How has the rookie Bank of Japan Governor Haruhiko Kuroda been received at his first G20 meeting in Washington this week? Kuroda was appointed by PM Abe in March, at which time he claimed his goal was to end deflation. Rather, an inflation rate of 2% was to be achieved in two years, a sharp departure from previous years. Achieving that goal will involve increasing the balance sheet of the central bank, buying Japanese bonds and other paper.
The threatened vigorous expansion of the yen supply has frightened the currency markets and caused a flurry of investment repositioning. No longer are investors using Japan as a safe haven in times of apprehension. Equity investors are pouring money into Japanese stocks, but the managers of the debt are sending their yen to Australia, Korea and Italy in search of yield.
Until 2003, Kuroda was Japan's top currency official. That experience, claim those being hurt by the lower yen, will enable Kuroda to weaken their currency. Not true, the Japanese claim. The looser monetary policies are intended to stimulate their economy. But as we quoted zerohedge yesterday:
"Bundesbank head Weidmann, reminding the world that in a monetarist currency war world, he who crushes their currency last, loses. As a result, moments ago he said that the ECB may cut rates if new info warrants, something that was actually quite obvious two weeks ago and some 300 pips lower."
Call the Japanese plan whatever you like, but it certainly smells like a blatant effort to devalue the yen. With too much manufacturing capacity in the world, and economic growth in the developed countries not happening, there may soon be some other countries running currency sales. Perhaps this will enable them to get a larger share of a shrinking market.
After the first day of G20 meetings, it looks like Kuroda is having success. This morning, newsonjapan.com reports:
"Bank of Japan Governor Haruhiko Kuroda said that Group of 20 nations understand the case for Japan's unprecedented monetary stimulus and indicated that he expects no censure for the yen's slide.
"We aren't intending to weaken the currency at all," Kuroda told reporters today in Washington, where he's attending his first G20 gathering as central bank chief. The BOJ's easing "is for a domestic policy goal to achieve the 2 percent inflation target at the earliest possible time," he said."
The Japanese economy has suffered in numerous ways from the March 2011, 8.9 Richter-rated earthquake. After the quake, the yen strengthened on the premise this destruction would result in increased economic activity. I disagreed with this analysis at the time, but one voice does not silence a mob. The subsequent yen rally to the 70s served to hurt Japanese exports at a time when the manufacturing was nearly stopped by infrastructure damage.
Combining the export slump with higher imports to rebuild the infrastructure, followed by much higher energy import costs, Japan's trade balance has become negative. Yesterday, it was reported last year's trade deficit ballooned to a record $83.4B. A dispute with China over uninhabited islands in the East China Sea has hurt trade with China. The recession in Europe took its toll, resulting in a 14% decline in exports to the EU. As a result, the U.S. has become Japan's biggest market.
Prices on imports has been rising. Energy, priced in U.S. dollars, has been working higher, and this week McDonald's raised burger prices 20-to-25%. Should the 2% inflation rate be achieved, will this really get the consumers to buy today before prices go up tomorrow?
Efforts to reboot the Japanese economy will be hampered by demographics. It was reported the Japanese population as of October 1, 2012 was down 284,000 to 127,515,000. This was the steepest drop for the second straight year, and the number of people over 65 now exceeds the population under 14 years.
A bigger problem may be the demand for the new issues of sovereign debt. The Bank of Japan claims they will buy up to 70% of the new debt. Fine, but how vigorous will the demand be for the other 30% should the 2% inflation rate be achieved? Currently, the 10-year note yields .58%. If inflation forces the rate up to 2%, and the BOJ marks to market their inventory of loans, they will have a staggering loss, as will all owners of Japanese debt (JGBD).
Currently, over half of the Japanese budget is financed by deficit spending. Inflation will increase the cost of financing this deficit. This, combined with the rollover of existing debt, is a recipe for disaster. The antidote for the deflation disease may prove worse than the disease.
This is what worries the traders in the currency markets (FXY, USDJPY). How do you finance a deficit of about 240% of your GDP in a time of inflation with an aging population that believes in saving? Fear of what might go wrong has prompted some to claim the yen will continue to lose versus the USD to 120 or maybe 150 if the situation really gets out of control. This will take time to unfold, but they are now free to begin with their scheme..
As Bank of Israel Governor Stanly Fischer said:
"Japan being as sick as it was for as long as it was, you've got to cut them slack in allowing themselves to work their way out of this situation," Fischer said in an interview in Washington with Bloomberg Television yesterday."
Against the USD, the yen has found some friends around the 100 level. After the big bear run, the market has been due for some consolidation, especially since the "yen printing" has yet to commence. On Monday, BOJ Governor Kuroda is scheduled to speak at 7:15 a.m. Perhaps his comments will act as a catalyst to take out the resistance.
Though the yen has been a big loser, there may be more to go. There are sizable speculative yen positions in the futures market, though recently the positions have been reduced. The charts suggest we are on the launch to higher levels. As always, mind your money.