Fall of the Japanese Yen

The Yen. Once one of the world’s most respected currencies is no longer a safe haven. In times of geopolitical and economic uncertainty, foreign governments and investors often sought the Yen; the Ukrainian-Russian conflict has spelt an end to this. The nominal exchange rate of the Yen took a sharp dive following the beginning of Putin’s Westward crusade – a sharp contrast from the Yen’s appreciation that was commonplace in times of predicament last decade. The causes of this are apparent: a negative current account balance and excessive debt are factors that driven investors away from the land of the rising sun. Given the growing influence of alternative currencies, the Yen’s strength in currency markets is to become a thing of the past.

Background

Japan experienced record economic growth during the 1960s and 70s. During the latter decade, annual change in GDP averaged +5%. These figures propelled the Japanese economy in GDP rankings – second to only the US by the 1980s. With economic growth came investment into the economy, which largely facilitated productivity increases, creating a cycle of economic prosperity. As a result, the Japanese Yen became a mainstay in most foreign currency reserves due to the strength of the Japanese economy.

Amid turmoil, the Yen has traditionally been seen as a shelter. Following the global financial crisis, the Yen sharply appreciated. The same phenomenon was too witnessed following China’s currency devaluation and when the coronavirus pandemic hit the globe.

However, economic stagnation has finally caught up to the Yen’s dominance as a global currency. For the past thirty years, the Japanese economy has seen virtually no growth – averaging at just over 1% during this period. During the past decade, the nation posted numerous trade deficit; by comparison, Japan had large trade surpluses throughout the 1980s, 90s and 2000s – a sign of economic changes. Whilst not an issue for most, as an export-driven economy, this poses serious questions about the economic fragility of the Japanese economy – especially when combined with a lack of economic growth. The trade deficit grew to the second largest on record, reaching 1.03 trillion yen in February 2022. This can be attributed to spiralling energy costs, with Japan incapable of producing large amounts of oil and gas. The sinking island faces a lack of investor confidence from a growing current account deficit; the recent growth of imports exceeding increases in exports in a traditionally export-led economy is a sign that conditions are changing for the worse.

Out-of-control government debt levels have also caught up to haunt the strength of the Japanese currency. Since 2008, Japan has led the world in GDP to debt ratios. As of 2022, this figure is 260% of GDP. The higher risk that investors bear with increased government debt is evident. The more debt a country has, the higher the chance of default. As a result, even a minute increase in bond yields could trigger a collapse in the bond market. Japanese bond yields are already greater than US treasuries as of April 2022, when adjusted for inflation. This would be catastrophic as a large sell-off in government bonds will push yields even higher, making the chance of default greater as government debt repayments increase. This vicious spiral occurred in Greece following the financial crisis of 2008. At a time of global uncertainty with high inflation and geopolitical conflicts, exorbitant debt levels have become an even greater cause for concern, thereby contributing to the downfall of the Yen.

Constant budget deficits and sluggish economic growth have finally come to haunt the Land of the Rising Sun. Diminishing global influence and excessive risk, consequences of poor economic performance, have brought down the reputation of the Yen as a shelter from global chaos and uncertainty. Investors have turned to alternative currencies in light of these economic woes. It seems as if the Sun has finally set on Japan.