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June 13, 1998 Two years ago Japanese firms estimated they were competitive at 106 yen/dollar. Compare tends in inflation and productivity in tradeables in the U.S. and Japan since the last time we were at 145 yen. The Japanese further increased their competiveness by moving the labor intensive component of their output to the emerging Asian countries which have now drastically devalued against the dollar. Japanese competitiveness is off the charts. When asked about the growing U.S. current account deficit, Greenspan recently said 1) that's Rubin's turf 2) everyone wants to buy dollars now, and 3) in the long run the financing of a wider U. S. current account deficit cannot be sustained. The Fed probably understands that the yen has fallen too far. From a long run perspective, trade theory says 145 yen is not sustainable. But today's markets care only about momentum, not fundamentals. Policy makers usually care about such fundamentals. The industries they serve ususally care about such fundamentals. Rubin is unusual in that he has relatively little concern about such trade fundamentals. His focus is to keep capital flowing into U.S. stock and bond markets, to impose U. S. style market regimes on other countries, and to increase access by U.S. firms to foreign assets and markets. Rubin wants reforms in Japan that favor U. S. business but that tend to deflate domestic demand in the short run. Rubin wants more fiscal stimulus in Japan where public sector debt and deficits are already out of control. This muddies the outlook for G-7 intervention. Long run, there is only one solution for Japan: the government must buy the bad loans from the banks and increase the monetary base enough to generate a yen inflation. It is not an issue of if these two things will happen; it is a matter of when. Japan is moving tentatively toward both. If it continues to move tentatively the crisis will deepen. If it moves decisively, rapid monetary base growth will tend to weaken the yen ( as it is doing already ). Once that is absorbed, getting the banks in a position to function again will be the turning point in dynamic fundamentals.Then the yen is a multiyear buy independent of G-7 intervention. What about the short run. Managing ( talking ) the dollar down would 1) bring currency parities in line with long term trade fundamentals, and 2) help restore stability to Asia and the emerging world. Under current chaotic conditions, both are desirable objectives. It appears that Rubin's political wish list for Japan impedes a move toward coordinated intervention. Everyone fears a Chinese devaluation could deepen the global currency crisis. On Monday and Friday of last week the Chinese stated that they would hold the line on the rimimbi but hinted that they might have to devalue. When you are defending a currency. you never hint that you might devalue. The Chinese have. We must interpret this as a threat to the G-7. Clinton is going to China in two weeks. It appears that the Chinese are applying pressure to the G-7 to stabilize the yen.. The speculative community is massively short the yen. They are convinced tht Japn can do nothing before the elections in late July so there is no near term risk. But the Chinese are threatening that, if the yen keeps falling, they may devalue, possibly just before or after Clinton's visit. Such political considerations may move Rubin to agree to massive coordinated intervention to reverse the decline in the yen, despite his desire to play chicken with the Japanese to get his political wish list. Because the speculators are so short and so complacent before the July elections, it might work. It would work if the Japanese agreed to strong measures after the elections to buy the bad loans from the banking system and to cut taxes on consumer incomes. By Frank Veneroso If this commentary is of interest, you might like to read a piece we sent to clients on May 12 called, " High Tech, The Boom Bust Cycle of a Generation?". It can be found at our website, www.venerosogold.com. Other stories that also might be of interest, are "Recollections of the Greatest Stock Market Bubble Ever" and "Reflections on the Tokyo Stock Market Bubble". Bill Murphy | ||||||||||||
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