[DanRath]

The lead article in this week’s FX Weekly Brief discusses the intriguing policy issue of JPY strength. Despite a stronger currency not being in the interest of the Japanese economy, which is still wrestling with deflation and relies heavily on export-led growth, Japanese authorities are not intervening in the FX markets. There are five reasons they have not done so and will continue on this path. First, thus far, the stronger JPY has not led to a weaker Nikkei, which suggests that JPY strength has not yet adversely affected the economy. The Nikkei correlates strongly with the government’s approval rating, so there is also little political pressure to intervene at this time. Second, JPY strength is largely against the USD. On a real effective exchange rate basis, the JPY is close to its long-term trade-weighted average. This would make it politically difficult for the Japanese authorities to justify intervention to their colleagues in Europe. Third, the DPJ government is emphasizing a shift toward domestically oriented growth and away from export-driven growth. Fourth, public statements from both government officials and the BoJ suggest that fighting deflation is no longer the centre of policy discussions. Finally, diplomatic tensions between the US and Japan are running a little high, following the Japanese government’s hesitation to continue cooperation in the war in Afghanistan.

Of these five reasons, equity prices are the most important – intervention would most likely be triggered if they weaken significantly. A dramatic decline in the USD is also a potential trigger, but likely would involve wider G7 intervention.