The rising yen -- and America's trade deficit with Japan
MAJOR trade legislation will soon be up for a vote in the United States Congress, and the temptation to ``vote protectionist'' will be rising toward its election-year peak. The danger is real that Congress could reverse 40 years of progress toward more-open markets which has benefited both the United States and its trading partners. The special target will be Japan, which accounts for one-third of the US trade deficit of nearly $150 billion a year. If Congress could look beyond the November elections, however, it would find the imbalance of trade with Japan gradually correcting itself without the risk of protectionist damage to the world trading system. Changes in the yen-dollar relationship that are already far advanced will produce significant improvement in the trade deficit.
Since last September, when the Big Five industrial nations agreed to a coordinated effort at currency realignment, the yen has appreciated 27 percent against the dollar. A stronger yen increases the price of Japanese exports, making them less competitive with US-manufactured goods, not only in the United States, but in countries where the US and Japan compete.
Price increases of Japanese products are inevitable. Japanese companies have resisted raising prices in hopes the yen would weaken again. They will not be able to resist much longer.
Last September, the yen was worth 240 to the dollar. Now it has appreciated to the 175-to-180 range. By the end of the year, by my calculations, market forces will strengthen the yen 10 percent more, to about 160. The yen will continue to appreciate gradually for the next three or four years, perhaps to 100 to the dollar by the end of the decade.
Four basic factors are at work which will strengthen Japan's currency and improve the US-Japanese balance:
Japan benefits much more than other industrial countries from the decline in commodity prices, particularly oil.
Japan's inflation rate has been significantly lower than that of most other countries, and the yen is beginning to reflect that price performance. Inflation is likely to stay below average; wholesale prices fell 4 percent last year.
Japan's industrial productivity has increased faster than has other countries', particularly the US.
Japan has used its export profits to accumulate large amounts of foreign financial assets, which strengthens its economy as it collects its ``dividends.'' It is rapidly becoming the world's largest creditor nation.
Now, at last, Japan can afford to relinquish its traditional ``export or die'' mentality. Indeed, it will be forced to by pressure from its trading partners. It can begin instead to reap the fruits of its years of frugality and high savings. It can now stimulate its domestic economy, through tax cuts and lower interest rates, generating more consumption for its products at home and giving hardworking Japanese consumers a more rewarding life style. Prime Minister Yasuhiro Nakasone now seems to be joining some other Liberal Democratic Party leaders in supporting just this kind of program -- a theme that he, in part, repeated at his recent meeting with President Reagan in Washington.
Protectionism was never an answer to United States trade problems. Now that the dollar is falling, it would be folly to anger our best trading partners by bashing Japan or anyone else just when we want them to buy larger amounts of our goods. A change in exchange rates takes about 18 months to have its full effect on prices and the trade balance. By the end of this year the US-Japan trade deficit will begin to shrink. It should be substantially smaller in 1987, and continue to improve thereafter.
Japan is the largest market for United States exports after Canada. As a percentage of total US exports, Japan absorbs twice as much as the United Kingdom, West Germany, or Mexico. It is by far the largest market for American agricultural goods. And despite Japan's well-known reluctance to buy American manufactured products, such goods still account for half of Japan's imports from the United States.
Of course, there's ample justification for demanding that Japan purchase more American goods. But much of the problem will be resolved by the yen's appreciation against the dollar, creating new bargains for delighted Japanese consumers, without afflicting ourselves with the self-defeating ``cure'' of protectionist legislation.
Japan has been criticized for intervening in exchange markets to prevent the yen from appreciating too fast. Some observers fear that the Japanese are intervening, not just to maintain orderly markets, but to try to stop the rise of the yen. Any such effort to counteract basic market forces, however, would not work for long, and it would surely rekindle the protectionist fires the observers fear.
While it is in the US interest not to have the yen appreciate so rapidly against the dollar that the Japanese economy spins into a deflationary recession, the collapse of oil prices presents us with a historic opportunity to reduce the value of the dollar without inflation. This is the best solution to our trade deficit.
Lawrence B. Krause, of the Brookings Institution, is a leading authority on international economics, specializing on the Pacific Rim.