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The writer is the publisher of Japan Economy Watch and author of the forthcoming book ‘The Contest for Japan’s Economic Future’
The weakening of the yen has sparked concerns at Japan’s Ministry of Finance, prompting discussions of potential intervention in currency markets to stabilize its value. However, such intervention is unlikely to succeed, as previous attempts in the past have proven ineffective, despite significant financial efforts. Last year, Japan spent an astounding ¥9.19tn, equivalent to almost 2% of its gross domestic product, with no noticeable impact.
Intervention is only effective when a currency deviates significantly from its economic fundamentals. However, this is not the case with the yen currently. The yen’s weakness, now worth 25% less than two years ago, can be attributed to the decline in competitiveness among Japanese exporters. In fact, if current trends continue, Korea may surpass Japan in terms of real, price-adjusted volume of exports.
In the past, Japan’s consumer electronics, industrial machinery, and automobiles were renowned for their superiority, enabling Japanese exporters to command high prices and maintain a significant share of global exports. However, these companies have lost much of their luster in recent years. To remain competitive, they have had to lower their prices, necessitating a weaker yen.
The Bank of Japan has reported that the “real effective yen” is currently at its weakest level in fifty years. This measure takes into account price trends between Japan and its trading partners, providing an indication of how Japanese products’ prices compare with those of competitors in foreign markets.
Over the past two years, the primary factor influencing the yen’s value has been the gap between 10-year government bond rates in the United States and Japan. When US Treasuries offer significantly higher yields than Japanese government bonds, investors sell the yen to purchase dollars for US debt, causing the value of the yen to decrease. This correlation between the rate gap and the yen-dollar exchange rate has reached a stunning 97% since July 2021. Therefore, any intervention by the Ministry of Finance is unlikely to disrupt this relationship. With the interest rate gap currently fluctuating around 3.5%, the recent weakening of the yen to ¥145 per dollar aligns with this gap.
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If the interest rate gap were solely responsible for the weak yen, a rise in Japanese bond rates and a fall in US rates could potentially resolve the issue. However, it is unlikely that the yen will return to the levels considered normal a decade or two ago. Instead, an interest rate gap that previously corresponded to a ¥100 per dollar exchange rate now translates to around ¥120 per dollar.
This is due to the ongoing struggle of Japanese companies to compete in exports, even with a depreciated yen. From 1980 to 2010, Japan consistently ran trade surpluses every year, regardless of the yen’s strength or weakness. However, since 2011, the country has experienced trade deficits in nine out of the past twelve years, despite the yen being 25% cheaper on a price-adjusted basis compared to the 1980-2010 period. While income from Japan’s foreign investments helps offset the weakness in the short term, the long-term trajectory of the yen reflects the country’s trade vulnerability.
Japan’s share of price-adjusted exports among affluent countries reached its peak at 8% in 1985. Since then, it has steadily declined to just 5.8%, even with the yen steadily losing value. In contrast, both the US and Germany have maintained their shares. The electronics sector, which once enjoyed a trade surplus equivalent to 1.3% of GDP in 2000, now consistently operates at a trade deficit. Additionally, Japan is on the verge of being surpassed by China as the world’s top auto exporter, partly due to Japanese companies’ lagging efforts in battery-powered electric vehicles.
The case of the automotive industry highlights another reason why a weaker yen has not significantly boosted Japan’s exports as expected. Japanese car manufacturers generate over 80% of their overseas sales through production abroad rather than exporting from Japan. This trend is also observed in the electronics and machinery sectors. As Japanese companies increasingly move their production overseas, the positive impact on exports from a weakened yen diminishes.
Lastly, a weak yen results in higher costs for food and energy for Japanese households and producers. Consequently, consumers have less purchasing power to buy domestically-made products. As a result, real household spending adjusted for inflation in 2023 is no higher than it was in 2012. The weak yen not only reflects economic weakness but also exacerbates the fragility of the overall economy.
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