Used to be 100 yen to a dollar. Now it’s 150, but recently there was a 0.25% change to the interest rate and it brought it down ever so slightly to about 149. Are there no other alternatives? Are there down sides to doing this? Does the large amount of tourism in Japan have an impact on this?
In: Economics
If you raise interest rates, then people want to invest in your currency, but the people who live in your country get mad because of the inflation.
There isn’t any reason to want a specific exchange rate between two currencies. To get that, you have to be willing to spend a huge amount of cash to manipulate the market (plus it makes other central bankers mad).
Japan intentionally keeps the value of the Yen down. As a manufacturing behemoth it’s in its best interest to have a cheap currency since it gives its exports a pricing advantage while making imports more expensive compared to domestic goods which only serves to bolster the sales of the domestic companies.
As others have noted, higher interest rates attract foreign capital, swapping their own currency for Yen and raising the value of the Yen due to the increased demand. Tourism isn’t all that relevant. It can be a good source of income, but few countries have so much tourism relative to all their other business that it meaningfully impacts the exchange rate. For Japan, imports and exports and the flow of investment capital are way bigger than tourism.
This is an important issue for Japan, because they’re an island nation with a big population and not much land, and they also make a lot of stuff. So they both import tons of things, like food and basic goods and materials for the stuff they manufacture, and they also export a lot of things, selling them to other countries. If you want the most advantages for importing things, you want a very strong currency that can buy a lot of goods abroad. If you want the most advantages for exporting things, you want a weak currency like China’s, so that all your exported goods seem cheap to the rest of the world. So Japan needs to strike a delicate balance between their imports being cheap and their exports being attractive with a currency that is neither too strong, nor too weak.
There are alternatives, but they are kind of nasty. You have to know about the “Trilemma” first. Basically, you need to pick two of the following, because you cannot have all three:
1. Free flow of capital—investment can come in and out of your country as it sees fit
2. Fixed exchange rate—your currency never changes in value relative to other currencies
3. Autonomous monetary policy—you manage your own money as you see fit
Japan currently opts for the first and third options, like most capitalist democracies. They control their own money, and investment capital flows in and out whenever it wants. But this means they can’t have a fixed exchange rate. If they want to be open and attractive to investment, and also to have their own money, that means foreigners are going to have to be able to buy and sell Yen whenever they want, which means it’s relative value will change. If they go for 1 and 2, that’s basically the old gold standard that most of the world used from 1870-1914. Their money will not change in value, and capital can flow in and out, but they won’t actually control their money; it will basically be an international currency controlled by lots of countries. Finally, they can do 2 and 3. That’s basically China. You can fix your exchange rate, and also control your own currency, fiddling with the relative value as you see fit. But then you cannot allow foreigners to pour money in or your citizens to send money out whenever they want. That will make the exchange rate vary too much.
When interest rates go up, people want to deposit money in your banks (and other such investments), so they want your currency. They start trading their other-country currency for yours. As a result, the value if your currency on the market goes up.
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