Japan warned its forex policy may backfire
Reviewed by Hitoshi URABE
"Japan warned its forex policy may backfire"
(Anthony Rowley) The Business Times (Singapore)
This is a thorough and well-composed article, by a correspondent of the publisher in Japan with extensive scholastic background and experience in Japan and Asian financial and monetary affairs well worth reading.
Bank of Japan's foreign exchange market interventions during 2003 amounted to an unprecedented 20 trillion yen, which, already during the year had invited comments of concern to outright accusations by many economists and monetary scholars. But that was an only a prelude. This year, for the two months of January and February only, the amount of intervention already exceeded 10 trillion yen, half of the total of last year.
When concerns of heavy interventions began to emerge toward the latter half of last year, it was mostly from the traditional international financial point of view. They explained how "excessive" interventions could skew the market, not only of foreign exchange but also of trade and investment, inhibiting efficient and productive distribution of wealth domestically and internationally. But as Bank of Japan, under the guidance of the Ministry of Finance, kept on buying up US dollars despite the criticism, and other countries stayed curiously quiet, in effect endorsing the actions by Bank of Japan, other speculations began to emerge, which were to be confirmed later by the FRB Chairman Alan Greenspan.
As Bank of Japan purchases dollars, in exchange yen is provided into the system. Traditionally, that yen, a liquidity provided without direct relevance to domestic monetary policy, was to be absorbed through various monetary measures. It became gradually clear, however, that Bank of Japan recently has been leaving the exchanged yen in the system, effectively adding liquidity on top of the money provided through the activation of loose monetary policy, apparently with the hope to cease deflation.
For Japan's economy experiencing more than a decade of stagnation, and as various measures tried and failed during the period, it has been suggested that monetary relaxation and foreign exchange policy to suppress the value of yen are the only two policy instruments left that may still be effective, if at all. But they are not new. The policy measures have been in effect for quite a while already, and even if a larger dose this time may work, adverse side effects could also become more evident, harming the economy showing, finally, some sign of recovery.
Adverse effects of "excessive" foreign exchange market interventions are already well known, but unknown is to what extent this massive scale of intervention would have effect upon the economy.
Already, it has been pointed out that whereas healthy and strong companies are showing record profits, those that should have been shaken out of market because of poor performance are being left alive as a result of the skewed exchange rate. This, in the medium, could trim the thrust of recovery, and remain as a weak point of the economy in the long run.
Intervention being one of the major contributors, Japan's foreign reserve at the end of February reached a record 777 billion US dollars. The risk inherent in holding such huge foreign money is enormous. Just to put the number in perspective, Japan has committed 5 billion dollars in rebuilding Iraq. This is not a small sum of money, but only 0.6% of fluctuation in the foreign exchange market could either produce or erase that amount of money for Japan's people, at least in theory. It makes people begin to wonder, then, if the government, supposedly entrusted with the people's assets, really has the right to expose the people's property to that magnitude of risk.