Beware side effects of weak yen

The value of the Japanese yen has fallen over 15 percent in just four months, sinking below the 90-mark against the U.S. dollar amid calls from new Japanese Prime Minister Shinzo Abe to cure Japan’s maladies through ultra-loose monetary and fiscal policies. He has even vowed to make the Bank of Japan conform to his will to fix the deflationary and sluggish economic trend through “unlimited money-printing” - or quantitative easing to depreciate the yen, ignite inflation and revive Japan as an export powerhouse.

His new cabinet approved an emergency stimulus package to increase government spending and projects and set a specific inflation target of 2 percent to “free” the economy from its chains of deflation and a strong yen. As the message has been sent loud and clear across global markets, the yen is likely to keep depreciating. A weaker yen benefits Japanese exporters and spurs spending at home. But many are skeptical about whether this artificial prescription will have lasting effects.

The foreign exchange rate is best left up to the market. The yen has remained strong since 2008 despite it having under-performed, largely due to external factors. Investors saw it as a safe haven due to questions about the security of the greenback following the meltdown on Wall Street and the fact that the euro has become weighed down with credit risks. The Abe government is creating more trouble on the highly fragile global financial market by interfering too much with the foreign exchange rate.

Christine Lagarde, managing director of the International Monetary Fund, warned against Abe’s beggar-thy-neighbor policy, which employs currency devaluations or other protective barriers to ease economic difficulties at the expense of other countries. Such protective actions can trigger chain reactions from other countries, which could spell a disaster for the global economy and trade.

Foreign exchange interference often does more harm than good in the long run, unless a grand consensus is reached (as was the case in 1985 when representatives of five major economies met in New York and decided to realign the exchange rate system to foster growth). But Japan will soon lose its ammunition and resources to act alone. It could even stoke a currency war, which would be disastrous for it.

Korea is most sensitive to Japanese currency movements as it competes fiercely with Japanese products on the global market. Exporters now find themselves squeezed between the strengthening won and weakening yen. As such, authorities must consider a “smoothing operation” to fend off speculative capital and ease volatility. Exporters have had it easy so far thanks to the weak won, but they now have to face up to the harsh reality.