The origins of the Japanese currency can be traced all the way back to 220 BC, well before there was any need to worry about the yen to dollar exchange rate!! For several centuries thereafter, the Japanese actually imported their coins from China, and it was not until 708 that Japan started to mint its own coinage, with paper money following shortly after in the early 1600’s !! The first paper money to be accepted nationally did not appear until introduced by the Meiji government who wanted to centralise and simplify all the various coins then in circulation. The new currency act of 1871 established the yen as the official unit of currency replacing the circular gold and silver coinage, and establishing a monetary system similar to the European model based on a decimal accounting system. At the same time the act tied the currency to the gold standard. The first yen notes had a close resemblance to US banknotes, mainly because they were printed by a US company! Finally in 1882 the official Bank of Japan was established as a centralised bank to manage Japanese monetary policy and to oversee the availability of liquid currency in the markets.

The yen suffered badly during the war and lost much of its value, and following a period of instability its value was fixed at 360 yen to the dollar. The system was introduced by the US government under the Bretton Woods plan in an attempt to stabilise the economy. The exchange rate was maintained until the early 1970’s by which time it had become so undervalued that major concerns were raised by the US government ( amongst others ) regarding the cheap exports abroad to the US and the cost of imports to the Japanese. In an effort to resolve the problem the Yen was re-valued at 308 yen to the dollar. This rate proved difficult to maintain and two years later in 1973, the Japanese yen was finally allowed to float free, as the dollar and other major currencies implemented a free floating currency exchange.

The Japanese government is one of the most interventionist in the western world, and following the decision to float the currency, they soon began to meddle in an attempt to influence the floating rate. (I would stress that the same mentality applies today, perhaps even more so, following the banking collapses and loss in confidence in the 80’s and 90’s) Throughout the 70’s the government intervened several times as first the currency strengthened and then weakened. The oil crisis in 1973 caused the yen to fall to 295 yen to the dollar, with strength returning in the following years, only to be weakened again by a second oil crisis in the late 1970’s. During the 1980’s with a weak yen, Japanese investors turned to the US dollar to invest overseas, weakening the currency still further against the dollar and other major currencies. In order to prevent further declines against the US dollar ( amongst others ) the developed nations signed the Plaza Accord, which changed the currency’s fortunes for ever.

In 1985 inflation was low and growth was rapid. Low inflation allowed for low interest rates- however there was a threat of protectionist tariffs entering the economy. The US was experiencing a large and growing trade deficit, caused in part by the strength of the dollar. Japan was facing a large and growing trade surplus. This imbalance threatened to upset the foreign exchange market. The 80% appreciation in value of the US dollar against the currencies of its major trading partners was seen as the source of the problems. A US dollar with a lower valuation would help stabilize the global economy- creating a balance between the exporting and importing capabilities of all countries. Devaluing the dollar made US exports cheaper for its trading partners, which caused other countries to buy more American made goods and services. The accord was signed in the Plaza hotel on September 22nd 1985 by the then G5 nations. In essence the US government agreed to cut the federal deficit and to lower interest rates. In return, Japan promised a looser monetary policy and financial sector reforms, whilst the other governments agreed to a mix of tax cuts and interest rate increases. The effects were rapid and dramatic. Within two years the dollar had fallen almost 55% against the Japanese yen. The effects on Japan’s export market were savage, and two years later the Louvre Accord was signed to try to rectify the situation, in which the US agreed to tighten fiscal policy whilst Japan agreed to loosen its monetary policy.

The reason that the Plaza Accord was so significant is that it set in train the circumstances that would eventually lead to the ‘bubble economy’ which finally burst between 1990 and 1991, and which is still being felt by the Japanese markets and the economy today. Indeed many would argue ( myself included ) that this is precisely what is occurring today in the UK and elsewhere, and that the ramifications will be felt for decades to come. These economic problems were aggravated by a resurgence of the yen to dollar exchange rate and other major currencies, which began in the first quarter of 1990 and which continued through to 1995. After falling to approximately 150, the yen strengthened and by the Spring of 1995 was trading in the range of 80-85, although it strengthened considerably during 1996. Throughout this period the strong yen placed severe strains on Japan’s heavily export-driven economy which we will look at shortly.

Finally as we have seen today in the last ten years, the yen has steadily strengthened against the dollar, which for a major exporting nation is a worrying sign. Where and at what point the BOJ intervene is anyone’s guess, but rest assured if this trend continues then monetary and fiscal policy will be realigned to ensure that this cannot continue for many more years. The effects would be too painful for an economy recovering from a long period of recession.