How Japan plans to intervene as the yen hits a 34-year low
The Japanese government is facing new pressures to curb the prolonged depreciation of the yen. The currency experienced a slight increase after Tokyo issued its strongest warning yet about the possibility of intervention, helping the Japanese currency escape its 34-year low of 151.97 yen per USD on Wednesday.
Japan began buying yen in September 2022 to increase its value since 1998. This move came after the Bank of Japan (BOJ) decision at the time pushed the yen to its lowest level of 145 per USD. The country continued to intervene in October of the same year when the yen dropped to its lowest level in 32 years at 151.94 per USD.
Why intervene?
Currency intervention by buying yen is quite rare. Typically, the Ministry of Finance sells yen to prevent it from appreciating, as a stronger currency would harm exports when Japanese goods become less competitive overseas.
However, the weak yen is now seen as a problem, as Japanese companies have relocated their production abroad, and the economy relies heavily on importing everything from fuel and raw materials to machine parts.
Signs of intervention
When the Japanese government raises warnings that they are “prepared to take decisive action” to prevent speculative activities, it is a clear sign that intervention may be on the horizon. BOJ’s examination of exchange rates is viewed by traders as a precursor to intervention.
What has happened so far?
Finance Minister Shunichi Suzuki told reporters on Wednesday that the government could take decisive action to combat the yen’s weakness. Soon after, the Japanese government held an emergency meeting to discuss the weak yen.
Following the meeting, Masato Kanda, the Vice Minister for International Affairs at the Ministry of Finance, stated that the recent fluctuations in the yen were too rapid and did not align with fundamental principles. This statement indicates that Tokyo has enough reason to intervene in order to prevent further depreciation of the currency.
How much of a decline warrants intervention?
Authorities have stated that they are examining the pace of yen depreciation, rather than the extent of the decline. They also need to determine if these movements are driven by speculators before deciding to intervene.
With the US dollar having depreciated significantly in 2022, traders predict that the yen could drop to 152 and potentially 155.
What triggers intervention?
When public anger towards the weak yen intensifies and leads to increased living costs, it puts pressure on the government to take action. This was the situation that prompted Tokyo’s intervention in 2022.
If the depreciation of the yen continues to rise and attracts reactions from the media and the public, the likelihood of intervention increases.
However, this decision will not be easy. Intervention is costly and can easily fail, as even a large purchase of yen would not make a dent compared to the $7.5 trillion in daily foreign exchange turnover.
How is intervention carried out?
When Japan intervenes to prevent the yen’s appreciation, the Ministry of Finance issues short-term bonds to increase the yen’s value, then sells them to weaken the currency.
To support the yen, the government would need to tap into Japan’s foreign exchange reserves to obtain dollars to buy yen. In both cases, the Minister of Finance would order the intervention, and the BOJ would carry out the order on behalf of the Ministry.
What are the challenges?
Intervening by buying yen is more challenging than intervening by selling yen.
Although Japan holds nearly $1.3 trillion in foreign exchange reserves, this reserve could significantly erode if Tokyo continues to intervene aggressively, limiting officials’ ability to protect the yen.
The Japanese government also considers seeking support from its G7 counterparts, especially the US, as crucial if the intervention relates to the US dollar.
Washington implicitly approved when Japan intervened in 2022. However, the possibility of a similar response remains uncertain as Japan contemplates further intervention.
Source: Reuters