"Make yen terrible again" - if one had to pick one phrase to describe Japan's aspirations for the upcoming meeting between Japan's PM Abe and Donald Trump, that would be it.
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From reports that Japan's giant pension fund, the GPIF, will invest in US infrastructure, to promises that Japan will present a "package" to create 700,000 US jobs, there is a distinct smell of appeasement and nervousness oozing out of Japan Prime Minister Shinzo Abe's every pore two days before his summit meeting, golf game and dinner with Donald Trump on Friday (it is unclear who will pay for Abe's trip, and it could be an issue).
The reason for that is simple: the promises to help create U.S. jobs and bolster Japan's military are meant to persuade Trump to turn down the heat on trade and stand by the decades-old alliance. But of all his concerns, Abe's biggest worry is for Trump to not accuse - or act on - Japan relentless currency devaluation, which is the bedrock of Abenomics, and without which Abe's career is doomed and he knows it.
For the clearest indication of just how much Japan has intervened against its currency, look no further than the BOJ's balance sheet. As Nikkei reported today, the Bank of Japan's holdings of Japanese government bonds has now topped 40% of the outstanding balance for the first time, the central bank said Wednesday. The BOJ has been snapping up JGBs in large quantities since it implemented drastic monetary easing measures in April 2013, the primary purpose of which is to keep pressuring the Yen lower. Statistics released by the bank show that its JGB holdings stood at about 358 trillion yen ($3.19 trillion) as of the end of January, or about 40% of the outstanding total of some 894 trillion yen.
While last September, the BOJ switched its policy focus from quantity to interest rates, aiming to keep long-term rates at around 0% to achieve its inflation target, the BOJ's JGB holdings continue to rise, with the bank sticking to its annual target of 80 trillion yen for JGB purchases.
An ill-fated attempt at launching negative rates last year led to disastrous results, and a prompt strengthening of the currency, which has left bond monetization as the only recourse for the Bank of Japan, and for Japan's prime minister.
Furthermore, empirically confirming that any criticism by Trump of Japan's undervalued currency is correct, is that according to a PPP (purchasing-power-parity) measure, the dollar is currently over 30% overvalued against the yen, substantially more than when Abenomics was launched to devalue the Japanese currency.
Of course, a Trump crackdown on Abenomics will merely accelerate the inevitable: with the amount of such bonds circulating in the market declining, Nomura calculated that "the bank will reach the limits of its bond purchase program as early as the first half of 2019." In other words, Abe has at most two more years before the endgame, whatever it may be. However, he certainly does not want that timeframe truncated.
Trump on Jan. 31 blamed the U.S. trade deficit on money supply policies in foreign countries, singling out China and Japan as guiding their currencies lower. "If the money supply continues to increase due to the BOJ's large-scale JGB purchases, Trump may step up his criticism of Japan," said Yasunari Ueno of Mizuho Securities.
Ealrier today, Abe's fears about a Trump crackdown on Japanese monetary policy was confirmed by Japan's Kyodo which reported that Abe will an understanding from Trump that Japan’s monetary easing policy is meant to escape deflation and not influence the yen, which of course is ridiculous, and explains the attempts to appease Trump with promises of jobs and investments.
And while Trump may be placated, he will still have to explain Japan's role as the second biggest contributor to the US trade deficit. As was revealed earlier this week, Japan accounted for $68.9 billion of the U.S. goods trade deficit in 2016, re-emerging as the second-largest US trade deficit contributor for the first time in three years - a potential flashpoint during the Trump-Abe meeting.
The goods deficit with Japan remained roughly flat and accounted for 9% of the U.S. total. However, the deficit on motor vehicles and parts - an area in which President Donald Trump claims Japan engages in unfair practices - jumped to $52.6 billion from $48.9 billion in 2015, making up nearly 80% of the total American deficit with Japan.
It's not just monetary policy and trade that are making Abe nervous.
Japanese officials have been soothed by security assurances from Defense Secretary Jim Mattis and others. But they worry Trump may go off script when the two leaders meet, first for a summit in Washington on Friday and then for a round of golf near the "Winter White House", Mar-A-Lago in Florida, Reuters notes. Some in Tokyo even worry that Trump, a global businessman and author of "The Art of the Deal", might eventually make some sort of pact with rival China that leaves Japan out in the cold. During his election campaign, Trump complained that Tokyo and Seoul were not sharing enough of the cost of the U.S. security umbrella.
"What we want to know is Mr. Trump's attitude towards China," said Yukio Okamoto, a former Japanese diplomat with ties to the government. "If it becomes only an economic one, then a deal might be made at some point without the consideration of security issues in the region."
Japanese politicians are also concerned that Abe might make hard-to-keep promises when the two play a round of golf that has echoes of one between Abe's prime minister grandfather, Nobusuke Kishi, and President Dwight Eisenhower in 1957. U.S. newspapers then dubbed the golf game a "triumph of diplomacy" between the former World War Two enemies. Three years later, Kishi had to resign because of a public furor over the 1960 U.S.-Japan security pact.
"The symbolism of playing golf is very important to the Japanese," said Dennis Wilder, a former National Security Council official. "Abe is very proud of his grandfather and has worked hard to fulfill his unrealized dream of building a full strategic partnership with Washington."
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So how does Abe hope to placate the irascible US president?
As we reported last week, Abe, who will be accompanied by Finance Minister Taro Aso and Foreign Minister Fumio Kishida, will bring a package of steps Tokyo says could create up to 700,000 new American jobs through private-public investment in infrastructure such as high-speed trains, government sources say. Speculation is also simmering that Japanese manufacturers like Toyota, whose president Akio Toyoda met Abe last week, could time announcements about investment - either already planned or new - to coincide with the summit. Additionally, Japanese display maker Sharp may start building a $7 billion plant in the United States this year, a person with knowledge of the plan said on Wednesday.
As the FT amusingly adds, Abe is pushing companies and investors to hand over details of their US investment plans so Shinzo Abe can deliver a “tweetable” figure to Donald Trump when they meet. Executives at three top Japanese companies said officials had been in touch asking for investment numbers. Public investment institutions say the prime minister is also leaning on them to pledge tens of billions of dollars to US infrastructure projects such as high-speed rail.
“The most important thing is to reconfirm the importance of the US-Japan relationship in politics, economics and security,” said Sadayuki Sakakibara, chairman of Japan’s Keidanren business federation. Given friction over trade and the yen, Mr Sakakibara urged Mr Abe to tell the president about the $400 billion of direct investment and 1.7 million jobs that he says Japanese companies support in the US. “We’re contributing to the expansion of US exports and want to let him know that,” he said.
That said, some companies have pushed back: “Just because Donald Trump has been elected doesn’t mean we immediately change our business plan,” said one senior executive at a large Japanese manufacturer. “We can only invest in factories we actually need.”
Taking his preparation to the extreme, hoping to update what Japan believes is Trump's outdated image of Japan forged in decades-old trade wars, Abe will also be armed with data, showing, for example, that Japanese firms are the biggest direct foreign investor and foreign employer in the United States second only to Britain (see chart above).
Meanwhile, to address the gaping trade discrepancy Trump, who abandoned the 12-nation Trans-Pacific Partnership (TPP) trade pact championed by his predecessor Barack Obama, wants to open talks on a bilateral free trade deal with Tokyo. He also wants to renegotiate the North American Free Trade Agreement (NAFTA) binding Mexico, the United States and Canada, the basis of many Japanese firms' investment plans. Abe prefers multilateral trade deals, but has left the door open to talks on a bilateral pact - despite misgivings by some officials that Tokyo would come under intense pressure to open further politically sensitive sectors such as agriculture, while gaining scant economic benefits.
"I don't think Mr. Abe will say 'no' to the bilateral option but I don't think he will say it is a good idea, either," one Japanese official said.
All throughout the meeting, markets will be keenly watching to see whether Trump repeats his criticism of Japan for using money supply to devalue the yen to boost exports. As noted above, Japanese sources have made clear Tokyo will push back on any attempts to bind its hands on a hyper-easy monetary policy central to "Abenomics" growth prescriptions. Should Trump "go there", the yen will surge. However, if Trump avoids any mention of the weaker Yen, it is possible that the USDJPY will spike higher, although it will be contingent on what, if anything, Trump says about his interest in a weaker dollar.
Finally, there is the question of the disputed islands in the East China Sea, which were the source of much geopolitical sabre rattling in 2013.
Abe will be eager for Trump to repeat assurances that his administration will adhere to Washington's commitment to defend disputed East China Sea islands under Japanese control but claimed also by China. The islands are called the Senkaku in Japan and the Diaoyu in China. Abe is likely to reassure Trump that Japan is willing to play a bigger regional defense role and beef up its military capabilities. A pledge to boost defense spending, however, could be contentious at home in view of Japan's huge public debt, Reuters cautions.
Finally, despite all of Abe's preparations, there is the biggest wild card of all: Donald Trump himself.
Some experts cautioned that too subservient a response by Abe, such as a government-inspired jobs creation package, risks confirming Trump's view that old-style Japan bashing works. "It's a very difficult line to walk to satisfy Trump at the same time not giving the impression that it's Japan Inc all over again," said Jun Okumura, a former trade negotiator who is a visiting scholar at the Meiji Institute for Global Affairs.
Others, though, said Japan has little choice. As the Japanese official put it, "We have no choice but to ride with the United States, whoever the president is."
And Trump knows it very well, which is why Abe is so very nervous.