University of Cambridge

Japan Economy

THE ECONOMY OF JAPAN:

Introduction:

Japan is a developed country and it is ranked the second largest economy in the world in terms of it’s GDP per capita, Japan has a good economic performance track record because after world war two it suffered a lot of destruction and in 1952 it was referred to as a less developed country but from the ruins of war it developed to become one of the largest economy and it is therefore the first economy to move from less developed to a developed economy.

The Japanese currency is the Yen, one Japanese yen today is equivalent to 0.008 US dollars, in the recent past the Japanese yen has strengthened against the US dollar, factors such as internal inflation, unemployment levels and fiscal and monetary policies have contributed to the fluctuations in the exchange rate of the Japanese yen against other currencies.

Exchange rate in a floating regime are determined by the supply and demand for a that currency, if the demand for a currency is high then the value of the currency will appreciate against other currency, if demand for a currency falls and speculators sell the currency then the value of the currency depreciates against other currencies.

This paper analyses the factors that have contributed to the fluctuations in the Japanese yen exchange rate, this factors include inflation, interest rates, unemployment levels, monetary policies, fiscal policies and trade balances and other factors.

The exchange rate of the Yen and other factors:

Inflation:

Inflation is the rise in prices of products in the entire economy for a long period of time, inflation is caused by increased money supply or even an increase in the level of prices of inputs such as crude oil prices, there exist two types of inflation as Keynes depicted, the cost push and demand pull inflation, in Japan the level of inflation has risen steadily and this means that the local currency namely the Yen has appreciated over time against the other major currencies.

Governments will always try to balance inflation and unemployment levels, according to the Philips curve the higher the level of inflation in an economy then the lower the level of unemployment, and the lower the rates of inflation in an economy then the higher the level of unemployment.

Unemployment:

Unemployment can be defined as the number of people who are jobless in an economy it is calculated by dividing the number of people who are unemployed with the number of people who are termed as the work force in an economy it may also refer to a condition in which an economy has idle resources that are not being utilized.

Today japans unemployment levels have declined to 4.0% since May this year, the highest recorded level of unemployment in Japan from 1953 because this is when the economy initiated records was 4.8%, unemployment can be reduced through the use of fiscal and monetary policy, unemployment has slightly gone down in Japan, this decline is as a result of increasing interest rates, when interest rates increase the cost of borrowing capital rises and therefore less investment will occur in the economy and this will result into a decline in the employment rates. Therefore the decline in unemployment means that the exchange rate will appreciate.

Interest rates:

Interest rates are referred to as the cost of borrowed funds, a rise or drop in interest rates will affect the exchange rate of a countries currency, the interest rates are expected to rise according to the Japanese, when interest rates increase then the currency will appreciate, however if low interest rates exist in a country its currency will devalue.

Today interest rates are rising and therefore the value of the yen is appreciating against the other major currencies, this is the reason why the Japanese yen has appreciated against the US dollar for the past two months as a result of rising interest rates.

Trade balance:

Trade balances occur when the level of exports do not balance with the value of imports, when there is a positive balance of trade whereby exports exceed imports then the value of the currency is likely to appreciate against other major currencies. This has been the case with Japan, in the recent past the levels of exports of consumer electronics and machinery has increased, this has rendered the economy to attain favorable balance of trade which in turn results into an appreciation of the local currency the Yen.

Monetary and fiscal policies:

Monetary policies include money supply decrease or increase and also interest rates, fiscal policies are used by the government and they include taxation and also government spending, An expansionary policy will result into an increase in level of money supply in the economy and at the same time lower interest rate, this rise will result into the depreciation of the local currency.

Japan has not in the recent past increased any government spending but it plans on increasing government spending in the year 2008 in order to reduce employment, however an increase in government spending may result into a devaluation of the local currency.

Conclusion:

Japan being the second largest economy in the world has developed from a less developed country to a developed economy since 1953, employment levels, inflation, interest rates, fiscal and monetary policies are major determinant of the value of a countries currency, however the government will use a mixed policy strategy to avoid major fluctuations in the economy, policy mix involves the use of both fiscal and monetary policies to steer the economy in the right direction.

Japan still has a strong currency and this is acquired through proper economic management and also technological advancement, Japan remains the second largest economy and it is the only economy that ever moved from a less developed country to a developed economy.

References:

The economy watch (2007) the economy of Japan, retrieved on 8th August

Google finance (2007) the yen exchange rate, retrieved on 8th August

FXstreet (2007) the US dollar falls against the Yen, retrieved on 8th August

News on Japan (2007) Japan levels of unemployment and inflation, retrieved on 8th August

Willem H. and Richard M. (1985) International Economic Policy Coordination, Cambridge University press, UK

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