Why Japan’s FX intervention might actually work

By Felix Salmon
September 15, 2010
trying to push it down.

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Has a central bank ever intervened successfully in the foreign exchange market when the momentum trade was against it? The yen has been rising alarmingly of late, and now the Bank of Japan is trying to push it down.

At first glance, the action looks like a something-must-be-done-this-is-something-therefore-this-must-be-done move: a new prime minister and a “bold action” doomed to be proved ineffectual. The FX markets are so enormous (dollar/yen alone trades some $750 billion per day) that it’s hard to believe a single sale of less than $20 billion in yen could even have the short-term effect we saw last night, let alone have any lasting consequences.

But this isn’t just about FX-market intervention. This is also about monetary policy, and that could make a real difference:

Unlike in previous forays, the Bank of Japan will not drain the money flowing into the economy as a result of the yen selling, sources familiar with the matter said.

That indicated the central bank plans to use the sold yen as a monetary tool to boost liquidity and support the economy.

Authorities that sell their own currencies to weaken them often issue bills to “sterilize” the funds and keep the excess money from becoming inflationary. In Japan’s case, it wants to promote inflation since the economy has been dogged with deflation for much of the past decade.

“The government’s aim, and the aim of authorities in general, is to add monetary injections to the economy,” Callum Henderson, global head of foreign exchange strategy with Standard Chartered in Singapore, told Reuters Insider.

“Unsterilized intervention should be yen-negative, it should be very bullish for higher risk assets, very bullish for stocks in Japan and obviously it should add to the impact of the intervention of the yen,” he said.

In other words, the Bank of Japan isn’t simply selling yen, it’s printing yen. (And then selling them.) Given (a) that it’s the central bank and that it can print as many yen as it likes, and (b) that it would actually welcome a bit of inflation, there’s actually a non-negligible chance that this kind of non-sterilized intervention could work.

Of course, a hint of inflation in Japan could end up driving Japanese bond yields up. That in turn could make a huge difference to the government’s annual interest bill on the country’s monster national debt. So this kind of policy is hardly cost-free; indeed, the real costs might well be much larger than the nominal size of the intervention. But at least it has a chance of making a difference, which is more than you can say for most currency interventions.


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Since printing money is pretty much free for central bankers, surely the ONLY costs are the extra interest charges?

Posted by FifthDecade | Report as abusive

The key, I suspect, will be investor perceptions. When a government sells off its currency but attempts to sterilize it, there are always speculators willing to bet against the success of the move – they know that the tolerance of the government for inflation is finite, and its willingness to hold the line limited.

The clever aspect of Japan’s move is that currency speculator would be dumb to bet against it. In fact, it’s entirely possible that the most dramatic effects will stem from the announcement and implementation of the policy weakening the Yen on world markets in anticipation of the actual sales.

As for inflation? Small risk, small cost. That debt will be even harder to pay off if Japan’s export-based economy stumbles over an expensive currency. It’s already in a bad situation. At least the intervention offers a reasonable way forward, and the chance of a solution; it’s tough to see how inaction will solve the problem.

Posted by Cynic | Report as abusive

Higher Japanese debt interest costs are muted as the BOJ holds a lot of Japan’s debt (Krugman: “net debt is about 100 percent of GDP, not 200, because the BOJ holds so much of it”:

http://krugman.blogs.nytimes.com/2010/09  /09/lost-in-translation-2/

I’m curious to see what kind of trade sanction response may come shortly, particularly against China:

http://www.polycapitalist.com/2010/09/ba nk-of-japans-currency-intervention.html

Posted by Polycapitalist | Report as abusive

I saw a good blog post on this – the US prints money as fast as possible, so Japan’s response should be to print money even faster and buy up the US money with its money and then burn the US money.

Posted by mjturner | Report as abusive

> Has a central bank ever intervened successfully in the foreign exchange market when the momentum trade was against it?

Singapore’s MAS fought off a speculative attack in 1985, and both Singapore and Hong Kong intervened successfully during the Asian crisis in 1997-1998.

Posted by seewhydee | Report as abusive

The RBA in Australia has an ongoing record of intervention in the FX market, particularly during periods of highly speculative activity (read bureaucratic interpretation of volatile periods). Their argument seems pretty well grounded empirically and over 2008/09 awarded the Australian fed government a nice little dividend of $5bn AUD or thereabouts. (RBA on FX intervention:http://www.rba.gov.au/mkt-o perations/foreign-exchg-mkt.html#six and RBA on own FX management policy: http://www.rba.gov.au/mkt-operations/mgm t-foreign-curr/investment-mandate.html)

Beyond the traditional metric of inflation preservation, i do not see central banks should not be allowed to manage their FX reserves (including their own currency that they hold on reserves for their own financial system) within the FX market as long as a profit motive is the primary guide. To run a standard hedging policy over reserves is just common sense it would seem.

However, I suppose when put in light of the BofJ desired move and actual intervention scope (ie get the printing/wiring press going full steam) it is another story…

Tariq Scherer

Posted by tariqscherer | Report as abusive

Since the BoJ holds almost half of Japanese debt, is there a cost for these bonds if interest rates go up? In the US, the Fed holds Treasury bonds, but rebates back the interest it receives on them. So there’s no cost to carrying out monetary policy. I assume the BoJ has a similar arrangement?

Posted by enormousturnip | Report as abusive

Its funny how much of this stuff I read, and how if some central bank a does b, c will follow. If it were so easy, why aren’t we all rich???

So, inflation is good? Isn’t it a defacto policy of reducing real income? Sure, Japan gets to sell more stuff to people who apparently can’t afford it (US), while the stuff Japan desperately needs, oil, will defacto be more expensive and ostensibly lower further the Japanese standard of living? Or is oil of such minor consequence to Japan that it doesn’t matter?

Posted by fresnodan | Report as abusive

I’m a little sceptical that this was “unsterilized”. The MOF usually issues debt to finance interventions. Unless the BOJ directly bought that debt and will hold to it (kind of like QE), this will automatically be sterilized.

Posted by gpowell | Report as abusive

Okay, I’ve looked into this. This is a very short-term unsterilization. The MOF borrowed the money from the BOJ, intervened, sending 1 trillion yen in extra funds into the money market. The BOJ did not adjust for this in its daily market ops, making it technically unsterilized. But the MOF will have to issue short-term debt in the next few days to pay back the BOJ, which will drain the market of those funds.

So it’s unsterilized, but only for a couple of days. Hard to get too excited about.

Posted by gpowell | Report as abusive

At the zero-bound, it doesn’t matter whether it is sterilized or unsterilized…basically pushing on a strong

Posted by ForexLive | Report as abusive

So, gpowell, kind of akin to a “bill pass” by the Fed, where the the effect covers days, not years… but if Japan genuinely begins doing a lot of unsterilized intervention, that would be a significant policy change, which I suspect some other nations would imitate as part of competitive devaluation.

Posted by DavidMerkel | Report as abusive