Shock-and-awe, currency war – Precedents for Japan’s new policies are not wholly encouraging


Kevin Murphy

Kevin Murphy

Fund Manager, Equity Value

The last time Japan tried the sort of all-out interventionist monetary policies recently announced by its central bank, the outcome was mixed. to a large degree, the monetary, fiscal, and exchange stimulus implemented back in the 1930s could be deemed a success but, when the architect of those measures, then Finance Minister Takahashi Korekiyo, tried to cut military spending as part of his efforts to unwind the country’s positions, he ended up being shot by army officers.

Obviously Haruhiko Kuroda, the new Governor of the Bank of Japan, and his colleagues will be hoping for a happier ending to this latest bout of quantitative easing (QE), which is aimed at weakening the yen, stimulating the country’s export economy and encouraging the population to switch out of interest-bearing assets and into the stock market.

Official estimates suggest if just 5% of household savings moved in that direction, it would be the equivalent of some 20% of the total market capitalisation of the Japanese stock market. A very small asset allocation swing from under people’s mattresses and into risk assets therefore could have some very dramatic effects indeed on Japanese equities.

The country’s policymakers would then count on the ensuing boost in investor confidence having a simulative effect on the wider economy and they have also been keen to stress these latest measures will not be as half-hearted or confusing as some other recent efforts.

Certainly that would appear borne out by the sheer magnitude of some of the numbers involved – for example, the bank of japan is to buy the equivalent of 70% of all monthly bond issuance and will also make significant purchases of real estate investment trusts and exchange traded funds. Overall, the bank is to expand its balance sheet by 30% of GDP in less than two years.

The equivalent figure in the us is 15% while, as a further comparison, although the Japanese economy is one-third of the size of the US’s, the Bank of Japan is buying assets at roughly 75% of the whole US base. In other words, if you thought QE in the US was big, this is much, much bigger and, while it is set to inflate the already enormous bubble in Japanese government bonds even further, it could also actually work.

Back in the 1930s, under Korekiyo’s guidance, Japan effectively financed its budget deficit and printed money till the boom stimulated the economy and tax revenue came in, which then afforded the chance to unwind the positions and exit. As mentioned earlier, that part of the plan went less well and, while we can hope things end less bloodily this time, such courses of action are never wholly without risk.

For one thing, unwinding these positions is always a lot more difficult than people anticipate. So, while doubling the size of one’s balance sheet is not necessarily a bad course of action in theory, in practice it all depends on being able to unwind it quickly and with no market impact.

Also, while it may have mostly worked out for Japan 80-odd years ago, an important difference is back then the country was carrying out its policies in isolation. Today, however, all the major developed economies are engaged in QE of some kind or another. At a time when nobody can afford to have a competitor producing significantly cheaper goods, the sort of headlines generated by the Bank of Japan make it increasingly unlikely any of them will exit their own programmes any time soon.

Ultimately the impacts of these measures are unknowable, the risks high and the rewards uncertain but, as former Citigroup Chief Executive Chuck Prince once said: “as long as the music is playing, you’ve got to get up and dance”. At the moment, that song you can hear is called ‘quantitative easing’.



Kevin Murphy

Kevin Murphy

Fund Manager, Equity Value

I joined Schroders in 2000 as an equity analyst with a focus on construction and building materials.  In 2006, Nick Kirrage and I took over management of a fund that seeks to identify and exploit deeply out of favour investment opportunities. In 2010, Nick and I also took over management of the team's flagship UK value fund seeking to offer income and capital growth.

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