Japan’s Fujii Still Confused about Intervention

Since then, two things have happened. [Well really only one thing, since the second is more of a "non-happening."] Anyway, the first is that the Yen broke through the important technical/psychological level of 85 Yen/Dollar for the first time in 14 years. The second is that Mr. Fujii is still no closer to articulating a coherent approach to managing the Yen. Last week, alone, he referred to movements in the Japanese Yen as “extreme” and suggested that now was the time to remain vigilant and that “appropriate measures” are “possible.” A few days later, however, he called intervention “unthinkable.”

Given this nearly uninterrupted record of waffling, one might think to accuse Mr. Fujii of deliberately trying to confuse the markets. After all, how else can one explain the hourly changes in his forex policy. It’s ironic that Fujii himself has told reporters that, “It’s wrong to fuss over the currency market’s daily movement,” considering that his feelings on intervention seem to fluctuate in accordance with the Yen.

Thankfully, we may not have to deal with this carnival of uncertainty for much longer, as the Bank recently told reporters that “The government, not the BOJ, decides whether to intervene in currency markets.” At the same time, intervention would ultimately be carried out only under the auspices of the BOJ, which would presumably have the authority to determine a targeted valuation.

As for the million-Dollar question of whether intervention is more likely now that the Japanese Yen is closing in on a post-war record, it’s a bit more nebulous than it was in October. It seems that the political will now exists to intervene. The main obstacles are Fujii, himself, who had earlier pledged to administer a free-market approach to managing the Yen, and the international community.

Given that Japan still runs a trade surplus, it would be difficult to justify forex intervention. In addition, the Democratic Party of Japan (DPJ) made election promises to wean the Japanese economy off of its dependency on exports to drive growth and instead to cultivate a domestic consumer base. This promise was apparently reiterated to US President Obama during his visit to Japan earlier this month, and would be greatly embarassing if Japanese economic officials reneged so soon thereafter.

At the same time, politicians (of any nationality) are not exactly known for their integrity and their consistency, so it wouldn’t be surprising if they decided that in the context of the Yen’s continued strength that they decided to take action. “The sense of caution over the possibility of intervention is definitely higher now after the breach of Y85.00. We are all watching for any more comments from the authorities.” Given the political implications, however, it seems the more likely course of action would involve a tweaking of monetary policy – quantitative easing, under the guise of deflation fighting – rather than outright intervention. Such would be less awkward than intervention, and probably more successful.

Bank of Canada Still Mulling FX Intervention

The Canadian Dollar fell from parity with the US Dollar in July 2008. For a minute, it looked as though it would return to that mark in October 2009. Alas, it was not to be, as the currency that had risen 20% since March wasn’t able to rise another 3% to close the elusive gap that would once again bring it face-to-face with the Greenback.

The Loonie’s rise was not difficult to understand. Soaring commodity prices and the fact that the economic recession was milder in Canada than in other economies drove the perception that Canada was a good place to invest. Despite a surging budget deficit and weak domestic consumption, investors bought into this notion. The weak Dollar and rising risk aversion reinforced this perception, and as investors accepted that parity was inevitable, hot money poured in and the Loonie’s rise became self-fulfilling.

That was until Mark Carney, head of the Bank of Canada, used the strongest rhetoric to-date in discussing the possibility of intervention. For the first time in this cycle, the markets took the hint, and sent the Canadian Dollar down by the largest single-day margin in months. “Markets should take seriously our determination to set policy to achieve the inflation target. Markets sometimes lose their focus, we don’t lose our focus,” he said firmly, adding that forex intervention is “always an option.”

Intervention is supported both by economic data, and other Canadian institutions. According to one estimate, every 1 cent increase in the Loonie against the Greenback costs the county $2 Billion in export revenue and 25,000 jobs. The chief economist for CIBC, meanwhile, has warned that many companies are in the process of making long-term direct investment decisions, and could be discouraged from locating in Canada because of perceptions that its currency will remain strong for the immediate future: “If the loonie is overvalued for a few years, we may be sacrificing business plant and equipment on the altar of a strong currency.” He also compared the predicament facing the Bank of Canada to that facing the Royal Bank of Switzerland, which ultimately and successfully intervened on behalf of the Franc. Intervention on behalf of the Loonie, he argued, could be undertaken under the umbrella of fighting speculation and irrational movements in currency markets.

Prior to this outburst, investors had basically concluded that the BOC wasn’t prepared to put its money where its mouth was, so to speak. “The central bank’s shot across the bow has definitely subsided. There’s not much they can do,” summarized one analyst a few weeks ago. The term “jawboning” had become the preference of columnists and investors when discussing the resolve of the BOC. The belief was that the BOC had concluded that intervention was essentially a futile proposition (based on its failed efforts in the late 1990’s), and that it would instead resort to making idle threats.In fact, it seems investors still are no convinced that the BOC (via Carney) means what it says. “Mark Carney has raised the prospect of intervening in currency markets, but seems reluctant to actually do so,” argued one analyst. “I don’t think they would really like to intervene at all, and they would prefer avoiding it. If they can intervene by jaw boning, they would much rather do that,” added another.

Why did the Loonie fall suddenly then, if the markets still aren’t concerned about intervention? The answer is that they have seen the concrete impact of the expensive Loonie on the Canadian economy. In the words of one analyst, it has moved from being a threat to a bona fide impediment. Especially given the stall in the commodity price rally, investors apparently are willing to acknowledge that they may have gotten ahead of themselves and that parity with the Dollar is not yet justified by fundamentals. Meanwhile, Canadian interest rates are at a comparable level with US rates, which means foreign investors can’t earn a yield spread from investing in Canada. This is likely to be the case for a while, as the valuable Loonie has kept inflation in check and given the BOC some flexibility in tightening its monetary policy.

Personally, I don’t think the BOC will ultimately intervene. Investors have shown that they aren’t afraid of the BOC, which would make any intervention both expensive and unfruitful. In addition, I think investors have accepted their own accesses, and will hesitate to push the Loonie much higher (or past parity, for that matter) until there is more evidence that such is justified. In the meantime, expect the Loonie to hover in the 90’s and perhaps even test parity, before smashing through when the time is right. And this, I do believe, is inevitable.