Why the West supports the yen’s devaluation and Japanese over-indebtedness

Launch of the first round of negotiations in view of the conclusion of a Free Trade Agreement between the EU and Japan. Jun Yokota, Japanese Chief Negotiator, Special Representative of the Government in charge of the negotiations on the Economic Partnership Agreement (EPA) between the EU and Japan, 4th from the right, and Kojiro Shiojiri, Ambassador of Japan to the European Union, 3rd from the right. (EC Audiovisual Services).

While the ministers of Finance of seven major industrialised countries making up the G7 council agreed pompously last weekend that monetary devaluations should not be used as a home economy revitalisation tool, Japan doing exactly that got a pat on the back and was  given the green light to continue on the same path. The Japanese minister of Finance, Taro Aso, happily announced that his colleagues in the G7 didn’t object his policies, “to fight deflation” at home. Of course he didn’t say that at the same time those policies have caused a severe and very competitive devaluation of the yen in relation to all the major currencies.

In this way the Tokyo government expects exports to increase and imports to decrease, thus helping the economy to come off from a ten-year stagnation period, rightly called Japan’s ‘lost decade’. The economy of the country of the rising sun stopped rising completely some-time after the turn of the millennium and since then it stagnated with zero growth and inflation rates around 0.5%.

Spending for growth

All Tokyo governments and all governors of the Bank of Japan (the central bank) didn’t dare to try to revive the economy with monetary measures, that is with more public spending and debt. The Japanese sovereign debt has reached the highest ever recorded level for a major industrialised country at twice the GDP (200%). For comparison purposes it suffices to point that Eurozone’s sovereign debt is now at 90% and the single money area fights to bring it at 60%.

The dizzying heights of the government debt kept the Japanese economy frozen all along the past decade. Last December, however, Shinzo Abe and his Liberal Democratic Party won a landslide electoral victory on promises to revive the economy. To this effect the new government put together a ten trillion yen public spending programme, which is to be financed by more sovereign debt and money printed by the Bank of Japan. To this effect Abe had also to change the governor of the BoJ in order to fully apply its ‘Abenomics’. The new governor Haruhiko Kuroda supported the government’s plan and the BoJ agreed to finance an additional government spending plan of Y13 trillion just for this year.

Understandably the new programme has a double target. The prime aim is of course to revive the internal economy and secondly to devalue the yen. It goes without saying that inflation would rise well above the 0.5% and reach probably a round 2%.

Who pays the bill

As from January this year the country’s monetary unit, the yen, receded generously in relation to all the major currencies of the world. Its devaluation was even more noticeable however vis-à-vis the currencies of Japan’s main competitors in South East Asia. China and South Korea are the main victims of this new Japanese policy line, because the three economies are direct competitors in international markets. As a result the main cost from the cheap yen will be borne by the rest of the region’s economies, not the West.

The G7 though doesn’t include representatives from China and South Korea. On top of that the Japanese economy is deeply inter-related with Eurozone and the US and consequently the G7, which comprise Britain, Canada, France, Germany, Italy, Japan and the United States, had no problem with the yen’s wide devaluation. Not to forget that Tokyo is a long-time partner with the western economies and also constitutes a large import market for western products.

It is probably not by chance that the European Union and Japan have just started negotiations towards a bilateral Free Trade Agreement. It’s not clear if this FTA between those two major economic partners has anything to do with the European Union’s positive attitude in the G7 towards Japan. It has to be noted however that this FTA with Japan has been contested by the European automotive industry, on the grounds that this Asian country would never really open its internal automotive market to the European car makers.

In any case, the Western benediction of the new Japanese monetary and exchange rate policy to stimulate the real economy is a major change in the global economic horizon. The US wouldn’t object it, because it gives Washington an additional argument to do the same and the European Union probably hopes to really open the Japanese market to European food specialities, not cars. Probably automotive Germany could have some objections on that.

Last but not least, capital markets are showing their appreciation with strong upwards movements, to this paper money (yen) rejuvenation of the Japanese economy. Seemingly everybody in this affair thinks that the Japanese sovereign debt, which now gallops above the benchmark of 200% of GDP is not a problem. It’s practically what the Japanese owe to themselves! Actually home investors there place their money on their country’s debt, even at negative real interest rates. They are true Samurai! Eurozone can take a lesson or two, given that the single money area has also the ability to self-finance its sovereign debt, but the Germans must first learn to trust the other Europeans.