The high yen dilemma: Currency strength may spell short-term pain but long-term gain

THE DOLLAR dipped to an all-time low of below 98 yen in Tokyo on Friday. Six months ago it bought 113 yen. Is this the end of Japan's manufacturing industry, as some of the more excitable business leaders are now claiming in Tokyo? Or could it be yet another external shock - like the oil crises of the 1970s or the previous rise of the yen after the 1985 Plaza Accord - which will turn out, in the end, to have had beneficial effects on Japan's economy?

As usual, all is not as it seems in Tokyo. On 22 June, the day after the dollar first fell below the 100-yen level, the government held an emergency cabinet meeting. The newspapers had screaming headlines on the yen's precipitous rise. Takeshi Nagano, the head of Nikkeiren, (the Japan Federation of Employers' Associations) announced that 'the abnormally strong yen will bring about the collapse of manufacturing in this country'.

But the people who manage Japan's economy - the top bureaucrats in the Ministry of Finance and the Ministry of International Trade and Industry - do not seem too worried. Could it be that they foresaw, and even to a degree welcomed, the yen's rise? And if the Clinton administration is indeed happy to see the dollar fall against the yen in the hope of curbing Japan's trade surplus, could it be making another huge error of judgement for the longer term?

Richard Koo, chief economist of Nomura Securities in Tokyo, said that a sharp rise in the yen has been on the cards for some time. His logic is simple: exporters are earning dollars overseas as they notch up Japan's huge trade surpluses. But at home in Japan there are still enormous debts to be paid off from foolish investments during the bubble years. No one dares to invest overseas any more. So the dollar earnings have to be converted into yen and repatriated to Japan. 'Nobody in Japan wants to buy dollars, period' he said.

The bigger Japanese corporations have seen this coming for some time and are knuckling down to deal with a continuing high yen. Jesper Koll, chief economist for S G Warburg in Tokyo, says that corporate Japan is preparing for an exchange rate of 95 yen to the dollar in 1995, and 80 yen to the dollar by the year 2000.

The main way of preparing for the higher yen is to attack labour costs. Already Japan's labour costs are 25 per cent higher than those in the US. If nothing were done, Japanese manufacturing would indeed be finished, as Mr Nagano has warned. But with the pressure of the high yen - a convenient external excuse that can be blamed on those lazy, profligate, uneducated Western workers - Japanese corporations can forcibly tackle their wage bills, both by cutting excess labour and by relocating manufacturing plants to the cheaper workforces of Asia - China, Thailand, Indonesia and Malaysia. With the yen at record heights, the price of relocating in South-east Asia, whose currencies are nearly all pegged to the dollar, is becoming cheaper by the day for Japanese corporations.

This process is not without pain. In Detroit, for example, the Big Three US car-makers are thrilled by the yen's rise. They already enjoy a price advantage over Japanese cars and, unless the dollar strengthens, the Japanese car-makers will be forced to raise their prices by an average of nearly dollars 1,000 ( pounds 660) this year. The steel industry is also aching: last week China broke off negotiations with Japan's steelmakers, who had been demanding price increases to compensate for the rising yen. Last year Japan exported nearly dollars 3bn worth of steel to China. Similar tales of woe from Japanese exporters are multiplying. But these exporters are not returning home to bemoan their fate.

As the OECD warned last week, the high yen could slow down Japan's economic recovery. But if the temporary pain ends up producing an even leaner, more competitive Japan, would it not be worth it? Could this perhaps explain the relative tranquility of Japan's economic mandarins?