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Wednesday, 9 January, 2002, 13:02 GMT
Japan pins hopes on weak yen
By BBC News Online's James Arnold
Currency devaluation - traditionally the last resort of a government in crisis - seems to have become policy in Tokyo.
Over the past few days, the Japanese yen has hit 39-month lows against the US dollar, propelled downwards by a series of uncharacteristically blunt statements from the country's finance chiefs.
Japan's leaders think a weaker yen could provide a welcome economic fillip, making exports more competitive and even helping to reverse debilitating deflation.
A feeble yen helped underpin Japan's astonishing economic success in the 1970s and 1980s, when its car makers, electronics firms and banks bestrode the world.
But for a number of political, economic and market-related reasons, pulling off the same trick now does not look feasible.
Talking in code
The falling yen may be deliberate policy, but the Japanese government is still being somewhat evasive about it.
For days now, top officials have denied that they are setting out deliberately to undermine their own currency.
But they have also held back from condemning the markets, an indication that they are content with the currency's present weakness.
"It's desirable that foreign exchange rates reflect fundamentals," Haruhiko Kuroda, the country's most influential finance ministry official, said - a remark seen as code for hopes that the yen falls further.
Mr Kuroda added that he believed the currency movements reflected "a correction" from a previously overvalued yen.
It is not surprising that officials are talking in veiled terms.
Any explicit attempt to talk down the currency would cause a storm among Japan's trading partners in Asia, whose wobbly currencies are highly correlated with the yen.
"The question is how much yen weakness China and Asia can tolerate," says Divyang Shah, global strategist at consultancy IDEAglobal.
"They may be able to stomach 135 [yen in the US dollar], but if it comes close to 140, eyebrows will start to be raised."
At one point on Wednesday, the yen dropped to 133.37 against the dollar, its lowest level since October 1998, and most forecasters predict it will fall below 140 within the next few months.
If Asia experiences a series of competitive currency devaluations, the fear is that Europe and the United States will suffer, as the cheaper prices of Asian goods make deflation a possibility.
Another key disadvantage of the policy is that it is mighty risky to implement.
Government and central bank attempts to manipulate currency markets - both by verbal nudges and market intervention - have a tendency to backfire.
To really influence the market, the Bank of Japan may have to break a taboo by buying foreign bonds, analysts say.
But if its weak-yen campaign is too convincing, it could trigger an investor exodus, in particular from the crucial Japanese government bond market.
... and perhaps ineffective
Worst of all, even if the policy passes political and market hurdles, it probably still will not have the desired economic effect.
Economic number-crunching indicates that it would take a decidedly hefty tumble in the currency to produce even a modest upturn in prices - and that in turn would only produce a far smaller blip in economic output.
Without a devaluation of at least 20% - far more than currently looks likely - Japan's economy won't feel a thing.
During the last time that the yen fell sharply, after concerted market intervention in 1995, inflation failed to pick up and the country stumbled closer to crisis.
Stop-gap, not salvation
So at very best, a much weaker yen will provide a tiny breathing space for Prime Minister Junichiro Koizumi's government - not a cure for its ills.
"It's just a stop-gap measure," says Mr Shah.
But in a sense, that is good news.
An easy panacea would have provided Japan with the ideal excuse to postpone yet again tackling its most pressing economic problem - its abysmally indebted banking sector.
Clearing up trillions of yen of bad debt, and pushing unviable firms into bankruptcy, is the unpalatable but unavoidable first step towards putting Japan's economy back onto its feet.
It should also prove a more effective way of weakening the yen than attempting to talk it down.
Devaluation, then, is not the last resort for the Japanese government.
But it's not far off.
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