bank of England Governor Mervyn King said in a Dec. 10 speech in New York.
King’s remarks were a warning to Japan, said Mansoor Mohi-uddin, global head of currency strategy at UBS AG in Singapore. If Japan does act then investors would probably sell the yen for the dollar, euro, Singapore dollar and Korean won, he said.
Monex Europe Ltd., the top dollar-yen forecaster in Bloomberg Rankings for the six quarters through Sept. 30, sees the currency at 80 at the end of 2013 as Japan’s monetary expansion has only a limited effect and flare-ups in Europe’s crisis drive haven demand. “Despite Abe’s apparent aggressive attitude towards the Bank of Japan,” his previous stint as premier ended with a strengthening of the currency, said Michael Quinn, a senior trader for the company.
Exporters may be hoping for a different outcome after shipments slid for a sixth straight month in November on weakness in demand in China and the European Union.
“Sell the yen,” said Masafumi Yamamoto, chief currency strategist at Barclays Bank Plc in Tokyo and a former BOJ official, who predicts the currency will be at 90 per dollar in a year. “The period of the strong yen is over.”