Japan’s new finance minister, Naoko Kan, shortly after taking over the position this week, made it clear that he is in favor of a continued weakening of the yen versus the US dollar. This could have implications for the Japanese economy as a whole and the iShares MSCI Japan Index ETF (NYSEARCA:EWJ).
Mr. Kan’s target would be 95 yen per US dollar and the yen is trading today at about 92.3 yen per US dollar. A weakening yen that begin to decline against the dollar in December has already lifted the Nikkei up over 10%. In the time period since the start of December, Currency Shares Japanese Yen Trust (NYSEARCA:FXY) decreased roughly 6% while EWJ moved in the opposite direction and increased 4.5%.
The increase in the Nikkei and the increase in EWJ are the result of better performance in the shares of export-oriented companies that are benefiting from the weakening yen. However, EWJ underperformed the Nikkei because the yen denominated fund also saw erosion from the weakening of the yen.
I expect that EWJ will do well in the near term if the new finance minister can back up his wishes with actions to weaken the currency. However, I am not entirely bullish on the broader prospects of the country since the country has an enormous amount of government debt. A downgrade in Japan’s credit rating would be very harmful.
Interestingly, the same person who has the vision for Japan’s short term success with a weakening currency plan may not be able to fix its longer term outlook with regards to government debt. This is because Mr. Kan’s familiarity with fiscal policy is limited and he is known to be less supportive or fiscal strictness than his predecessor. Also, Mr. Kan’s statements about currency, which were rebuked afterwards by Prime Minister Hatoyama, who said the government should not comment on currencies markets, are symbolic of his inexperience with the delicacies of his new position.
Therefore, Naoto Kan may not have the experience or the vision to rein in government spending and lessen the country’s debt burden. Many are bullish on Japan going into the start of 2010, but for this reason, I remain wary for now about the country’s economic future and the upward potential of EWJ.
Disclosure: No positions