Opinion

The Great Debate

Speculators and China win big on yen move

By J Saft
September 15, 2010

What does $4 trillion a day in business, never sleeps and sees Japan’s Ministry of Finance as just one more patsy?

The foreign exchange market, of course, which is licking its collective lips as Japan embarks on another round of unilateral intervention to sell the yen in an effort to drive down its value and protect its export-oriented economy.

There are going to be two big winners in this, and neither begins with a “J.”

Speculators will, as ever, benefit from having a deep-pocketed trading partner who has been so kind as to draw a bull’s-eye on his own forehead and tell everyone at what level he will act. For Japan, that level appears to be just below 83 yen to the dollar and the Ministry of Finance has already spent $20 billion moving it back to above 85 to the dollar.
Not a bad first day’s effort but let us recall that the last time Japan decided to mess around in currency markets without international support it ended up spending well over $300 billion between 2003-2004, a period when the yen actually appreciated by more than 13 percent.

Switzerland engaged in a similarly painful exercise in driving down the value of its franc earlier this year, shelling out something on the order of $210 billion but seeing the currency actually increase in value against the euro , its main trading partner, by about 14 percent.

About the only thing that can be said in favor of Japan’s action is that the Bank of Japan will not act to neutralize the effect of the intervention on the money supply, unlike in previous interventions. This will increase liquidity and should be inflationary, a welcome effect in the land of falling prices.

As for international success, so far the signs are not promising:

“Unilateral actions are not the appropriate way to deal with global imbalances,” Jean-Claude Juncker, chairman of the Eurogroup of euro zone finance ministers, said.

Even more astounding, a European Union source told Reuters that Japan had not even told the Europeans, much less the United States, about its plans to intervene.

There is an excellent reason for that: Japan had no hope in heaven that calls for a coordinated intervention would meet with anything but refusal. Quite the opposite, both the United States and Europe would doubtless like nothing better than for their own currencies to fall in value, thus supporting their own struggling economies. Do you think Greece wants a weaker yen? What about Michigan?

CHINA PLAYS A BEAUTY

The fact is that unilateral currency intervention in the current circumstances is nothing less than a tactic of a trade war, in deed if not in name.

So who is the other big winner in Japan’s latest escapade? None other than China, which by buying Japanese debt has helped to precipitate the rise in the yen and now sees Japan do its dollar buying for it. Brilliant.
University of Oregon economist and noted Federal Reserve watcher Tim Duy presciently wrote about this possibility in August:

Japanese intervention, if it occurs, means that Chinese authorities managed to get Japan to acquire their dollar reserves for them. Instead of buying dollars, China buys yen, which in turn induces Japan to buy dollars. This maintains the artificial capital flows to the U.S. while allowing China to escape accusations of being a “currency manipulator.”

You do have to have sympathy for the Japanese authorities: they face deflation, a weak economy and political ructions at home. What’s more, they must see the possibility for further quantitative easing in the United States and realize that this will only strengthen the yen further.

Being expected to pay the price for China’s reserve diversification must have been the last straw.

While China has done well on its own account, its actions have greatly increased the chances of protectionism and trade wars, or rather the chances that its own unilateral trade war will become generalized. The yuan has barely strengthened against the dollar since the much vaunted liberalization in June.

Sooner or later this must become intolerable to the U.S. administration, which is sailing into an election with high unemployment and a low approval rating. It should come as little surprise that the United States moved on Wednesday to bring two new cases against China before the World Trade Organization, one on steel and the other in banking.

As the year winds down, expect more of the same, and for it to be bad for growth and for stocks.

Until then, drinks are on the foreign exchange desks and the speculators.

Comments
3 comments so far | RSS Comments RSS

Nice work Mr. Saft.

China’s daily interventions on currency are not costing them a dime, and as it turns out they also have the troublesome speculators well in check.

Would Japan need to learn from the Chineese? Shouldn’t we all!!??

Posted by Neander | Report as abusive
 

“While China has done well on its own account, its actions have greatly increased the chances of protectionism and trade wars, or rather the chances that its own unilateral trade war will become generalized.”

Trade war is no cure for trade imbalance. So long as we need China’s Yuan to finance spending the US cannot afford, we will run a trade deficit with China. Curbing deficit spending by the United States, both publicly and privately, is the cure, and the only long-term cure for trade imbalance and the return of US jobs. This cure will only come in November.

Posted by optimism | Report as abusive
 

How about buying Chinese remimbi instead. That would change the game. Pegging Yen against the Chinese currency causing that currency to increase maintaining trade balance

Posted by pdfr | Report as abusive
 

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