CHAPTER NINETEEN
A Weak Dollar Strengthens Japan
FOR A DECADE NOW one U.S. administration after another—Reagan, Bush, Clinton—has talked down the exchange value of the dollar against the yen. Every time the dollar declines—and it tumbled during these ten years from 250 yen to below 100 yen—we are told by the experts that “this time” the trade deficit with Japan will surely go away. And every time the dollar declines, the Japanese howl that endaka—the high yen—will destroy their industries and drive them into bankruptcy.
U.S. manufacturing exports to Japan have indeed nearly doubled in the past ten years. But they have increased even faster in countries—some in Europe, others in Latin America—where the dollar’s value has actually increased. And despite endaka, Japanese manufactured exports to the United States have grown just as fast as U.S. manufactured-goods exports to Japan. Therefore, the trade deficit has remained pretty much the same—even widening a bit since the dollar was first devalued.
In fact, neither U.S. merchandise trade nor Japanese companies’ sales and profits show the slightest correlation to the exchange rate. If they correlate to anything, it is to the relative levels of economic activity in the two countries. For example, while Japanese manufacturingcompany profits have fallen sharply in the past three years, the main cause has not been fewer exports to the United States or lower export earnings. It has been the sharp drop in the domestic economy, aggravated by huge losses many of these companies incurred from gambling recklessly in the Tokyo stock market and in Japanese real estate.
According to all economic theory this simply could not have happened: the U.S. trade deficit with Japan must have disappeared. At least it must have markedly shrunk. And the Washington experts still promise us that, indeed, this will happen the next time around, and “inevitably” so. But if for a whole decade the inevitable does not happen, one should stop promising it. In fact, the cheap-dollar policy of U.S. governments in the past ten years has rested on totally wrong assumptions regarding the Japanese economy. Japan, rather than the United States, is the beneficiary of a cheap dollar.
The key to this seeming paradox is that, on a flow-of- funds basis, Japan spends as many dollars on imports as it earns through exports. As far as U.S.-Japanese merchandise trade is concerned, the exchange rate is irrelevant: the dollars are a wash. Individual companies might, of course, be hurt by a lower dollar, but others benefit by it. And in its total trade accounts—that is, in merchandise and services trade combined—Japan actually spends more dollars abroad than it earns from exports. The weaker the dollar, the fewer yen Japan needs to spend to procure the dollars it requires for its foreign accounts.
Japan imports four-fifths of its fuel and energy, a little more than one-third of its food and all its industrial raw materials. Together, these three categories constitute half of Japan’s total imports. (By contrast, they account for no more than a quarter of U.S. imports and for less than a third of Germany’s imports.) Japan pays for all these commodity imports in U.S. dollars, even if, as in the case of oil, they come from other countries. According to economic theory and economic history, commodity prices should have gone up in dollars by the same proportion by which the dollar went down. But they didn’t.
On the contrary, during the past ten years the dollar prices of commodities—whether foods, industrial raw materials, or oil—have actually plummeted. In yen, Japan, the world’s largest commodity importer, gets an incredible bargain. Feeding its population, running its factories, and heating its homes now costs Japan little more than a third of what it had cost it ten years ago. As an importer, Japan benefits heavily from endaka—and so does its standard of living.
Of Japan’s exports, about two-fifths are paid in U.S. dollars—everything that is sold to the United States (now around a fifth of the total), almost everything that goes to Latin America, and everything that goes to the three countries whose currencies have remained linked to the U.S. dollar: Britain, Australia, and Canada. And these two-fifths of Japan’s merchandise exports bring in almost exactly the number of dollars Japan needs to pay for its commodity imports.
In 1992—the most typical of these ten years and almost exactly in the middle of the range—Japan’s bill for commodity imports was $118 billion; its income from dollar- denominated exports was about $120 billion. Actually, Japan needs a few extra billion dollars to cover its deficit on services trade—almost all payable in dollars. It runs to some $10 billion a year. But this only means that a cheaper dollar hurts even less.
On top of this, however, Japan needs dollars—a lot of them—to invest abroad. During the past ten years Japan has become a major direct investor abroad, building plants and acquiring stakes in businesses all over the world. Until a year or two ago the bulk of this investment was in the United States. Now, to get access to the European Union, the Japanese are investing heavily in the United Kingdom. Since the British pound is the major European currency that has stayed most in sync with the U.S. dollar during the past ten years, the pound also becomes cheaper for the Japanese as the dollar decreases in value.
All told, the Japanese in the peak year—1991—netted about $100 billion for overseas investment. This was financed out of their exports to countries other than the United States—mainly countries whose currencies were not linked to the dollar but were fairly stable in relation to the yen (e.g., the German mark). Thus Japan could get the dollars needed for investment in the United States at a steadily reduced price. This alone enabled the Japanese to build plants and to acquire companies in the United States (and in Britain, Canada, and Australia) at bargain-basement prices.
No one has yet been able to explain why world commodity prices failed to rise proportionately as the dollar fell against the yen (and against all other key currencies except the British pound). But whatever the answer is, it surely has nothing to do with U.S.-Japanese trade. A very strong case can be made that a more expensive dollar would actually be the best way to shrink the U.S. trade deficit with Japan—and within three to five years.
Increasingly, trade is not determined by the economist’s traditional “comparative advantage” factors, and thus it is less and less susceptible to exchange rates—the U.S. experience with Japan is but one example. Increasingly trade follows investment.
A very large and growing part of Japan’s exports to the United States—maybe enough to account for the entire U.S. trade deficit with Japan—comprises parts, supplies, and machinery for the plants Japan has built in this country and the companies it has bought here. If Toyota, for instance, builds a plant in Kentucky, most of the machinery and tools it requires will be bought from the people who have supplied Toyota’s plants in Japan for years. And the parts for the cars the plant builds will come from the people who supply Toyota in Nagoya.
U.S. manufacturers act exactly the same way when they invest in plants or companies abroad. But the cheap dollar has made it prohibitively expensive for Americans to invest in Japan. In fact, it has forced a shrinking of the U.S. investment base in Japan. Several companies—one example is Minneapolis-based Honeywell—have sold their stakes in Japanese subsidiaries either because they could not afford the yen needed to modernize and expand a growing and profitable subsidiary or because they took advantage of the high yen rate to raise the dollars they needed at home.
A cheaper yen would, in all likelihood, unleash a flood of American investments in Japan—now the world’s number two consumer market—and with it a flood of exports of high-value-added and high-quality-job goods. But it is also quite possible that a higher dollar would bring in substantially larger foreign-exchange earnings from our commodity exports to Japan—the world’s largest commodity importer and by far the largest buyer of American food and raw materials exports, such as timber.
These, however, are conjectures. What is proven is that a cheaper dollar has not made the U.S. trade deficit with Japan go away and will not make it go away. All it does is enable Japan to get dollars more cheaply.
1994