Thursday, May 11, 2006

Japan Needs to Let the Yen Rise

Just as I predicted back in January, the dollar have fallen this year against most currencies, including the Japanese yen, with a dollar now costing only about 110 yen. This is causing discomfort among politicians and big business leaders in Japan, who see the value of exports and foreign investments fall with the dollar. Politicians now threaten to resume active currency interventions to keep the dollar from falling further.

Yet that would be a big mistake. The Bank of Japan have already invested too much in U.S. government bonds to prop up the dollar. Because of years of deflation in Japan cmbined with significant inflation in America, the real exchange rate of the yen is still very low on a historical basis. It is in fact arguably the most undervalued currency around, and while currency interventions and threats of currency intervention could limit its rise in the near future, it is near inevitable for it to continue to rise. And investing more in dollar assets would then just ensure that the losses from a falling dollar would just become greater.

Moreover, it would be well advised for the Japanese and other Asian countries to lessen their dependence on exports to America by letting the dollar fall. With a recession in America looking increasingly imminent, and with the increasingly protectionist Democrats looking set to make big gains in November's congressional elections, America would likely respond with protectionist measures to efforts by Japan, China and other Asian countries to prevent the dollar from falling. All of which would imply far greater losses for the Asians than the losses from a falling dollar (which again is ultimately inevitable).


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