Commentary: Japan Can Rise Above A Rising Yen

Companies are stronger -- and less dependent on U.S. trade -- than ever

The Japanese government has left no doubt that it is as determined this year to hold down the rise of the yen as it was in 2003. In January alone, the Bank of Japan spent a mind-boggling $68 billion in an effort to weaken the yen, on orders from the Finance Ministry. Yet the dollar has continued to drop, after falling almost 10% last year.

Japan's finance mandarins should relax. The Japanese can't change the U.S. budget and trade deficits, the real reasons for the dollar's fall. More important, the BOJ's actions reveal an almost hysterical insistence that Japan's trading relationship with the U.S., which accounts for a quarter of its overall trade, just can't function without a weak yen to boost its shipments of DVD recorders, digital cameras, and cars. The fact is, Japan is a lot tougher than the government's actions would indicate -- tough enough to take a stronger yen.

Hard to believe? Talk to some of Japan's top executives, and you'll find a surprising level of equanimity. Big exporters, such as Honda Motor Co. (HMC ), are confident that they'll be able to stay profitable "even at a rate as low as 100 yen to the dollar," says Satoshi Aoki, Honda's senior managing director for finance. "There's not nearly as much impact as in the past."

The reasons are clear. For one thing, Honda and other Japanese auto makers have spent years bolstering their defenses against a weaker dollar. They've shifted production from Japan to key markets such as the U.S. and increased local procurement of parts. Yen swings just don't affect sales generated by those Japanese factories in Alabama and Ohio.

The best-run factories in Japan are less affected, too. After years of quiet restructuring, the consequences of a rising currency aren't what they were. Production has been trimmed and job growth rolled back. The result: Although statistics are hard to come by, Japan's manufacturing productivity appears to be on the rise -- and with it the ability to absorb the shock from a stronger currency. For instance, Canon Inc. came through the latest round of endaka, or yen appreciation, with flying colors, posting a record net profit of $2.62 billion for 2003. It offset $70 million in currency-related losses with a $1 billion belt-tightening drive, in the process boosting output per worker.

The other factor in Japan's favor is that the U.S. is no longer the be-all and end-all of its trade policy. Japanese auto makers and other companies have sought out new business in other Asian markets, such as China. Plus, Japan is benefiting from a decline in the value of its currency against the euro -- the yen fell 7.7% against the euro last year -- which is providing a crucial boost to exports bound for the euro zone. The upshot: Japan Inc. is in its strongest position in years, weak dollar or no. "The Japanese economy is much less sensitive to the yen-dollar relationship than it used to be," says Peter Morgan, chief economist at HSBC Securities Inc. in Tokyo.

Of course, a further plunge in the dollar could still be painful for Japan. Last year, for example, exports of manufactured goods dropped 14%. But economists say more modest currency movements no longer make or break corporate profits, since trade is not exclusively reliant on the U.S. According to a recent report by Goldman, Sachs & Co. (GS ), Japan's trade with China and Hong Kong combined make up about 18% of the total, up from 6.7% in the early 1990s. Goldman predicts that "exports to China will overtake exports to the U.S. over the next year or two."

Although the Chinese currency is pegged to the dollar, and therefore has fallen vis-à-vis the yen, that hasn't made much of a dent in bilateral trade. China trade, in fact, is Japan's sweet spot. While the Chinese snap up industrial goods, Japanese consumers eagerly buy cheaper made-in-China wares. Japan benefits from the weak yuan in another way: Japanese-owned factories in China now flood the U.S with goods, resulting in a flow of steady profits to Japanese parent companies.

So why do the Japanese keep fighting a losing war to contain the yen? Tokyo is hoping to arrest the decline enough to give Japan's weakest companies more breathing room. Better instead to focus on the unfinished restructuring of Japan -- and use the strong yen to force less competitive exporters to shape up. This time Japan Inc. can take it.

By Chester Dawson

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