War Not Worth Winning as G-20 Debates Yen Intentions

The currency war probably isn’t worth winning.

As Group of 20 finance chiefs meet in Moscow today amid concern Japan is chasing a weaker yen, Citigroup Inc. and HSBC Holdings Plc say a lower exchange rate may not be an economic panacea. Previous declines in the 1990s and early 2000s failed to pull the nation clear of 15 years of deflation. Growth in U.K. exports has slowed even after a drop of more than 20 percent in the trade-weighted sterling since mid-2007.

While a declining currency should make exports cheaper to foreign buyers, it also hurts import-reliant companies and masks competitive weakness. The risk is that any benefits are wiped out and foreign retaliation sparks competitive devaluations.

“You can’t depreciate your way to prosperity,” said Steven Englander, the head of Group of 10 currency strategy at Citigroup in New York. “It’s a last resort and unlikely to succeed nearly as well as advertised.”

Exchange rates top the agenda for finance ministers and central bankers as they hold two days of talks, amid concern international tension will escalate as countries each try to maintain their market share. The yen’s 15 percent drop against the dollar since mid-November has provoked policy makers from Canada to Germany to question how central the currency is to Japanese Prime Minister Shinzo Abe’s attempt to end deflation.

Whipsawing Currencies

Conflicting interpretations of a Feb. 12 statement from the Group of Seven nations caused the yen to whipsaw. It fell as much as 0.4 percent against the euro, before jumping 1.2 percent, as investors initially viewed the comments as accepting a decline, only for officials to then split over whether Japan was being singled out for criticism.

The G-20 finance chiefs will release a statement tomorrow reaffirming a pledge to avoid competitive devaluations and to support market-based exchange rates, according to an official from a G-20 nation familiar with the drafting of the statement. They will not echo the G-7’s pledge to avoid using policy to target currencies, the official said on condition of anonymity.

Russian Deputy Finance Minister Sergei Storchak said today that the communique won’t include the words “currency war,” and Russia won’t issue a separate statement on Japan.

Japanese Prime Minister Abe’s two-month-old government has spurred declines in the yen as it pushed for monetary stimulus to reverse deflation, arguing a weaker currency is a byproduct of its policies, not a target of them.

Wage Increases

Exchange-rate depreciation has already boosted corporate profits, Abe told lawmakers in Tokyo on Feb. 12, citing a survey of more than 1,000 companies. The Nikkei 225 Stock Average has rallied 21 percent in the past year, almost double the gain of the Standard & Poor’s 500 Index.

“As companies’ profits improve they will reach employees in the form of wage increases as well as investment and increased hiring,” Abe said.

Even so, Toyota Motor Corp., Japan’s biggest manufacturer, has yet to indicate any plans for growth at home. Takahiko Ijichi, a senior managing officer at the Toyota City-based company, said on Feb. 5 that “our focus now is to eliminate costs as much as possible and to keep fixed costs low, not to expand.”

Akio Toyoda, president of the carmaker, said today the yen is correcting from “excessively” strong levels.

Manufacturing jobs in Japan fell below 10 million in December for the first time since 1961, a report by the statistics bureau showed on Feb. 1.

‘Ugly Correction’

“Despite all the sentiment that Japan will finally break its deflationary expectation and come out of its 20-year morass, my bet is that it’s not going to happen,” Jan Dehn, co-head of research at Ashmore Investment Management Ltd., which manages $71 billion, said in an interview in London. “Companies aren’t investing a lot. There is no obvious solution. It’s probably going to end up with some major, ugly macro correction.”

Japan is not alone in acknowledging a weak currency would aid its economy. Bank of England Governor Mervyn King said two days ago that the U.K.’s recovery may require a weaker pound, although he also said it was for investors to set its value.

French President Francois Hollande called for coordinated government action to steer the euro’s exchange rate on Feb. 5, arguing that the currency’s 14-month peak against the dollar made it harder for Europe’s recession-hit economy to recover.

Bundesbank President Jens Weidmann disagreed, saying any “exchange-rate policy to specifically weaken the euro would lead to higher inflation in the end.”

Weidmann, also a council member of the European Central Bank, said in a Feb. 13 interview that an appreciating euro alone won’t trigger a cut in interest rates and the exchange rate’s gains are justified by the economic outlook.

Yen Slide

Riksbank Governor Stefan Ingves said Feb. 13 that he was “happy” with the level of Sweden’s krona even as it rose that day to the strongest level against the euro since Oct. 1. U.S. Treasury secretary nominee Jack Lew also said the same day he would maintain a strong-dollar policy if he were confirmed.

The yen has tumbled 19 percent in the past six months, the worst performer among 10 developed-nation currencies tracked by Bloomberg Correlation-Weighted Indexes. The euro rose 7.2 percent, while the pound declined 3.4 percent.

The Japanese currency depreciated to 94.46 per dollar on Feb. 11, the weakest level in almost three years. It weakened 0.5 percent to 93.35 as of 2:47 p.m. London time today.

Kozo Yamamoto, a Japanese lawmaker in Abe’s ruling party, said in an interview yesterday that a race to devalue currencies would spark global growth, signaling that an exchange rate of 95-100 yen to the dollar would be appropriate.

Side Effects

With a sustained 10 percent drop in the yen against the dollar, Japan’s gross domestic product could be boosted by 0.6 percent in the third year, HSBC economist Izumi Devalier said. It may also bring unwelcome side effects because the nation’s reliance on foreign energy supplies is rising, she said in a Feb. 6 report. Energy accounted for 47 percent of all Japanese imports last year, from 34 percent in 2010, according to HSBC.

“Small- and medium-sized enterprises may be hit especially hard as a lack of pricing power leaves headline sales unchanged while costs rise, squeezing bottom lines and limiting the trickle-down effects of an export-led boom,” she wrote.

At Citigroup, Englander said that to change relative prices on the international markets would require a deeper decline in the yen than has been the case so far. A study by economists at the Federal Reserve Bank of New York showed large movements in exchange rates typically have smaller effects on prices because the biggest exporters are typically the top importers, too, so there are offsetting effects on their costs.

Deeper Dive

“To stimulate growth or crowd in exports you have to do a lot of depreciation,” Englander said.

From 1994 to 2003, the International Monetary Fund estimates Japan’s economy grew an average of 0.9 percent, about a third the pace of all advanced nations. That’s despite back-to-back annual declines of more than 10 percent for the yen versus the dollar in 1996-1997 and 2000-2001.

“Depreciation can provide a helpful temporary boost, but is not a long-term substitute for faster productivity growth, stronger competitiveness and sound macro policies,” said Marco Annunziata, the chief economist at Fairfield, Connecticut-based General Electric Co., the world’s largest maker of jet engines and medical-imaging equipment.

A falling currency can also undermine an economy’s competitiveness by making its companies vulnerable to foreign takeovers and removing an incentive for businesses to innovate, said Axel Merk, president and chief investment officer at Merk Investments LLC in Palo Alto, California.

Questionable Benefit

While the Bank of England’s King said a weaker pound has had a significant impact on U.K. exports, an analysis by his staff questioned the effect and suggested not all of the pound’s decline has been passed on by companies.

Shipments abroad grew 0.4 percent a quarter on average since the start of 2009, half the pace of the previous decade, and less than those of the U.S. and the biggest European economies, the Bank of England said in its quarterly Inflation Report. Net trade subtracted 0.4 percentage point from the U.K. economy in the third quarter of last year.

“Japan is trying to have the ugliest currency and succeeding,” said Erik Britton, a former Bank of England economist and now a director of Fathom Consulting in London. “Whether that will benefit the economy is unlikely, as it hasn’t helped the U.K.”