Yen Last Traded at 165 in 1986
We warned here in October that Asia’s debt crisis was starting to approach its endgame:
“Last week, the Japanese yen fell through the US$ : ¥150 level for the first time since 1990. As the chart shows, it has now fallen by nearly 50% against the US$ in the past two years.
“The currency is behaving as if Japan were a 3rd world country. Yet it is actually the 3rd largest economy in the world. Clearly, something is wrong, very wrong.”
And now, as the Bloomberg chart confirms, the endgame has begun.
THE HISTORY OF CURRENCY CRISES SUGGESTS THE BANK OF JAPAN WILL LOSE THE BATTLE
The issue is simply that Bank of Japan (BoJ) has to go into battle with the speculators, who expect the yen to fall much further.
The crisis has been building for years, as former US Treasury Secretary Larry Summers has warned:
“The utter failure of the Bank of Japan’s extensive efforts to raise inflation suggest that what was previously treated as axiomatic is in fact false: Central banks cannot always set inflation rates through monetary policy.”
Today, the BoJ faces a binary choice:
- Its interest rates are well below world levels. And the history of currency crises suggests it either (a) needs to rapidly increase them to world levels or (b) risk seeing sustained pressure on the yen.
- The latter is the “easiest option” as Japan’s debt is already >250% of GDP. But the yen is already at a 35-year low versus the US$ and has broken the key resistance level of US$1 : JPY 152.
Can the BoJ win the battle with the speculators? It seems unlikely. Every hedge fund in the world knows how the game is played. If they have forgotten, they only have to look at the history of UK sterling crises. The recent short-lived disaster of the Truss premiership in 2022 is a handy reminder.
ALREADY, THE BoJ HAS BEEN FORCED TO STAGE 2 OF THE BATTLE
Spot the Interventions
Either the MOF twice intervened in the yen, or lightning struck twice
Essentially the pattern goes as follows:
- The currency goes down: the authorities try to talk it up and say how well the economy is doing
- The markets ignore them, so you sell dollars or euros and the currency rallies for a bit
- People do their sums, and decide you probably can’t afford to do much more of that
- So more selling takes place – and you can’t afford to intervene again- so you raise interest rates
- That works for a bit, and then people realise the economy can’t stand too much of that
- So they sell the currency again and you raise rates to very high levels…and then the game ends
Every crisis has its own rhythm. But already it is clear that we are at Stage 2 as the second Bloomberg chart confirms. The BoJ has already had to intervene twice over the past week by selling billions of dollars from its reserves to support the yen.
THE US WOULD LIKE A WEAKER DOLLAR, BUT RATE CUT HOPES HAVE FADED SINCE DECEMBER
What the Market Has Priced In
Central banks usually try and support each other. And certainly the US Federal Reserve has been doing its best to talk the dollar down since December:
- As the Aptus chart shows, it encouraged markets to believe there could be 6 rate cuts during 2024
- But unfortunately, this meant consumers thought it was a good time to buy, with rates likely to fall
- And so inflation has been rising in recent weeks – meaning there may not be any rate cuts this year
A MAJOR CURRENCY CRISIS IS NOW HIGHLY LIKELY
And so today, we have a potential currency crisis ahead. The yen is very weak versus the US$, and so are the other 3 major Asian currencies as the charts show:
- China’s currency is very weak against the US$; the Indian rupee and Korean won are also very weak
- Importantly, given China’s rivalry with Japan and its focus on exports, the yen is very weak versus China’s Renminbi
- Unless the BoJ manages to support the yen, China will have to devalue, setting off a chain reaction
The risk is obvious.
These 4 countries are the 2nd, 4th, 5th and 14th largest economies in the world. They are all focused on export-led growth based on a weak currency.
Japan, China and S Korea also have high levels of debt to GDP (China 295% of GDP; Japan 252%; S Korea household debt 101% of GDP). And they have ageing and declining populations, so their debt probably cannot be repaid.
India has a young and growing population, but is too poor (GDP/capita just $2731) to replace them.
THE USA IS UNLIKELY TO SIT BACK IN AN ELECTION YEAR
2024 is an election year in the US. So the Administration cannot simply sit on its hands and watch the dollar rise versus the main Asian economies.
It will have to respond as US Secretary of State, Antony Blinken, warned last month in Beijing:
“China alone is producing more than 100% of global demand for these products (solar panels, Electric Vehicles, batteries), flooding markets, undermining competition, putting at risk livelihoods and businesses around the world.
Now, this is a movie that we’ve seen before, and we know how it ends – with American businesses shuttered and American jobs lost. President Biden will not let this happen on his watch. We’ll do what’s necessary to ensure that American workers can compete on a level playing field.”
This is the 3rd time we have warned of an approaching crisis. Both previous times, ahead of the Great Financial Crisis and the Covid pandemic, some commentators suggested we were wrong. This time, however, I suspect things may be different.