DOLLAR STRENGTH IS NOT A GOOD REASON TO BUY TREASURIES

Japan has been trying to weaken their currency ever since the bubble economy burst. The problem is that when ever they have has some success as weakening the currency, it has sparked a crisis, such as in 1998, and in 2007. In 2007 the Japanese had great success devaluing against the Euro, which then reversed.

Japanese attempts at devaluing the Yen from 1994 to 1998 and again from 2002 to 2007 ended in failure as Yen weakness put too much pressure on Asian currencies which then forced them to devalue, exporting deflation back to Japan. South Korea has always been a huge investment destination for Japanese corporates. Won devaluing against the Yen clearly marks the AFC and the GFC.

With the Yen back at close to 25 year lows against the Won, betting on deflation and buying treasuries makes sense. There is a problem with this view. Korean and Japanese trade balance positions have reversed, and look nothing like the relationship that held in 1990s or 2000s.

But the old relationship between Japan and South Korea could offer us a way to think about the relationship between China and the rest of Asia and South Korea. The Yen, Won and most Asian currencies have been weak this year. This continues until it causes problem in a country that still maintains some sort of currency peg - in this case China. And that is the core of the deflationista - buy bonds crowd. The VERY big problem with this thesis, is that Yen and Won weakness seems to have no effect on Chinese export competitiveness. Chinese trade surplus has surged to new all time highs. For those of you who say you cannot trust Chinese economic data, US, Japan, Korea and Europe all confirm China’s trade data.

The bond buying crowd is very excited by the near 10% sell off in Chinese Yuan this year.

While ignoring the Chinese Yuan trading near all time highs versus its main trading partner Europe, and a similar cross rate versus Yen.

So as my previous post pointed out, US dollar strength is really more Yen weakness, which may well continues as Kuroda continues to drive Japanese real wages lower in the hope that corporates will raise wages (makes no sense to me either).