Understanding Japan's Demise

I have produced two charts (see below), both of which well demonstrate the circumstances under which Japan went into its so-called lost decade.

These charts present “relative exchange rates” of different currencies. Each currency is measured relative to a standardized benchmark basket of currencies. The first chart uses 1980 as the base year. The second chart uses 1990 as the base year. It is clear that both charts indicate that the Yen is the strongest currency in the world. As an export-dependent economy, the super-strong Yen hurts.

But Japan actually did very well in overcoming the adversity, considering the extent of the appreciation during the 1980s. This superior performance is very much due to its earlier massive offshoring of manufacturing activities. By the late 1980s, Japan had set up production bases across Southeast Asia. But when the 1990s repeated the scourge of the strong Yen, the economy stumbled. The fact is: there is as yet no industrial economy that can survive such a strong currency without stagnation or recession.

Japan’s fiscal stimulus initiatives were entirely misplaced. As an import dependent economy, the fiscal multiplier of Japan is extremely small. On the other hand, currency depreciation would have worked, but the Bank of Japan somehow failed to do what was necessary, and effectively allowed the Yen to rise to trade-stifling levels.

Selling Yen to bring it more in line with other currencies in relation to the benchmark is not manipulating to gain an unfair advantage. In any case, when the trade surplus had given way to a deficit for months, and when the current account surplus had also given way to a deficit, it is quite clear that the Yen is overvalued. A grossly overvalued currency for the second biggest economy of the world is not conducive to global prosperity.

click to enlarge images

Comments

[Steven Hansen:]

i would have thought a better measure for the value of the yen would have been balance of payments (instead of against a bread basket of currencies). a correct priced yen would achieve harmony.

my belief was that the yen was undervalued to support exports.

Mar 17 04:51 AM

[Dave Wrixon:]

Japan was simply one of the first casualties of Chinese resurgence.

In a Darwinian World, every successful species has its niche. With the emergence of China the Japanese niche became much more marginal. The next niche and perhaps the end game to some extent is when China squeezes the US out of its niche. The daft thing is the by and large America is giving up with even making it a contest.

Mar 17 05:06 AM

[Sober Realist:]

Had to replay this comment from another SA reader:

"There might be a solution to the Japan problem, but it is gonna be very unethical: pursue an ULTRA-TIGHT monetary policy.
As shown in the article, loose monetary policy has not worked, but I think a tight one will work in the long end, but will take casualties along the way:

1) Stop printing yen, withdraw yen from circulation.
2) This will most likely lead to export collapse (already collapsed anyway), and
3) Bond market collapse, and
4) domestic consumption collapse.

Now, purely domestic businesses might survive, but unemployment will skyrocket.

Next, pursue Darwinian Economic model: "TAKE CARE OF YOURSELF."

1) Savings are withdrawn by people without jobs to pay for daily things until no more savings
2) Elderly people will suffer and die if without means to support themselves
3) Younger people will continue to find jobs, but struggle
4) Population will collapse
5) Age Pyramid will invert, i.e. more younger than older after a certain while
6) Labor market balanced to work after few years

When all is said and done, BOJ can relax ULTRA-TIGHT yen policy and economy will grow again."

Mar 17 09:47 PM

[Grayray:]

I wouldn't count America out yet, but it will take awhile. Although I don't agree with how things are being done, you never know.

Mar 17 10:01 PM