Overview of Japanese Yen
Japan is the world’s third-largest economy after the United States and the second-largest economy as a single country. Japan is also the world’s largest exporter and has more than $500 billion in exports every year.
Manufacturing, electronics, and automobiles are critical drivers of the economy, with production and exports reaching 20 per cent of GDP. Despite Japan’s severe structural flaws, it has maintained a trade surplus, creating demand for the Japanese yen.
Also, Japan is one of the largest importers of raw materials to produce goods. In both import and export, Japan’s most important trading partners are the United States and China.
Japanese Asset Bubble
To understand the Japanese economy, we first need to determine what caused Japan’s asset bubble and burst. In the 1980s, Japan’s financial market was one of the most attractive international investors in Asia. Japan had the most advanced capital markets in Asia, and its banking system was considered one of the most powerful countries in the world.
At that time, Japan had high economic growth and zero inflation. This resulted in rapid growth and credit expansion due to rising asset prices, which led to a bubble in asset prices. Then between 1990 and 1997, asset prices fell, causing the asset bubble to collapse. During this period, asset prices fell by more than $10 trillion, of which 65 per cent fell, equivalent to Japan’s two-year domestic production.
The drop in asset prices triggered the Japanese financial crisis. The financial crisis began in the early 1990s and reached its peak in 1997 when many financial institutions went bankrupt. At the height of the asset bubble in the 1980s, many banks and financial institutions expanded their loans from builders and real estate developers on land as collateral.
However, when the asset bubble collapsed, many real estate developers went bankrupt, forcing financial institutions to embrace bad loans, with collateral falling by 60 to 80 per cent from the initial loan. With the influence of substantial bad debts and corporate loans from Japanese financial institutions, this crisis has dramatically affected the Japanese economy and the global economy. Huge bad loans, a plunge in stock prices and a collapse in the real estate sector seriously damaged Japan’s economy for nearly two decades.
In addition to the financial crisis, Japan’s public debt is more than 140 per cent of GDP, the highest among advanced countries. Japan had suffered a severe economic slowdown for more than a decade due to worsening fiscal conditions and rising public debt.
Japan is still in a liquidity crisis due to the high debt burden, and the financial sector relies heavily on government relief measures. As a result, the Japanese yen is highly sensitive to government statements, implementing relief measures and other rumours about potential changes in the currency’s fiscal policy and political situations.
Bank of Japan Determines Monetary Policy
The Bank of Japan(BOJ) is an organisation that determines Japan’s crucial monetary policy. In 1998, the Japanese government granted the Bank of Japan to complete control of monetary policy and independence from the Finance Ministry. Despite being the government’s lower authority, the Finance Ministry is still in charge of exchange rate policies. The Bank of Japan conducts foreign exchange transactions in Japan with official responsibility under the Ministry of Finance’s control.
The monetary policy meeting will be held twice a month with briefings, and a press conference will be held immediately after the meeting. The Bank of Japan publishes monthly reports and monthly economic reports issued by the Policy Board. As the Japanese government continues to try new plans to boost the economy, these reports are essential to identify changes in the Bank of Japan’s sentiments and new monetary or fiscal policy signals.
The Ministry of Finance and the Bank of Japan are critical organisations that can lead to currency movements. It is essential to watch the finance ministry officials’ statements because they are in charge of intervention in the exchange rate. Since Japan is an export-oriented country, the government prefers to weaken the yen.
Therefore, if the Japanese yen rises rapidly against the dollar, the Bank of Japan and its Finance Ministry members will express concern about the Japanese yen’s current movement, and remarks are also a variable factor that drives the market. But, if the remarks end up only with actionless verbal intervention, the market will become immune to them.
There are cases in which the Finance Ministry and the Bank of Japan have intervened in the currency market to adjust Japan’s exchange rate. Therefore, we cannot ignore their remarks completely. The most commonly used tool for the Bank of Japan to control monetary policy is open market manipulation.
Open Market Manipulation
These activities focus on controlling unsecured overnight call rates. For some time, the Bank of Japan has maintained a zero interest rate. This means that the Bank of Japan can no longer cut interest rates to boost growth, consumption or liquidity. Therefore, the Bank of Japan is controlling liquidity through open market manipulation to maintain zero interest rates.
BOJ adjusts liquidity by buying or selling short-term bonds, repos or Japanese government bonds. A repo transaction is a transaction in which a borrower sells securities to a borrower after agreeing to resell the same number of securities as the same stock on a later designated date. This structure is similar to a bond-backed loan in which the borrower pays interest to the borrower. Repo deals have very short maturities from one day to a few weeks.
In terms of fiscal policy, the Bank of Japan has considered several ways to deal with bad debts. This includes targets for inflation, nationalisation of some private banks, readjustment of bad bank debts and discount sales. There was no policy decision, but the government is actively considering many other alternatives.
The Main Characteristics of the Japanese yen
1. Substitute for Measuring Asia’s Strength.
Japan is considered a substitute for measuring the overall strength of the Asian market because it has the highest GDP in Asia. Japan, which has the most developed capital market in Asia, was once a great investment destination for investors who wanted to invest in Asia. Japan also has significant trade exchanges with other Asian countries. As a result, economic and political instability in Japan has many ripple effects on other Asian countries.
Of course, the aftermath is not one-sided. Economic and political issues in other Asian countries also significantly impact the Japanese economy and the Japanese yen. For example, Japan, the G7 country, has strong ties with North Korea, and political instability in North Korea poses a massive risk to Japan and the yen.
2. Implementation of Bank of Japan intervention
Japan is a very political country with close ties with government officials and large private institutions, so Japan’s Finance Ministry is mindful of large private institutions trying to stop the yen from strengthening.
The Bank of Japan is an active intervention participant, harmonising with market movements and other participants. The Bank of Japan is likely to intervene when it regularly receives loan information from banks on prominent hedge fund positions and holds positions different from the market to generate speculative profits from speculators.
2. Japanese Yen’s Movement is Time-Sensitive.
Speculators buy yen to earn profit from the Japanese yen’s rise in anticipation of increased demand for yen purchases from home-country transfers at the end of the fiscal year (31 March). As a result, after the fiscal year, the Japanese yen tends to decline due to its liquidation by speculators.
Except for the fiscal year, the time element is also a significant consideration daily. Unlike traders in London and New York, who usually have lunch at trading desks, Japanese traders have an hour lunch break from 10 p.m. to 11 p.m., New York time. Therefore, due to the market’s lack of liquidity, volatility may increase during lunchtime in Japan.
Also, the Japanese yen tends to move in an orderly manner in the Japanese and London markets unless important announcements, remarks by government officials, or economic indicators are surprising. However, in the New York market, the Japanese yen’s volatility increases as U.S. traders actively trade dollars and yen positions.
3. Pay Attention to Bank Stocks.
Participants in the foreign exchange market need to observe the banking sector’s shares closely, as the core of the Japanese economic crisis stems from the bad debt of Japanese banks.
Banks’ default threats, poor performance, or additional occurrences of bad loans suggest that the economy has severe problems. Therefore, the movement of bank stocks leads to the direction of the Japanese yen.
4. Carry Trade Effect
Carrie Trading has recently become popular as investors actively seek high-yield assets. Since Japan has the lowest interest rate among advanced countries, the Japanese yen is mainly a currency sold or borrowed from Carry Trading.
The most popular carry trade calls include GBP/JPY, AUD/JPY, NZD/JPY and USD/JPY. Carry traders buy high-yield currencies and sell the Japanese yen.
Therefore, the liquidation of the carry trade due to the narrower spread causes the Japanese yen to rise. Its liquidation involves selling other currencies and buying the Japanese yen.
Important Economic Indicators of Japan
The following are important economic indicators for the Japanese yen. It is essential to focus on the manufacturing sector figures because Japan is a manufacturing-oriented country.
1. Gross Domestic Product
Gross Domestic Product is calculated quarterly and annually as the sum of the market value of all goods and services generated in Japan. GDP is calculated, including expenditure by households, businesses, governments, and net foreign purchases (export-income).
The GDP deflator is converted to fixed dollar GDP for the base year of gross output measured at the current price. This indicator is used to determine the Japanese business cycle’s current location, and reserves are of paramount importance to participants in the foreign exchange market.
2. A Single-Column Survey
This survey is a short-term economic survey conducted by Japanese companies four times a year. It surveys more than 9,000 companies classified as four major (major, large, medium and small enterprises). Foreign exchange market participants widely observe it as it provides an overall business environment in Japan.
3. An International Balance of Payments
The balance of payments provides investors with information about Japan’s international economic transactions, including goods, services, investment income, and capital flows.
The current account balance of the Bank of Japan is used as a helpful measure for determining international trade levels and is announced monthly and semi-annual.
Employment figures are reported every month by the Japanese Health, Labor and Welfare Administration. Employment indicators measure Japan’s employment-population and unemployment rate, calculated by statistical surveys of the current working population.
5. Industrial Production Index
The industrial production index measures the production trends of Japanese manufacturing and utility companies. It is consist of the total quantity of produced goods for domestic sales and overseas. Meanwhile, the index does not include agriculture, construction, transportation, telecommunications, trade, finance, and service industries.
Industrial production is calculated by weights of the relative importance of each element over some time. Investors can use the industrial production index and quantity of inventory accumulation as a piece of good information on the economic status of Japan.