The New Currency War
Unless you’ve traveled to Tokyo recently, you may not have noticed that over the past several months, the value of the Japanese yen has plummeted vs. rival foreign currencies. The yen’s decline is no accident, as the Japanese currency began heading lower right around the time it became apparent that the Japanese people were going to elect Shinzo Abe their new Prime Minister.
Indeed, the main plank in Abe’s economic policy was to have the Bank of Japan (BoJ) increase its inflation target to 2% or 3% from 1%. The small increase in the BoJ’s inflation target actually represents a marked shift away from deflationary central bank policies to inflationary central bank policies, a massive sentiment switch for a country that’s not known for change.
You see, after 30 years of economic stagnation, and rewarding savings over investment, something had to change in Japan. So, they’ve embarked on a currency weakening program designed to incentivize citizens to invest their capital rather than just shovel it into Japanese government bonds. The result of what will amount to easier monetary policy will be the same as it has been in the United States, namely the value of the Japanese currency is likely to decline while Japan’s equity market goes up.
The chart here of the Currency Shares Japanese Yen Trust (FXY), an ETF pegged to the yen, clearly shows the yen’s recent plunge.
The concomitant rise in Japanese stocks can be seen via the iShares MSCI Japan Index (EWJ). The fund now trades at a new 52-week high, having blasted through both the 50- and 200-day moving average in November.
Now, if you own Japanese stocks, you’re in good shape. If you are a Japanese citizen, your yen isn’t going as far as it used to. But the Japanese policy to debase its currency is causing another side effect that recently has been described by the financial press as a “currency war.”
The thinking here is that everyone can’t have a weak currency. Japan is trying to keep the yen down relative to the U.S. dollar, the South Korean won, and even the Chinese yuan.
This phenomenon of a currency war is nothing really new. But this time, the combatants are different. Now, Japan is competing with regional rival South Korea with the intent of wiping out Seoul’s hitherto competitive advantage.
Traders certainly have taken note of this situation. Hence, the slide in South Korean stocks, represented here by the chart of the iShares MSCI South Korea Index (EWY). The South Korean market is down about 10% since January, a mighty fall compared to EWJ’s recent spike.
As investors, it behooves us to watch how this latest currency war plays out. Currency battles tend to escalate into potential protectionist moves, which can negatively affect a whole lot of American companies and a whole lot of stocks. The bottom line here is that I want you to be sure you are aware of what’s taking place in countries such as Japan and South Korea, because in this global economy, one country’s actions affect us all.