Foreign exchange

The yen also rises

How far can the dollar fall before Japan feels the need to intervene?

A headache, but not yet a migraine

Correction to this article

IN RECENT years the yen has been a profitable carry-trade currency, used by investors to borrow cheaply in order to splurge on risky assets around the world. If the carry trade is now part of a bygone era, so is the weakness of the yen. It has soared almost 30% against the dollar since June and on March 17th it hit a 12-year high of ¥95.76. After the Federal Reserve cut interest rates on March 18th, the dollar remained under pressure.

The yen's strength causes little jubilation in Japan. A strong yen squeezes company profits since Japan is heavily dependent on exports. Toyota, for example, bases its earnings on an exchange rate of ¥105: every ¥1 appreciation against the dollar costs the firm ¥35 billion ($350m) in annual operating profit. That, in turn, hurts the Nikkei 225, which has tumbled even faster than the yen climbs; it has shed more than 20% since the start of the year. Almost 60% of the companies on the exchange's main market are trading at less than their book value. Moreover, a strong yen cuts into economic growth.

Even without a governor for the Bank of Japan, the market is starting to price in a quarter-point rate cut at the bank's next meeting in early April. At the same time, the rising yen is becoming a political issue. Fukushiro Nukaga, the finance minister, called its appreciation “excessive” and worrisome. In the past, the finance ministry has moved fast to prevent the yen from becoming too strong. As recently as 2003-04 it sold ¥35 trillion to prevent a rise in the currency that might derail its nascent economic recovery.

Japan has several reasons to hold fire, however. Although a strong yen hurts exporters, it helps hold down the prices of imports, for such things as oil and food. It is not considered overvalued on a trade-weighted basis or against other currencies. In inflation-adjusted terms, a rate of ¥100 to the dollar is equivalent to ¥125-130 a decade ago, according to Eisuke Sakakibara of Waseda University (who was known as “Mr Yen” for managing Japan's currency interventions from 1997 to 1999 at the Ministry of Finance).

Even if it were to sell yen, America may be an unwilling buyer; its carmakers say the appropriate exchange rate is ¥90-100 to the dollar, notes Yasunari Ueno of Mizuho. He believes the Japanese government won't consider intervening until the rate goes at least to ¥90.

Today it is not even certain how effective intervention might be. Globally, daily foreign-exchange transactions exceed $3.2 trillion, more than twice the value in 2003. For intervention to work, Japan would need to recruit other central banks to the cause. But the dollar may not be weak enough for that—even against the yen.