September has seen the Japanese yen crack ¥140 to the U.S. dollar, the first time that the yen has moved that high since August 1998. Some of the currency trackers I use aren't much use because they don't go that far back...
It's a 24-year weak point, nigh on a quarter century. While the Bank of Japan says it's watching the currency "with a high sense of urgency," there's little indication that the central bank is urgent enough to do much about it.
Actually, there's little they can do. The People's Bank of China, the Bank of Korea, the Reserve Bank of India and Bank Indonesia have all intervened in their currency markets, without much effect.
Weakening currencies buffet the economies of North Asia in particular: Japan, South Korea, Taiwan. Exports, the section of the economy that benefits from currency weakness, are slowing out of Korea and Taiwan in particular. Imports -- of parts, fuel, all the underpinnings of production -- are escalating rapidly in price.
Southeast Asia, South Asia and China are more insulated, protected by large domestic economies that are often ring-fenced by protectionist policies. In the long run, those policies make nations less competitive, and heighten the difficulty for multinationals to operate there. But they temporarily ward off the worst of the currency weakness.
Inflation still represents a problem in Asia, even if it is has not reached the eye-watering levels in the West. Australia, South Korea, Singapore, Indonesia and Taiwan face the largest challenge in that regard, with more than 50% of the main categories in the Consumer Price Index above their central-bank target. But inflation is already above target in most Asian nations, throwing Thailand and the Philippines also into the mix, causing central-bank headaches all round.
Japan is the one place where rising inflation is welcome. The government and central bank have long targeted a 2% rate, which they have failed to hit again and yet again. But core inflation is now running at 2.4%, and price increases are being passed along the supply chain. That would be welcome, were it not for the fact that wages are not rising in tandem. Lower purchasing power is dragging consumer sentiment down.
The central banks in India, South Korea, Taiwan, Indonesia and Australia have all raised interest rates to curb inflation. Japan, by maintaining its extremely accommodating stance, and China, which is trimming rates at the edges due to a dire growth picture, are the outliers.
The rapid-fire changes in interest rates leave a lot of uncertainty in currency markets. Here, the United States with the prospect of another "unusually large increase" at the Fed's September meeting, and Japan with its efforts to keep interest rates at virtually zero, stand at the two extremes of interest-rate policy.
So the yen is unlikely to stem its weakening direction. So far, the Bank of Japan has attempted to talk the market down rather than actually acting. But even this chatter has been on the mild side.
Nomura predicts the currency may well break above ¥142 to the U.S. dollar, even if the Japanese investment bank expects the currency to fall back to around ¥130 toward the end of the year. Its currency analysts are watching the wording used by Japanese central bankers. Any talk of "disorderly" markets or the need for "bold action" or "tough measures" would signal a trend toward actual intervention. Right now, the central bank says it will "watch markets with a high sense of urgency," but that hasn't been enough for them to act.
Fedspeak will also play a role in the future direction of the Japanese currency, Nomura analysts Yujiro Goto and Yusuke Miyairi believe. If U.S. and global inflation have peaked, and if the U.S. economy enters recession in Q4, the hawks in the U.S. central bank may relent. A ¥130 rate would then be on the cards.
That said, the yen is keeping good company in Europe. The euro has today fallen to a 20-year low. While the British pound is tracking at early-pandemic levels, similar to March 2020, it is a nudge above breaking below the US$1.1412 mark, which take it to its weakest level since 1985.
If the Fed goes ahead and raises rates by 75 basis points at the meeting scheduled for September 20-21, the future direction of the yen and other currencies will be driven by what the market perceives as the next steps.
The depreciation of Asian currencies is unlikely to end even when central banks intervene, according to Société Générale. "The pattern seems to be that greater depreciation has resulted in more interventions, rather than more interventions leading to less depreciation," SocGen's Asian economics team state in their latest Asia Cross-Asset Monthly report.
The yen's weakness may not cause the kind of trouble that steep currency declines have caused elsewhere in Asia in the past. A whopping 40% of the corporate revenue in Japan comes from overseas sources, SocGen calculates. The foreign income, particularly in U.S. dollars, helps offset import costs, counteracts what is in any case mild inflation, and supports earnings growth.
So we can expect these elevated yen levels to sustain. Any yen strength would, paradoxically, be caused by U.S. economic weakness rather than the fundamentals in Japan.
