Friday, January 30, 2009

Japanese Economy Going Of A Cliff

Illustrating further the point I made in the previous post, the yen rallied this morning further. The news that triggered this rally was that unemployment in Japan soared (from 3.9% to 4.4% in one month) and that industrial production fell 9.6%-in one month. Compared to 12 months earlier industrial production fell 20.6%.

While it is not the only reason, one key reason for the increasingly depression-like conditions in Japan is the overvalued yen which is rapidly killing off tradable goods industries in Japan. And while non tradable goods sectors can enjoy lower input costs, demand from the tradable goods industries is disappearing so fast that they might lose too from the overvalued yen.

And as the overvalued yen sends the Japanese economy into what increasingly looks like a depression, this will only make the yen even stronger, so creating a vicious spiral for Japan.


Anonymous Anonymous said...

Some economists insists that according to the Big Mac Index, the Yen is undervalued?


8:23 AM  
Anonymous Anonymous said...

I don't get the final line of reasoning - "And as the overvalued yen sends the Japanese economy into what increasingly looks like a depression, this will only make the yen even stronger, so creating a vicious spiral for Japan". I thought currencies tend to depreciate at the sign of economic weakness.

What do you think would be a good policy prescription?

11:57 AM  
Blogger stefankarlsson said...

Göran, the price of Big Macs are irrelevant, just like the price of McFeast and whoppers and Taco Supremes, as they do not contribute to the supply and demand for currencies.

Anonymous: I explained the apparent mystery you asked about in the previous post. As for policy description, I'm not sure there are any good options for Japan now that they've gotten themselves into this mess. Temporary currency market intervention to hold down the yen is one possibility, though that has other drawbacks. Payroll tax cuts to reduce relative labor cost would be another option which would be better in several ways, but that would have little short term effect.

4:07 PM  
Blogger happyjuggler0 said...

It is worth pointing out that regardless of the long term effects of a strong or weak Yen, a large rapid move in either direction away from a previously stable (more or less) equilibrium is horrible for the economy (but great for astute currency traders who have a strong stomach).

The reason for this is simple, the economy is not frictionless like models assume. It takes time to reallocate financial capital, buildings and equipment, and labor from one sector to another, and to reach "full speed" (fully trained management and "labor") once resources have been reallocated. These misplaced resources causes real financial losses, unemployment, and underemployment, with resulting lower wages than otherwise would have been the case.

So one can't simply say that importers gain while exporters lose. To a certain extent most everyone loses for a while, at least in terms of opportunity cost.

The same logic applies to things like a sudden new desire on the part of a country's people to save, or an increase in the money supply with a stable velocity of money, or a massive new government spending spree for artificial reasons (as opposed to rebuilding after an earthquake for example). It is much healthier if such a change could somehow happen gradually enough for new astute investments to spring up instead of money getting rammed down the throats of whatever sector can most quickly accommodate it regardless of productivity.

12:43 AM  
Anonymous Anonymous said...

Is the Purchasing Power Parity useful?

EUR/SEK current PPP is 8,62 SEK

about 20% below current price 10,60 SEK


11:22 AM  
Anonymous Anonymous said...

re: happyjuggler0

Do you then support central bank interventions in the Forex market to 'smooth out' fluctuations - or to (say) have things decline at a more gradual pace?

Makes me wonder what sort of monetary arrangement is 'optimal' in this 'suboptimal' world. A currency board option doesn't seem too bad in light of this - e.g. the Singaporean dollar is pegged against an (undisclosed) basket of currencies.

2:43 PM  

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