Weak yen could push Japan further into stagnation

Weak yen could push Japan further into stagnation

Weak yen could push Japan further into stagnation

Japan is still trying to export out of the stagnation by devaluing the yen, but it won’t work.

On the contrary, it could worsen the situation as Japan relies on raw material imports to grow its economy.

Last week, the Bank of Japan confirmed its free money policy. It kept short-term rates at -0.1% and long-term rates close to zero, meaning the country’s central bank will continue to aggressively buy long and short-term securities.

Japan’s reaffirmation of the policy of free money goes against the policies of other major economies. The Bank of England has already raised interest rates for the fifth time. The Federal Reserve has followed suit, becoming more aggressive with each rate hike. And the ECB of the European Central Bank has pre-announced the interest rate hikes with effect from 1 July.

The reason for this divergence in Japanese policy is that unlike the US and the eurozone, Japan does not have a serious inflation problem. Japan’s consumer price index (CPI) rose 2.5% year-on-year in May, compared to 8.7% in the US and 8.1% in the eurozone. Japan, however, faces another problem: three decades of stagnating economic growth.

To counter economic stagnation, Japan has taken unprecedented and unconventional monetary measures. First, it drove short-term interest rates close to zero, making money market borrowing free. Second, it invented Quantitative Easing (QE) by letting the Bank of Japan buy long-term securities, bringing long-term interest rates close to zero.

How would that help the country out of stagnation? In a few ways. One is by supporting the stock market, which was the worst performing market among the developed countries. The Nikkei benchmark average is trading near 26,000, well below the 39,000 it traded more than three decades ago.

Second, through “financial repression,” providing the Japanese government with free money, which also launched an unprecedented fiscal package. It built bridges and roads everywhere and nowhere to “stimulate” the economy. Japan thus became one of the most indebted countries in the world, with a debt-to-GDP ratio of around 260%.

Third, it weakened the yen to collapse, making Japanese products cheaper for foreign markets, especially in the Americas and Europe, the country’s two largest overseas markets.

In the past, these measures had a positive impact on the Japanese economy. But they weren’t enough to lift it out of stagnation for one simple reason: The country’s problems are structural and, above all, teeming with unfavorable demographics and an ailing banking system, which Tokyo has yet to address.

Today, when energy and commodity prices skyrocket, these measures could harm rather than help the country’s growth – for example, a weakening yen boosts the value of imports more than the value of exports, dampening GDP growth , as recent data confirms. In the first quarter of 2022, net exports – the difference between exports and imports – contributed negatively to GDP due to a surge in imports due to the weak yen and rising prices of raw materials and energy materials.

Illustration image of Japanese yen coins and banknotes Japanese yen coins and banknotes can be seen in this illustration photo, taken on June 16, 2022. Photo: Reuters / FLORENCE LO

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