KOIDE, KOZO JUne 1610

Arranged for Global Interdependence Center, 2010 International Conference in Paris

June 17th, 2010

Outlook of Yen DIAM Co. Ltd Chief Economist

Kozo Koide

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

1

Recent Move of YEN, Within a Range 2010 : Range from about 89 to 95 yen/$ $/Yen

< $/YEN Rate (Daily) >

98

1/8: Kan (Minister of Finance, at inauguration) "Cheap yen is preferable"

8/30: Landslinding Victory of DPJ

97 96

1/21: Obama "Volker Plan"

9/24: Fujii (Minister of Finance, at the meeting with Secretary Gaithner) "FX market is a stronghold of free

95

6/2: Resignation of Hatoyama

94 93

3/31:The end of Japanese FY

92 91 90

5/6: ECB, not discuss the purchase of government bonds

89 88

11/29: Fujii after Dubai Shock: "watch & see"

87

3/3: Greece "Aditional cut of fiscal budget"

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

10.06.07

10.05.24

10.05.10

10.04.26

10.04.12

DIAM Economic Research

Data:Bloomberg

2

10.03.29

10.03.15

10.03.01

10.02.15

10.02.01

10.01.18

09.12.21

09.12.07

09.11.23

09.11.09

09.10.26

09.10.12

09.09.28

09.09.14

09.08.31

09.08.17

10.01.04

12/1: BOJ introduced new liquidity supply facility

86 09.08.03

ď ľ

YEN Pendulum in the Last Decade YEN has been appreciated due to flight to ‘quality’.

– Financial crisis invited higher risk premium upon deficit countries’ currency.

– Interest rate differentials or external imbalance. Japan : Low interest rate but has large current surplus. Capital mobility matters. \

< $/YEN Rate >

$

135

100MYen

80,000

FX Intervention by Japan(RHS) /Yen Rate

130

70,000

125

60,000

120

Pariba Shock

115

50,000

110

40,000

105

Greece Crisis

100 Lehman Shock

95

Source:BOJ

DIAM Economic Research Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

20,000

0 10.07

09.07 10.01

08.07 09.01

07.01 07.07

06.07

05.07 06.01

04.07 05.01

04.01

03.01 03.07

02.07

01.07 02.01

00.07 01.01

08.01

Dubai Shock

85

3

30,000

10,000

90 00.01



Real Interest Rate Differentials & $/YEN Not instant sensitivity with $/Yen exchange rate, though ...

– But it has become higher in about the last 5 years. < $/Yen Rate & Real Interest Rate Differentials >

2.5

$/Yen (Monthly Average,LHS)

6 US > JPN

LOG10

Short-term real interest rate differential (3MLibor, US -- JPN)

7

More Sensitive

5

2.4

4 3

2.3

2 1

2.2

0 ▲1

2.1

▲2 ▲3

2.0

▲4 ▲5 Data:Datastream, Ministry of Internal Affairs & Communications(JPN), Department of Labor(US)

4

09.01

08.01

07.01

06.01

05.01

04.01

03.01

02.01

01.01

00.01

99.01

98.01

97.01

96.01

95.01

94.01

93.01

92.01

91.01

90.01

89.01

88.01

87.01

86.01

1.9 85.01

US < JPN



DIAM Economic Research

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

Break in Causality : Interest Rate & FX ď ľ

From mid 2008, the causality has been weakened.

Fig.Granger-Sims Causality Test 100%

AUDUSD EURUSD GBPUSD CADUSD

02/26/2010

0% 11/30/2009

0% 08/31/2009

10%

05/29/2009

10%

02/27/2009

20%

11/28/2008

20%

08/29/2008

30%

05/30/2008

30%

02/29/2008

40%

11/30/2007

40%

08/31/2007

50%

05/31/2007

50%

02/28/2007

60%

11/30/2006

60%

08/31/2006

70%

05/31/2006

70%

02/28/2006

80%

11/30/2005

80%

08/31/2005

90%

02/28/2005

P-Value

Interest rate gap to FX rate

100%

90%

05/31/2005

Lower Causality

Granger /lag=6

5

P-Value

:

Miziho-DL Financial Technology

5

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

Current A/C Surplus & $/YEN Rate Higher Yen regardless of contraction of current surplus < Current A/C of Japan & $/YEN Rate > $/YEN Rate

2.4

JPN:Current Account / Nominal GDP (4QTotal %, RHS) 1.0

2.3

1.5

2.3

2.0

2.2

2.5

2.2 3.0 2.1 3.5

2.1

4.0

2.0

6

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

10.09

09.09

08.09

07.09

06.09

05.09

04.09

03.09

02.09

01.09

00.09

99.09

98.09

97.09

96.09

95.09

94.09

93.09

92.09

91.09

5.0 90.09

1.9 89.09

4.5

88.09

2.0

87.09

ď ľ

Capital A/C : Portfolio vs. Others Large swing of portfolio investment & other investment < Capital Accounts (6Mts, Total) >

Source:MOF

7

10.01

09.07

09.01

08.07

08.01

07.07

07.01

06.07

Financial Derivatives FDI Capital Account

06.01

05.07

05.01

04.07

04.01

03.07

02.07

300,000 250,000 200,000 150,000 100,000 50,000 0 ▲ 50,000 ▲ 100,000 ▲ 150,000 ▲ 200,000 ▲ 250,000 ▲ 300,000 ▲ 350,000 ▲ 400,000

03.01

Portfolio Investment Other Investment Other Capital Accounts

100 Mil. Yen

02.01



DIAM Economic Research Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

Japanese, not Taking Much Outright FX Risk 

Bank & pension are using more hedging operation Growing mutual fund take more FX risk – But the majority is going to emerging &/or high interest rate zone.

Outward Portfolio Investment (Equity & Long/Mid-term Bond) Life Insurance Trust Bank (Trust A/C) 1 0 0 M \ Others 2 5 0 , 0 0 0

Bank(including Banking A/C of T/B) Mutual Fund Total

2 0 0 , 0 0 0 1 5 0 , 0 0 0 1 0 0 , 0 0 0 5 0 , 0 0 0 0

0 1 .

0 9 0 1 .

1 2 0 2 .

0 3 0 2 .

0 6 0 2 .

0 9 0 2 .

1 2 0 3 .

0 3 0 3 .

0 6 0 3 .

0 9 0 3 .

1 2 0 4 .

0 3 0 4 .

0 6 0 4 .

0 9 0 4 .

1 2 0 5 .

0 3 0 5 .

0 6 0 5 .

0 9 0 5 .

1 2 0 6 .

0 3 0 6 .

0 6 0 6 .

0 9 0 6 .

1 2 0 7 .

0 3 0 7 .

0 6 0 7 .

0 9 0 7 .

1 2 0 8 .

0 3 0 8 .

0 6 0 8 .

0 9 0 8 .

1 2 0 9 .

0 3 0 9 .

0 6 0 9 .

0 9 0 9 .

1 2 1 0 .

0 3 1 0 .

0 6



▲ 5 0 , 0 0 0

12 mts. Total

▲ 1 0 0 , 0 0 0

S o u r c e : M O F

8

DIAM Economic Research

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

US$/YEN, & Effective Exchange Rate YEN, not so appreciated against ‘other’ currencies. < Yen Exchange Rate >

Jan. 2000 = 100 80

120.00

90

110.00

100

100.00

110

90.00

120

80.00

130

70.00

140 150 160

60.00

US$/YEN AUD$/YEN Nominal Effective Exchange Rate (RHS)

50.00 40.00

00.01 00.07 01.01 01.07 02.01 02.07 03.01 03.07 04.01 04.07 05.01 05.07 06.01 06.07 07.01 07.07 08.01 08.07 09.01 09.07 10.01 10.07



Source: BoJ, Bloomberg

9

DIAM Economic Research

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

Unwinding of Yen Carry has been Stabilized Bank’s interoffice flow has become neutral.

Other Investment ex.Trade Credits (6mts. Total) Bank's Interoffice Account(L/T) Securities Lending Repurchase Agreement Others Currrency & Deposit Other Investment (ex. Trade Credits)

1 0 0 M \

3 0 0 , 0 0 0

Other L/T Loans Bank's Interoffice Account(S/T) Others Other Assets/Liabilities

2 0 0 , 0 0 0 I N

1 0 0 , 0 0 0 0

O U T

▲ 1 0 0 , 0 0 0

1 0 .

0 4

1 0 .

0 1

0 9 .

1 0

0 9 .

0 7

0 9 .

0 4

0 9 .

0 1

0 8 .

1 0

0 8 .

0 7

0 8 .

0 4

0 8 .

0 1

0 7 .

1 0

0 7 .

0 7

0 7 .

0 4

0 7 .

0 1

0 6 .

1 0

0 6 .

0 7

▲ 3 0 0 , 0 0 0

0 6 .

0 4

▲ 2 0 0 , 0 0 0

0 6 .

0 1



DIAM Economic Research Source:BOJ

10

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

About 7Qs Time Lag ď ľ

From 1998 : Average time lag between current A/C & Yen was 21mts Response of YENEFFECT to Cholesky One S.D. CURRENTAC Innovation 8 6 4 2 0 -2 -4 -6 5 11

10

15

20

25

30

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

35

Current A/C Surplus & $/YEN Rate If we assume a time lag for 7Qs before moving rate... < Current A/C of Japan & $/YEN Rate > L og10 2.4

$/YEN Rate JPN:Current Account / Nominal GDP (4QTotal %, RHS,7Qleading)

2.3

1.0 1.5

2.3

2.0

2.2

2.5

2.2 3.0 2.1 3.5

2.1

4.0

2.0

Source : Cabinet Office, BOJ, Bloomberg

12

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

10.09 11.09

06.09 07.09 08.09 09.09

03.09 04.09 05.09

99.09 00.09 01.09 02.09

5.0 96.09 97.09 98.09

1.9 93.09 94.09 95.09

4.5

89.09 90.09 91.09 92.09

2.0

87.09 88.09

ď ľ

DIAM Economic Research

Cristal Ball, with Many Colors Current level is higher than ‘fundamental’ value, but...

– 59, 70, 98, 105, 113 $/Yen 280 260 240

< PPP Rate of $/YEN > $/YEN Rate PPP(CGPI & PPI final goods) PPP(CPI core)

220 200 180 160 140 120 100 80 60 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09



Dat a:Dat astream, BOJ , Ministry of Internal Affairs & Tellecommunication(J PN), DoL(US)

13

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

Yen Bull, Pushed out of the Edge of a Cliff ?

14

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

Shaky Greece & Yen Volatile Greece government bond market < $/Yen

higher yen

Greece Government Bond >

$/Yen Volatility of Greece government bond yeild(10ys,RHS)

86

11.0 10.0

87

9.0

88

8.0

89

7.0

90

6.0

91

5.0 4.0

92

3.0

93

2.0

94

1.0

(Note)Volatility : S.D. of daily change (30DMW)

Source Bloomberg

15

10.06

10.05

10.04

10.03

10.02

10.01

0.0 09.12

95 09.11

ď ľ

DIAM Economic Research Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

BOJ, Took a Step Ahead BOJ has introduced new liquidity supply on Dec. 1, ’09.

– The near-term direct effect against deflation is restricted.

– But affected the expectation in the market about future policy.

– Planning new initiative for corporate finance O/N Call Rate

100M\

O/N Call Rate (right scale)

0.80

Note Shadow : Target of BOJ Reserve Account

350,000

0.70

BOJ

09.10

09.04

08.10

08.04

07.10

07.04

06.10

06.04

05.10

05.04

0.00 04.10

04.04

0.10

03.10

50,000

03.04

0.20

02.10

100,000

02.04

0.30

01.10

150,000

01.04

0.40

00.10

200,000

00.04

0.50

99.10

250,000

99.04

0.60

98.10

300,000

Source

16

Reserve Account in BOJ (Monthly Average)

BOJ Reserve Account

400,000

98.04



DIAM Economic Research

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

JGB : Japanese Market 

9 % of outstanding was held by Japanese (incl. FILP bond) – Due to the large domestic savings under deflation, JGB has been held stably by domestic investors. < G7:Currentof Account / General Gov. Balance (% GDP) > – What is the implication KAN-sian policy?

CY2008 ( General Gov. Balance (% of GDP) ) 1.0

Canada

Germany

0.0 ▲ 1.0 ▲ 2.0

Italy

▲ 3.0

France

▲ 4.0

UK ▲ 5.0

Japan

▲ 6.0

US ▲ 7.0 ▲ 4.0 Source: IMF

17

▲ 2.0

0.0

2.0

DIAM Economic Research

4.0

6.0

8.0

( Current Account (% of GDP) )

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research

18

Outlook of Yen (GIC, Paris) June 17, 2010 DIAM Economic Research