- The Washington Times - Sunday, December 4, 2005

The administration’s report last week on international exchange rate policies again raised the issue of currency manipulation. This subtle subsidy allows nations to influence export and import prices as effectively as payments or tariffs, but without obvious intrusion into each transaction.

U.S. concerns over currency manipulation have focused on China. But Japan has been a culprit longer, is a greater threat to U.S. manufacturing interests, and its currency has depreciated 8 percent against the dollar in just the last two months. In the practice of the subtle subsidy, no country has been more subtle or effective than Japan.

China directly pegs its currency to the dollar. Japan has been no less effective, but far less visible, through long-term intervention in foreign currency markets to keep the yen undervalued. America should be even more concerned about underpriced Japanese exports to the U.S. (and overpriced American exports to Japan). Japan exports higher-value products — a market where the U.S. is still competitive — and, unlike China, shows no inclination to stop its manipulation.

The Bush administration, U.S. Congress, the General Agreement on Tariffs and Trade, the World Trade Organization and the International Monetary Fund rightfully condemn currency manipulation. But such manipulation need not take the form of directly pegging one currency to another at an official rate — as China did with the yuan to the dollar — to be effective. Government intervention by buying and selling currencies is no less effective in artificially influencing currency values. As a 2003 Institute for International Economics study of Japanese, German and American interventions in the 1990s found, “Intervention can effectively influence exchange rates.”

Japan’s intervention strategy is a product of their export-driven economic model and their economic problems that began in the early 1990s. Since 1991, Japan saw its average real economic growth slow precipitously to a barely positive 0.9 percent (versus 2.7 percent for the U.S.). While, Japan’s economy slowed drastically, so too did the growth of its money supply. This dramatic deflation put upward pressure on the yen’s value. But allowing that appreciation would have endangered Japan’s exports, its economic engine — particularly with the U.S. purchasing 25 percent of its exports.



With a slumping economy, an appreciation-pressured currency, and an already high ratio of public debt to gross domestic product (164 percent versus the 39 percent for the U.S.), Japan had limited options. It was imperative that export growth not be reduced while domestic demand was choked off by deflation. Therefore, from 1991 to 2004, Japan intervened in the foreign exchange markets an incredible 356 times to the tune of $632 billion. These actions were heavily tilted toward buying dollars — 89 percent of the interventions and 94 percent of the amount — thereby reducing the yen’s relative value. In contrast, the Institute for International Economics study found the U.S. rarely intervened (23 times) with only six dollar-selling interventions amounting to a scant $1.1 billion.

Though Japan has not intervened in more than a year (since May 2004), it has a 14-year history of such activities.

Early this year, Japanese officials reiterated their intention to stem any significant yen appreciation. Nor do they lack the means to do so. Japan’s foreign exchange reserves were $839 billion in July. U.S. foreign exchange reserves are just $25 billion, though our economy is 2 greater than Japan’s.

How effective have concerted action, implicit threat and massive reserves been for Japan? According to a recent Merrill Lynch estimate, fair value for the yen would be 87 yen to the dollar. At current exchange rates, this would require more than a 25 percent appreciation of the yen’s current value. Thus Japan subsidizes its exports by more than 25 percent.

The effect of a 25 percent subsidy is enormous by itself. In 2001, taxable profits of all income-earning U.S. corporations came to just 4.3 percent. The subsidy looms even larger when viewed in high-end product areas where Japanese and U.S. manufacturers globally compete.

In low-end manufacturing, Federal Reserve Chairman Alan Greenspan in June told the Senate other low-cost foreign producers would replace China: “Similar products would in part shift from China… to other emerging-market economies. … Few, if any, American jobs would be protected.” But the U.S. remains still globally competitive in high-end manufacturing.

In sum, Japan’s 25 percent subsidy tilts a much more important playing field than does China’s pegged yuan.

Prime Minister Junichiro Koizumi’s recent landslide re-election and the resulting victory for postal privatization indicate a new Japan is rising over the old Japan. The export-driven economy and its demand for state intervention in currency markets is decidedly old Japan. The greater subtlety of this intervention does not alter the fact it is a currency manipulation.

The U.S. should be even more concerned about Japan’s longtime subsidy of its manufacturers than about China’s currency action — not least because China thus far has signaled greater willingness to change. U.S. urgency should be even greater now that Japan seems amenable to real reforms.

J.T. Young served in the Treasury Department and the Office for Management and Budget 2001-2004.

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