Japan stepped in to support the yen for the first time since 1998, trying to stop the 20% decline against the dollar this year amid growing monetary divergence with the United States. The yen is the worst currency in the G-10 since the beginning of the year.
Japan’s intervention to defend the yen came after the Bank of Japan kept its negative interest rate policy and strengthened its yield curve control program. The day before, the Federal Reserve raised rates by 75 basis points for the third consecutive time. After the intervention, the yen rose as much as 2.3% against the dollar, retreating sharply from the day’s lows above the key psychological level at 145.
The country has long been criticized for tolerating a weak currency in order to encourage exports. The last time Japan strengthened the yen with direct intervention was during the 1998 Asian financial crisis, when the yen hit 146 per dollar. Japan also stepped in to weaken the currency in 2011 to levels around 130.
Kanda, Japan’s top currency authority, called the currency’s sudden and one-sided moves, as it announced the intervention. Japanese authorities have stepped up verbal warnings in recent weeks. In addition, the Bank of Japan conducted so-called rate control in the foreign exchange market in order to appease speculative bets.
The Effectiveness of Japan’s Intervention to Defend the Yen
The impact of Japan’s intervention could be short-lived as long as the Bank of Japan maintains an ultra-accommodative stance, in stark divergence with other central banks in the world. The differential between the reference interest rates of the United States and those of Japan is getting wider and wider. The spread has been a virtually inexorable brake on the yen as investors have moved their capital elsewhere to achieve interest rates well above Japan’s. Unless that changes, the chances of a sustainable yen rebound are slim. The intervention alone is unlikely to alter the underlying trend.
For now, we may see a slowdown in yen selling, especially if the Bank of Japan continues to intervene in the foreign exchange market on behalf of the Ministry of Finance. The intervention, however, could just buy Japan time, in the hope that the strength of the dollar will moderate.
Japan’s action was one-sided. The US Treasury and the European Central Bank said they did not participate in the intervention. In a statement, the Treasury spokesman said he understood Japan’s move. In July, Treasury Secretary Janet Yellen expressed her reluctance to support an intervention to defend the yen, which was already in crisis at the time. “In general, our view is that the G-7 countries should have market-determined exchange rates,” Yellen said during a trip to Tokyo in July. “Only in rare and exceptional circumstances is the intervention justified”.
Japan’s Previous Interventions
Historically, Japan has often intervened to prevent the yen from getting too strong. After all, too strong a yen puts exporting companies at risk.
Japan’s biggest intervention to defend the yen occurred in April 1998, when the Bank of Japan bought 2.8 trillion yen ($ 20 billion) in the currency market. This did not immediately stop the yen’s decline, which did not bottom out until August. The currency only began to appreciate rapidly after the Russian debt default and the collapse of the Long-Term Capital Management hedge fund wreaked havoc in the financial markets, forcing investors to dissolve carry trades. At the end of December 1998, the yen rose 30% against the dollar from its lows.
Today, the factors contributing to the yen’s weakness are different from those of 1998. At the time, carry-trade speculators, who borrowed yen and invested their proceeds elsewhere, were the major driver of the currency’s decline.
Currently, Japan’s political divergence and rapidly deteriorating trade positions, thanks to high energy prices, are the main culprits for the depreciation of the yen. In August, the trade deficit in Japan, which is a net energy importer, hit a record high, meaning the country was flooding global markets with yen to pay for goods.
Japan has a substantial amount of foreign exchange reserves that it can use in the foreign exchange market. According to data available at the end of August, Japan’s reserves amounted to $ 1.29 trillion. The average daily trading volume of the yen in Tokyo is approximately $ 479 billion.
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