Just when you might think that it is time for something of a rest the flow of economic news has if anything accelerated further! After wondering yesterday where the Bank of Japan had been when the Yen surged to 77.18 against the US Dollar – and thank you to those who contacted me to suggest it had been suffering from a Tokyo power cut…- it finally gathered its thoughts and in line with its government asked for help from the G-7 group of nations and overnight they have announced this response.
at the request of the Japanese authorities, the authorities of the United States, the United Kingdom, Canada, and the European Central Bank will join with Japan, on March 18, 2011, in concerted intervention in exchange markets…… We will monitor exchange markets closely and will cooperate as appropriate.’
Once this was announced the Bank of Japan began to sell its own currency and buy the US dollar and market estimates are that it spent some US $3 billion in its first wave of currency intervention. The Yen rapidly weakened from 79.25 to around 81. As I type this article the Yen is now at 81.26 versus the US dollar which is down 3% in Yen terms on yesterday. Against the Euro it fell by around 4% to 115.3 although it has now retraced to 114.3.As the day develops we will expect to see the Bank of England and the European Central Bank act first followed later by the American and Canadian central banks.
Will it work?
In the short-term I believe that this intervention has a good chance of success. Although I would have preferred the Bank of Japan to have called for help and intervened when the surge in the Yen took place on Thursday morning Tokyo time when it reached around 76.25 (markets seem to have settled on this number now) against the US dollar as it may have prevented the rise by so doing. I still am unsure why it did not do so as it was happy enough to intervene at a much worse level (83) back in September 2010. I do hope that the delay was not due to politician’s wanting to be involved and to in effect grandstand and feel important. Another factor which may help in the short-term is the fact that the G-7 group of nations has not intervened in this way since September 2007 and the fact that everybody can see that whilst there is potential for economic advantage for Japan in this the main motivation is a response to a severe natural (and with the nuclear reactors man-made) disaster.
In the longer-term the prospects are much less certain. If you analyse Japan’s economic situation it was already true pre-earthquake that there were more and more reasons for expecting the Yen to weaken over time. One US fund manager Kyle Bass believed in this story so much he took out a personal mortgage in Yen in order to benefit from its fall. However the truth has been that it has got stronger. Post crisis it is plain to see that there are more reasons to expect a weakening of the Yen. For example Japan will have to import more raw materials as she rebuilds and she will have to import more energy as the four troubled reactors will not be used again. In addition she will have to borrow more and this will add to already high levels of public borrowing which are around 220% of her economic output as measured by Gross Domestic Product. So yes the Yen should in the end weaken but the influence of the “carry trade” which I wrote about yesterday could yet lead to further Yen rallies as we simply do not know how much of this remains to be unwound. What we do know is an enormous amount of it appeared to take place.
Other Monetary Easing by the Bank of Japan
As well as its currency intervention the Bank of Japan has undertaken other measures which one might ordinarily expect to weaken the Yen. One clear example of this is its increase in the supply of money in Japan which has totalled some 37 trillion Yen (around US $450 billion although with such exchange rate volatility care is needed…) over the week of which some 3 trillion Yen was supplied last night. Conventional economic theory would suggest that an increase in money supply of this form is likely to lead to a fall in its price which could be via inflation or a fall in the exchange rate. However,in my opinion, caution is needed with such analysis as the velocity of money is likely to be falling maybe by as much or more as the increase in the money supply. Putting this into basic terms those in the earthquake zones are likely to hold more cash and the failure of one group of cash machines is likely to exacerbate such trends. I would imagine in this areas there is even some inflation as people bid for supplies of food and fuel which are in short supply. Inflation is rare in Japan but in its North-East I am sure it is present.
If it affected you
Imagine you were a foreign national working in Japan and for simplicity you are paid in US dollars. When the earthquake hit if you had just been paid you could exchange your money into Yen at 83 and if by some stroke of bad luck you were paid at the peak you would have got 76.25. This would mean you were around 8% poorer in less than a week! Please do not misunderstand me many in such a situation have more pressing concerns right now but the point still stands and it shows the impact of such economic volatility.
The Fukushima 50
I would just like to send my sympathies and admiration to the Fukushima 50. At a time of enormous personal risk these people are struggling to get the four troubled reactors under control and having read about the consequences and implications of what happened later to those who acted in similar fashion at Chernobyl they have my respect. For those who have been able to evacuate the area I think they owe them a bit more than respect and this is brought into focus by Japan announcing as I type that the disaster is now up to 5 on a scale which only goes to 7. Am I the only person who feels there is something Orwellian about measuring things in this way?
I have to confess that the efforts to attach what appears to be the equivalent of an extension cord to reactor number 2 on the site reminds me of an episode of South Park. There the world was in a panic over the end of the internet which was solved by a nine-year old boy walking up to it taking the plug out and putting it back in. Sadly we are unlikely to find anything like such an easy solution to this problem…..
Some perspective on the price of crude oil
I wrote earlier this week that I was surprised to see a fall in the price of crude oil. To my mind this was happening when there were two influences which in my opinion were likely to raise and not lower the price. These are the continuing crisis in North Africa and Arabia which are both oil-producing regions and the situation in Japan which will mean that as soon as things return to normality the world’s largest oil importer will need yet more oil to replace what was previously supplied by Fukushima nuclear reactors.
If we look at what happened the front month futures price of a barrel of Brent crude oil reached a low of US $107.35 on Wednesday. It started a surge on Thursday morning and rose by 4.15% on the day reaching US$ 114.9 as I was calculating some numbers last night. Now if we look back to see the potential inflationary impact of this we can see the following. In early 2009 the oil price was below US $50 and if we move forwards in time it was below US $80 in late September 2010 and started 2011 at US $95 per barrel. So overall we have seen quite a surge which will have inflationary implications. For example the price of a litre of diesel is now just under £1.40 at the garage around the corner from my home and the price of a litre of petrol is now just under £1.34. To the extent that people have fixed budgets the rise in the price of oil will have deflationary – as in a reduction in aggregate demand – impacts on the world economy too which reminds me of one of the themes I established for 2011.
Never Fear the FOMC is here!
I am reminded of the statement issued by the US central bank earlier this week and the emphasis is mine.
The recent increases in the prices of energy and other commodities are currently putting upward pressure on inflation. The Committee expects these effects to be transitory, but it will pay close attention to the evolution of inflation and inflation expectations.
Phew! For a while I thought that we had real problems! More seriously they simply do not know this and British readers will be rather familiar with their central bank calling inflation “temporary” and “one-off” and again in the British case of the central bank proving to be a reverse indicator of inflationary trends as well as an abuser of definitions in the Oxford English Dictionary.
The UK Housing Market
I have written on several occasions that I feel that 2011 looks like it will be a difficult year for the UK housing market and that due to a technical move by the Bank of England a fall in house prices could become something of a rout. I see that weak mortgage lending figures for January have been followed by equally weak figures for February where gross mortgage lending was only £9.5 billion. No doubt the same excuses being used in January will be wheeled out but here are my thoughts from the 28th of January.
I wrote an article elsewhere back in December about the Bank of England’s withdrawal of its Special Liquidity Scheme and the impact I feel that withdrawal around £9 billion per month is likely to have on the availability of credit in 2011 and in particular on mortgage finance. I feel more and more that this move was and is a policy error.
I see nothing in the news that has emerged since I first wrote on this topic back in December 2010 to make me change my mind, in fact the news since then only confirms what I predicted. I would be interested to see what evidence readers have from their own area on the state of the UK housing market.