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This may be year for yen to shine

This may be year  for yen to shine

In currency circles, 2004 was the year of the euro. Europe's grand experiment with monetary integration silenced the skeptics once and for all as its single currency gained 7.61 percent versus the dollar.
Five years ago, the euro's weakness had Europeans biting their nails. Today, it's the euro's strength that's inspiring angst. And for the first time in decades, traders buzz about whether they now have a credible alternative to the world's reserve currency.
Yet if 2004 was the euro's year, the current one may belong to the yen.
Here in Tokyo, tensions are rising over the yen's brawn. While Japan hasn't sold yen since March 2004, traders who dismiss the risk may regret it. Even so, it's hard to see how Japan can stop the yen from building on its 4.48 percent rise.
Whether Japan likes it or not, its currency may strengthen to 90 yen versus the dollar or even more from today's 104 level. Here are three reasons why.
First, if investors are to believe that Japan's 15-year malaise is over, the yen should be rising. It's only natural for investors to try to ride Japan's recovery by putting capital into Nikkei 225 Stock Average shares, which rose 7.6 percent in 2004.
Second, the determination to run a trade surplus will continue pushing up the yen. Exporting more than it imports has always been Japan's security blanket - a sign its economic model still works. Yet more money flowing into the economy than out on a consistent basis increases pressure on the currency to rise.
Third, record U.S. current account and budget deficits make the dollar increasingly vulnerable. The trade deficit swelled to a record US$609 billion last year, and the White House expects the budget shortfall to reach an all-time high of US$427 billion in the year ending in September.
Of course, the opposite could be true. "It sounds like time to buy the dollar," says Ken Courtis, Goldman Sachs Group Inc.'s vice chairman in Asia. Why? "The best time to buy is when there are only sellers."
Yet even Federal Reserve Chairman Alan Greenspan, not a man known for criticizing the Bush administration, has grown antsy. On November 19, his comments on the current account gap pushed the dollar down 1 percent against the yen.
Greenspan's concerns that "international investors will eventually adjust their accumulation of dollar assets or, alternatively, seek higher dollar returns to offset concentration risk, elevating the cost of financing the U.S. current account deficit and rendering it increasingly less tenable" raised eyebrows the world over.
The U.S. Treasury has yet to scrap its strong-dollar policy; it doesn't want to trigger a crash or appear to pursue a beggar- thy-neighbor policy. Yet here in Asia, Treasury Secretary John Snow's campaign to force countries to let their currencies trade freely is often seen as a veiled attempt to devalue the dollar.
Efforts to strong-arm China into letting the yuan rise have become particularly ridiculous. Case in point: Legislation is being introduced in the U.S. Senate threatening a 27.5 percent tariff on exports to the U.S. if China doesn't ease controls on its currency within six months.
U.S. farm subsidies
China should call the U.S.'s bluff here. It would be a real scream to see officials in Beijing say to the U.S.: In the spirit of fair trade, sure, we will let the yuan the rise - just as soon as you scrap the massive farm subsidies keeping so many developing-world people in poverty.
A fragile financial system gives China a good argument for not altering its currency policy - one Japan can't make. In fact, a stronger yen is no longer the problem it once was for the world's second-biggest economy.
For one thing, Japanese deflation since 1998 means that the inflation-adjusted dollar/yen exchange rate has depreciated, says Ashraf Laidi, New York-based chief currency strategist at MG Financial Group. He argues that in today's terms, a yen at 100 to the dollar is nearly equivalent to 110 about seven years ago.
For another, there's the China factor. Considering the surge in Japanese foreign direct investment into China's manufacturing sector, companies here have grown increasingly hedged against a rising yen. Rising Chinese demand means Japan is growing more dependent on trade with its own continent, and less on the U.S.
A rising yen also is a sign of confidence that attracts more foreign capital, boosting stocks and holding down bond yields. Letting exchange rates rise puts more pressure on governments to implement reforms to increase domestic growth and on executives to innovate.
Getting that point across here in mercantilist Japan is easier said than done, and renewed efforts to weaken the yen can't be ruled out. Not that it will do much good in 2005, the year of the yen.
William Pesek Jr. is a columnist for Bloomberg News.