MNI INTERVIEW: Yen May Be Nearing End Of Depreciation-Hayakawa

The yen’s recent depreciation may have passed its most acute phase, but the Bank of Japan should act to curtail further weakness or risk setting the stage for a dangerous sudden rise in the currency once the Federal Reserve moves away from its current tightening stance, a former BOJ executive director told MNI.

While the yen is trading weaker than 130 to the dollar and its real effective exchange rate is now the lowest in 50 years, driven by a widening U.S.-Japan yield gap, it may not fall as far as 140, Hideo Hayakawa, also a former BOJ chief economist and now senior fellow at the Tokyo Foundation for Policy Research, told MNI on Monday.

“As long as the Fed’s rate hikes are within market expectations, more falls by the yen will be limited,” Hayakawa said. “Though I’m worried about the risk that the Fed could be forced to implement bigger rate hikes to rein in inflationary pressure.”

Allowing further falls in the currency, which has weakened from around 115 at the beginning of March, would store up trouble for the future, he said.

“If the BOJ permits excessive yen weakness, it would only lead to a considerable rise in the yen in the future, when the Federal Reserve reverses its policy stance in a few years,” said the economist, adding that the yen might not have fallen below 130 to the dollar had the BOJ not decided to introduce daily fixed-rate bond buying operations in order to defend the upper limit of its 10-year target at its April meeting.

RISING COSTS

The rising cost of these purchases, and the diminishing returns from currency appreciation for the economy are likely to prompt the BOJ to change course and finally adjust its yield curve control policy as soon as this summer, Hayakawa said.

The BOJ could switch its yield target to the five-year Japanese government bond from the 10-year, or else widen the 10-year range, currently from -0.25% to 0.25%, in June or July, he said.

“Sticking to the 10-year rate is distorting the shape of yield curve,” said Hayakawa, adding that allowing longer-term yields to rise would have little adverse impact on an economy which depends more on shorter-term rates.

“I have no intention of saying that the BOJ should reverse its easy policy, even when Japan’s inflation rate rises above 2%,” he said. “The expected rise in inflation is due mainly to the temporary rise in import prices.”

While BOJ officials have expressed concern about too rapid a fall in the value of the yen, there has been scepticism that adjusting the yield control framework would do much to stop it. (See MNI INSIGHT: Only Short-Term Yen Impact If JGBs Tweaked)

But April’s decision to conduct daily bond purchases will force the BOJ to buy huge amounts and wrecked its hopes of stealthily normalising monetary policy, said Hayakawa, noting how the bank had last year quietly reduced its acquisitions of both debt and exchange traded funds.

DIMINISHING BENEFITS

The BOJ calculates that a 10% yen depreciation boosts annual GDP by 0.8%, but Hayakawa said that any benefits from a weaker currency are diminishing.

“The weak yen is obviously estranged from economic fundamentals," he said. "Despite this fact, the BOJ says the weak yen is a positive for Japan’s economy. This view is very strange.”

While big manufacturers usually benefit from a lower yen, they may be more cautious than usual about increasing investments or payrolls under today’s conditions, he argued. Car manufacturing, the most important export sector, would struggle to expand production due to the global semiconductor shortage, he said.

Covid restrictions also mean that tourism is unlikely to benefit much as Japan becomes cheaper for foreign visitors.

“There are no inbound tourists at the moment,” Hayakawa said. “I doubt that the weak yen is having a positive impact on Japan’s economy.”