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  • Writer's pictureBocconi Students Financial Markets
    • Dec 22, 2023
    • 6 min read

Weak JPY, beneficial or inconvenient for the Japanese economy?

Updated: Feb 9

Introduction






Since more than a year ago, the Japanese yen (JPY), which is a key currency and one of the most used reserve currencies after the United States Dollar (USD) and the Euro (EUR), has been weakening against other key currencies. Why is the JPY’s value decreasing? Is it beneficial or inconvenient for the Japanese economy?


Background:



The JPY ranged between 103.121 (lowest close price, Dec. 2020) and 115.262 (highest close price, Feb. 2022) per USD between January 2017 and January 2022. It had a moving average of 109.2620 and a median price of 110. However, its value quickly started to devalue once the major central banks started to raise interest rates. Its current value per USD is 145.28 (close price), as of December 13th, 2023.



Latest policy rates of G10 currencies’ countries (The 10 most traded/liquid currencies)



As shown above, Japan is the only country that has not raised interest rates, and that has a negative interest rate among the G10 currencies, but also the G20 countries. This is due to its implementation of qualitative and quantitative easing (QQE), with yield curve control (YCC).


Bank of Japan (BOJ)’s monetary policy

To contribute to the sound development of the national economy, BOJ has a target price stability (inflation) of 2%. As other major central banks such as the European Central Bank (ECB) and the Bank of England (BOE) did, Japan implemented QQE in 2013, to increase the money supply and to stimulate economic activities after the 2008 financial crisis, since the conventional monetary policies were not effective. However, the QQE is still in place in Japan while other major central banks raised the interest rates.


BOJ controls the short and long-term interest rates, to keep the interest rates low, which is a process called YCC. It controls the short-term interest rate by applying a negative 0.1% interest rate on banks’ deposits at the BOJ. Regarding the long-term interest rate, through bond purchase market operations, it initially targeted the 10-year Japanese government bonds (JGBs)’ yield to be around 0%, while allowing it to range between -0.25% and 0.25%. However, due to the heavy betting by investors on its rates policies, it increased the allowed range between -0.5% and 0.5% in December 2022, and its upper limit/hard cap to 1% in July 2023. Finally, in October 2023, BOJ allowed the yield to go beyond 1%, by making the 1% yield a reference of the upper limit instead of a strict limit, and its daily fixed rate (1%) unlimited bond purchase market operations more flexible. On November 1st, the 10-year JGB reached a yield of 0.947%. Due to the YCC, BOJ owned 53.54% of outstanding JGBs already at the end of March 2023.


Japan 10 year Government Yield (03/12/2023)



Japan’s Ministry of Finance’s response to the weakening JPY




Being a low-resource country relying on energy imports, and the second country with the largest foreign exchange reserves in the world ($ 1,238,000 million as of Oct. 2023), consisting mostly of US Treasuries, the Ministry of Finance, ordered the BOJ to intervene in the forex market three times in 2022, to reduce the excessive volatility backed by the speculative movements.



This was not the first time that BOJ intervened in the forex market. However, it was the first time since the 1997 Asian financial crisis that the BOJ intervened against a weak JPY, since the previous times were all against a strong JPY, sometimes in coordination with other central banks.



What are the advantages of a weakening currency?

A weakening currency boosts exports, making domestic products more competitive in the international markets since the products will be cheaper for international customers. It will also inflate the revenues when converting the profit to the domestic currency. Furthermore, it makes domestically produced goods more attractive than imported goods for domestic customers. However, it is only beneficial if the factories are in the weakening currency’s country and the materials/parts used are mostly domestically produced as well. Finally, it boosts tourism, and foreign investment, and improves the trade balance.


How is Japan’s trade balance?



For 30 years, from 1981 to 2010, the trade balance had a surplus. However, there has been a trend of deficit since 2011, the year of the Tohoku earthquake and tsunami that hit the northeast of Japan. The reason behind the deficit of 2011 is due to the imports of oil and gas, to cover the nuclear plants that stopped operating. The natural disaster disturbed the manufacturers in the north-east of Japan, as well as those relying on suppliers from this region. Due to the nuclear incident, a large number of countries and regions including the EU imposed import restrictions and measures on primary sector products such as vegetables and fruits. This affected the trade balance as well.



The products that Japan exports are mainly general equipment (ex: semiconductor production equipment, motors, pumps), transportation equipment (ex: automobiles & components, ships), electronic equipment (ex: semiconductors, electronic components, electrical measuring instruments), chemical products (plastics, organic chemicals), and metals (steel, non-ferrous Metals).



However, according to a survey conducted by the Ministry of Economy, Trade and Industry, for all manufacturing sectors combined, the overseas production ratio increased from 20.3% in 2012 to 25.8% in 2021. Regarding the transportation equipment sector, this ratio increased from 40.2% to 47%. Therefore, an important proportion of products that Japanese companies are competitive with are manufactured abroad.


Conclusion


To conclude, a weak yen is beneficial for Japan, which is a major exporter of manufactured products. However, it isn’t as beneficial as it was for Japan anymore since an increasing proportion of the production of competitive products is done abroad, which doesn’t benefit the Japanese economy. Being a country poor in terms of natural resources, if this trend of manufacturing abroad goes further beyond, with the ongoing energy crisis, the trade deficit would increase even more and affect the costs of living. Nevertheless, Japan has large foreign reserves that could be mobilized to stop the fall of JPY against other currencies for a short time, in case the interest rate difference stays significant.


References


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(2022, February). Lifting of the import restrictions/measures on Japanese Food Following the Accident

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