JPY intervention risk rising

- "The prospect of currency intervention to stem the appreciation of the yen has surfaced in the past week. In examining the market’s arguments, and comparing Japan’s situation with other major economies, we think the risk of intervention is real and rising."
- "Intervention is normally considered an option when markets can not be relied upon to adjust prices according to fundamentals. The main conundrum confronting the yen is that markets have favored the currency in both bad times and good.
• When the global recovery story was strong, the argument was that Japan stood to benefit from increased demand in Asia. This sounds logical except that, unlike other Asian stock markets, the Nikkei slides when the yen appreciates. The stronger yen not only hurts the operating profits at Japanese manufacturers, but are encouraging more companies to consider shifting production offshore.
• When risk aversion sets in, the yen becomes a safe haven currency. With 56% of Japan’s exports headed for Asia, does it make sense for the yen to appreciate while Asian currencies depreciate during this period? Probably not.
• A more plausible explanation for yen strength is the inability of the US economy to shake off post-crisis worries that it was headed towards a Japan-style deflation. Put simply, it is more reasonably a case of USD/JPY accompanying US bond yields lower. But the thing is, investors are seeking safety in US bonds, not Japanese bonds during periods of risk aversion."
- "In our view, markets should not be too quick to dismiss Japan’s complaint about the excessive strength in its yen. To be sure, in falling alongside US interest rates, a lower USD/JPY has dragged Japan’s equities lower. In reflecting US deflation risks, a stronger yen increases the odds of deepening Japan’s deflation woes. With China’s economy surpassing Japan this year, it does not make sense for the yen to bear the brunt of the currency adjustment on behalf of the yuan. In this regard, the yen has already delivered more than its fair share of appreciation since 2008."

DBS Asian Currency Research 20100818

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