Summary of Key Points
Recently, the Japanese yen has hit new lows in 38 years (temporarily falling below 162 yen per US dollar). In the first half of this year, 45 Japanese companies went bankrupt due to the depreciation of the yen, the highest number since records began in 2022. Small and medium-sized enterprises (SMEs) and the wholesale industry have been the most affected. While the weaker yen has increased profits for export-oriented firms, it has also raised import costs. Coupled with inflation, a labor shortage, and the negative effects of a particular financial product called "reverse knock-out options," companies that rely on imports are struggling to cope. The Bank of Japan (BOJ) intervened in the currency market in April by spending $74 billion, but the effect was short-lived. The future direction of the yen will depend on whether the BOJ raises interest rates further and on external factors such as US interest rates and energy prices.
Detailed Analysis
1. Why has the depreciation of the yen led to so many bankruptcies?
The impact of the weaker yen is mainly felt by SMEs that are dependent on imports. Simply put, when the yen loses value, it costs more yen to buy foreign goods. For example, a company that wholesales seafood and imports crabs and shrimp from Asia might have previously spent 15,000 yen (at an exchange rate of 150 yen per US dollar) on a $100 shipment. Now, with the yen at 160 yen per US dollar, the cost has risen to 16,000 yen, a 6% increase. However, SMEs face fierce competition and cannot afford to raise prices easily, which squeezes their profits further. Additionally, Japan's labor shortage and rising wages have increased costs, leading some companies to go bankrupt. Of the 45 companies that went bankrupt in the first half of the year, a large majority were from the wholesale sector, as they are directly affected by rising import costs.
2. Isn't a weaker yen good for exports? Why are there still so many problems?
A weaker yen is beneficial for export-oriented companies. For instance, Toyota could earn $10,000 from selling a car in the US; previously, it would earn 1.5 million yen, but now it earns 1.6 million yen, resulting in higher profits. However, not all Japanese companies are export-focused. Many operate by importing raw materials for processing or directly importing goods for retail sale (such as supermarkets). For these companies, the increase in costs exceeds any potential gains from exports. Moreover, larger firms have the financial means to hedge against exchange rate risks, while SMEs lack both the funds and experience to do so, leaving them more vulnerable to the negative effects of a weaker yen.
3. Reverse knock-out options: A hidden threat for small businesses
This is a complex but easily understood financial product. SMEs often purchase "reverse knock-out options" as a form of exchange rate insurance to save money. They agree with banks that if the yen does not fall below a certain level (e.g., 163), they can buy US dollars at a favorable price. If the yen does fall below that level, the insurance becomes invalid, and they must buy US dollars at a higher market price. Unfortunately, since many SMEs have purchased these options, their collective failure to exercise them has led to a vicious cycle where the weaker yen forces them to spend more on US dollars, further driving down the yen's value.
4. Why hasn't the BOJ's intervention stopped the yen from falling?
In April, the BOJ spent $74 billion to buy yen, which briefly boosted its value. However, the yen returned to its previous level within a month due to the significant interest rate difference between the US and Japan. Currently, US interest rates are around 5%, while Japanese interest rates are only 0.25% (with a recent increase of 0.25%). Investors prefer higher returns, so they exchange yen for US dollars and deposit their money in the US, causing the yen to weaken. The BOJ's intervention is only a temporary solution; if the interest rate gap is not narrowed (e.g., by raising Japanese interest rates), the yen will continue to decline.
5. What will happen to the yen in the future?
In the short term, the direction of the yen is uncertain, but there are several key factors to consider:
- The BOJ will meet at the end of July. If inflation remains high (with core CPI around 2.7%), it may raise interest rates again to narrow the interest rate gap with the US, potentially boosting the yen.
- There is a risk that if the yen falls significantly (e.g., to 165 or 170), the BOJ might intervene again, but the effect would likely be temporary.
- External factors such as US tariffs and energy prices (e.g., rising oil costs) can also influence the yen.
In the long term, if the BOJ does not continue to raise interest rates, the yen may remain weak. However, a more substantial increase in interest rates could stabilize it. For SMEs, as long as the yen remains low, the pressure of higher import costs will persist, and the risk of bankruptcy will likely remain high.
Conclusion
The depreciation of the yen is like a double-edged sword, with the negative effects being particularly severe for Japanese SMEs. These companies lack the resilience to cope with rising costs and are vulnerable to financial risks. The BOJ's interventions and interest rate policies have had limited success so far. The future of the yen depends not only on Japan's own policies but also on global economic conditions, which pose significant challenges for both businesses and consumers.