Name: Why the Japanese Yen is Collapsing
Uploaded: 2024-06-18T10:19:17.000Z
Duration: 8 min 15 s
Description: Thousands of YouTube videos with English-Chinese subtitles! Now you can learn to understand native speakers, expand your vocabulary, and improve your pronunciation...

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Economists sometimes say there are four types of economies in the world.

Developed, undeveloped, Argentina and Japan.

Argentina's chaotic economy has obviously been in the headlines a fair bit recently, but Japan's economy has been stuck in neutral for basically the past 30 years, with growth, inflation and interest rates all stagnant but stable, thanks in part to some very unusual monetary policy from Japan's central bank, the Bank of Japan.

However, after steadily declining for a couple of years, on Monday Japan's currency, the yen, slid to a 34-year low of 160 to the dollar, a level not seen since the 1990 financial crisis.

Because Japan is one of the most import-dependent countries in the world, importing over 90% of its energy and over 60% of its food, a weak yen means inflation has returned to Japan for the first time in decades.

But, thanks to years of unorthodox monetary policy, the usual remedy, i.e. raising interest rates, isn't so easy in Japan.

So in this video, we're going to take a look at Japan's funky economy, why the yen is declining and what might happen next.

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So, to understand Japan's current economic predicament, you sort of have to go back to the early 90s, when, after decades of rapid economic growth, Japan experienced a massive financial crisis that the Japanese economy has still never quite recovered from.

For context, in the post-war years, Japan experienced many decades of rapid economic growth, in a period dubbed the Japanese Miracle.

From 1955 to 1990, Japanese growth averaged 6.8% per year and GDP multiplied 8 times, with growth falling below 3% only once, during the 1974 oil shock.

Interestingly, Japan's economic success created some tensions with America, in much the same way that China's has.

American businessmen, including Donald Trump, blamed Japan for stealing American manufacturing jobs.

And American economists started anxiously predicting that Japan's economy would overtake America's sometime in the early 2000s.

And American foreign policy hawks started calling on Congress to quote, contain Japan and preserve America's technological supremacy.

Anyway, this anxiety subsided in the 90s, when Japan experienced an enormous financial crisis.

After a rapid appreciation in Japanese stock and real estate prices during the 80s, in 1990 the bubble burst, and continued to burst for a while.

In the decade after 1990, residential house prices fell by more than 50%, commercial property prices fell by something like 85%, and Japan's main stock index, the Nikkei 225, fell by about 75%.

Japan's economy never really recovered, and growth and inflation both remained close to zero until very recently.

Now, no one knows for sure why Japan was unable to get out of its economic funk for so long, but a popular theory is that Japan experienced what's now known as a balance sheet recession.

Essentially, Japanese households and companies had taken out too much debt when asset prices were rising.

So, when asset prices fell, Japanese individuals focused on paying down their debts, i.e. repairing their balance sheets.

While this might make sense on an individual level, for example, if the price of your house goes down steeply, it makes sense to focus on paying off your mortgage to reduce your risk of bankruptcy.

If everyone in the economy starts doing this at the same time, then the economy stagnates.

This also explains why the normal monetary remedies, like cutting interest rates, didn't work.

Because if Japanese households and companies focus on debt minimization instead of profit maximization, then cheaper borrowing rates won't really change anything, because they don't want to borrow more money anyway.

So, as the crisis continued, Japan flirted with deflation, which is generally pretty terrible news for an economy because it creates a downward spiral of self-fulfilling recessionary expectations by discouraging borrowing.

To prevent deflation, once interest rates had gone as low as they could go, literally below zero, the Bank of Japan had to find new ways of pumping more money into the economy and keeping prices up.

This included buying up loads of corporate debt, and even more government debt, a practice today known as Quantitative Easing, or QE.

Now, while QE has become increasingly common practice in the West since the 2008 financial crisis, no one's done quite as much of it as Japan, which is why Japan's government has quite literally the highest debt-to-GDP ratio in the world, at about 260%.

From 2016 until late last the Bank of Japan even began what's called Yield Curve Control, which essentially involved buying up enough debt to guarantee that government borrowing costs wouldn't go above a certain level.

Japan's ultra-loose monetary policy came under pressure in 2022, when inflation started rising across the world.

Usually, central banks raise interest rates, but the Bank of Japan decided not to, both because inflation was relatively low in Japan, but also because, thanks to its enormous debt burden, even a slight raise in interest rates would translate to a massive increase in debt servicing costs, especially for the Japanese government.

Unfortunately, things have become more difficult as other central banks have raised rates, making their currencies relatively more attractive and sparking a decline in the yen.

In the last year, the yen has fallen from about 130 to the dollar to a 34-year low of 160 to the dollar on Monday.

Now, the speed and severity of this decline presents a difficult dilemma for the Bank of Japan, because, thanks to Japan's reliance on imports, it sparked significant inflation in essential items like food and energy.

But they still don't want to raise rates for the reasons we've just mentioned earlier.

This is why, on Monday evening, instead of raising rates, the Bank of Japan used billions of dollars worth of Japan's foreign exchange reserves to buy up the yen on the international market, artificially inflating its value.

While this seems to have worked in the short term, as of Tuesday morning, the yen is now trading at nearer 155 to the dollar.

It's both expensive and fundamentally unsustainable, even if the Bank of Japan has some of the largest foreign exchange reserves in the world.

All in all, assuming the Bank of Japan won't engage in significant rate hikes, this means that the yen is very much dependent on what goes on in the rest of the world.

If inflation comes down and other central banks start cutting rates, then this will reduce some of the pressure on the yen.

But if inflation turns out to be stickier than we'd like, which seems to be the case, then the divergence between the Bank of Japan and other central banks will persist, which means more downwards pressure on the yen.

If this happens, then the Bank of Japan won't be able to stave off the yen's decline with exchange reserves forever, and eventually they'll have to choose a horn of their uncomfortable dilemma.

Either to just accept the yen's decline and all the inflation-related political turmoil that comes with it, or raise rates and just hope that the most debt-burdened economy can somehow deal with it.

Understanding these kinds of economic theories are difficult, and honestly, even politicians don't always seem to understand them.

So maybe they could do with checking out the lesson How Governments Fight Inflation on Imprint.

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