November 2011 | www.selectasset.com
Yen Intervention

Living in Japan, it's quite unlikely that you haven't already heard the term 'yen intervention", but understanding what it means is another story entirely.  Here, we hope to clear up some of the confusion by answering some questions commonly asked by our clients, including what exactly yen intervention means.  But first, let's look at the changing value of the JPY since World War II, to get an idea of the significance of these recent measures.

  • Value of JPY over time

Post WWII, the value of the yen was fixed by a United States plan to stabilize prices in the Japanese economy.  This fixed value was 360 JPY per 1 USD, which held through 1971.  By that time, it was clear that the yen had become undervalued, as Japanese exports were selling for too little in international markets, and imports were costing the Japanese too much.  In an effort to devalue the USD, Japan agreed to a new fixed exchange rate of 308 JPY per 1 USD.  By 1973, this new fixed rate was also abandoned and Japan allowed their currency to float.  It was around this time that the Japanese government first began to intervene, however, despite intervention, the yen continued to climb in value until the oil crises of 1973 and 1979.  The yen remained weak in comparison to the dollar throughout the early 1980's, until the Plaza Accord was signed in 1985, which confirmed that the dollar was overvalued, and in turn, the yen undervalued.  This agreement led to a rise in the value of the yen from its average of 239 JPY/1 USD in 1985, to 128 JPY/1 USD in 1988.  By 1995, the yen reached a peak of under 80 yen per dollar, making Japan's economy similar in size to that of the US.

Between the years of 1995 and 2004, Japan intervened in the currency market no fewer than 5 times.  After hitting a 4 year high of 124 JPY/USD in 2007, the yen continued to strengthen until it reached just under 83 yen in 2010, at which time Japan intervened for the first time in six years.  Between then and now, the yen has strengthened to a record high of 75 JPY/USD.

  • What is Currency Intervention?

Currency intervention, in general, is just that.  The government of any country, by way of its central bank, interferes with the value of a currency by buying or selling that currency in large amounts.  In this case, Japan's central bank recently sold approximately 8 trillion yen in its attempt to decrease its value.  It's a simple case of supply and demand.  By influxing the market with yen, it's value drops.  Conversely, by buying, and therefore removing, such a large amount of dollars from the market, its value rises.  But the questions remains - why is Japan making this move?

  • Why did Japan interfere?

Imagine that the JPY and USD were nicely balanced and valued at 100 to 1, respectively.  Also imagine that a manufacturer in Japan could produce a product at a cost of 75 JPY, export it to the United States, and sell it for 1 USD.  That 1 USD, equivalent to 100 JPY, would produce a 25 JPY profit per product for the manufacturer.  Lately, however, because of the yen's strength, it's value has hovered more around that 75 JPY, as compared to the USD.  While it still costs about 75 JPY to manufacture that same product, it will still sell for only 1 USD, producing no profit at all.  Increasing the price of exports will only serve to drive importers into the arms of the competitors.
Japan is an extremely export heavy country, with the United States being its largest export partner.  Because of the gaining strength of the yen, Japan based companies such as Honda Motor Co. and Panasonic Corp. are posting decreased earnings, and Japan's economy overall, according to the Organization for Economic Cooperation and Development, will shrink by .5% this year.  Facing fears that jobs will be lost in Japan to corporations that must cut costs by moving their factories overseas, Japan's Finance Minister has taken the step to intervene with the intent of weakening the yen.

  • Will this intervention work to save Japan's economy?

While the immediate effects of the 8 trillion yen intervention made a significant impact, taking the yen from 75 to 79 in a matter of minutes, whether or not the effects will be long lasting is another question entirely.  Bloomberg predicts that the yen may strengthen to 77 per dollar by the end of the year, and hold through the first quarter of 2012.  Exporters, however, say they can remain profitable only if the yen trades at 86 per dollar or weaker.  

Japan's Finance Minister has said that he will continue to intervene until he is satisfied, so only time can dictate the success or failure of Japan's largest one-time operation to date.
For more information, or to discuss what, if anything, these economic measures could mean for you, please contact Select Asset Management to speak with one of our senior advisers.