Kozo Koide Jan 1010

Arranged for Global Interdependence Center, 2010 International Conference in Shanghai

January 11th, 2010

Outlook for the Yen DIAM Co. Ltd Chief Economist

Kozo Koide

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM Economic Research

1

Resent Move of YEN, A Lot of Bears of YEN YEN has been depreciating after BOJ’s action on 12/1

< $/YEN Rate (Daily) >

$/Yen

1/8: Kan (Minister of Finance, at inauguration) "Cheap yen is preferable" 9/24: Fujii (Minister of Finance, at the meeting with Secretary Gaithner) "FX market is a stronghold of free economy"

8/30: Landslinding Victory of DPJ

Data:Bloomberg

2

10.01.04

09.12.28

09.12.21

09.12.14

09.12.07

09.11.30

09.11.23

12/1: BOJ introduced new liquidity supply 09.11.16

09.11.09

09.11.02

09.10.26

09.10.19

09.10.12

09.10.05

09.09.28

09.09.21

09.09.14

09.09.07

09.08.31

09.08.24

09.08.17

09.08.10

11/29: Fujii after Dubai Shock: "An appropriate action should be taken against abnormal move. But we should watch & see before current situation" 09.08.03

98 97 96 95 94 93 92 91 90 89 88 87 86

DIAM Economic Research

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

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

30,000

100

Lehman Shock

20,000

95

10,000

90

3

0 10.01

09.07

09.01

08.07

07.07

07.01

06.07

06.01

05.07

05.01

04.07

04.01

03.07

03.01

02.07

02.01

01.07

01.01

00.07

00.01 Source:BOJ

08.01

Dubai Shock

85

DIAM Economic Research

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

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 >

％

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

7

$/Yen (Monthly Average,LHS)

6 US > JPN

LOG10

More Sensitive

5

2.5 2.4

4 3

2.3

2 1

2.2

0 ▲1

2.1

▲3

2.0

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

▲5

86.01

▲4 85.01

US < JPN

▲2

1.9

DIAM Economic Research

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

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. 【O/N Call Rate ・ Reserve Account in BOJ (Monthly Average)】

100M\

BOJ Reserve Account

400,000

O/N Call Rate (right scale)

0.80

（Note）Shadow : Target of BOJ Reserve Account

350,000

0.70

Source ： 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

98.04

5

％

DIAM Economic Research

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

Instant Reaction to Unemployment Rate?

Peak-out of unemployment rate is a sign for rate hike? < US : FF Rate & Unemployment Rate >

％

％

12

1

FF Rate (monthly Average)

11

Unemployment Rate (3MMA, RHS）

10

2 3

9 4

8 7

5

6

6

5

7

4

8

3 9

2

出所：労働省、FED

6

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

11 86.01

0 85.01

10

84.01

1

DIAM Economic Research

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

US, Taking a Breath in Sight ?

The rate hikes implied in the markets in US are not so sure.

– Possibly the demand-supply situation in US would be relaxed toward the middle of this year. < US : Shipment (YoY) --- Inventory (YoY) > Shipment(YoY)---Inventory(YoY), 3MMA ShipmentDI --- InventoryDI (6Mahead, in Philadelphia FED, RHS)

％

15

70

Data : DOC, Philadelphia FED

10.01

09.07

09.01

08.07

08.01

07.07

07.01

0 06.07

▲20 06.01

10

05.07

▲15

05.01

20

04.07

▲10

04.01

30

03.07

▲5

03.01

40

02.07

0

02.01

50

01.07

5

01.01

60

00.07

10

00.01

7

Pt

DIAM Econoimic Resea rch

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

Current A/C Surplus & $/YEN Rate Higher Yen regardless of contraction of current surplus < Current A/C of Japan & $/YEN Rate > $/YEN Rate JPN:Current Account / Nominal GDP (4QTotal %, RHS,6Qleading)

2.4

10.09

09.09

08.09

07.09

06.09

05.09

5.5 04.09

1.9 03.09

5.0 02.09

2.0 01.09

4.5

00.09

2.0

99.09

4.0

98.09

2.1

97.09

3.5

96.09

2.1

95.09

3.0

94.09

2.2

93.09

2.5

92.09

2.2

91.09

2.0

90.09

2.3

89.09

1.5

88.09

2.3

87.09

8

1.0

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

Capital Account, Large Swing of “Others” Large swing of “other investment’ is eye-catching.

– Major part of recent inflow is ‘other investment’ 【 Capital Account (12mts, Total）】 Portfolio Investment Other Investment Other Capital Account

100M\ 400,000 350,000 300,000 250,000 200,000 150,000 100,000 50,000 0 ▲50,000 ▲100,000 ▲150,000 ▲200,000 ▲250,000 ▲300,000 ▲350,000 ▲400,000 ▲450,000 ▲500,000

Financial Derivatives FDI Capital Account I N

02.01 02.04 02.07 02.10 03.01 03.04 03.07 03.10 04.01 04.04 04.07 04.10 05.01 05.04 05.07 05.10 06.01 06.04 06.07 06.10 07.01 07.04 07.07 07.10 08.01 08.04 08.07 08.10 09.01 09.04 09.07 09.10

O U T

9

Source:MOF

DIAM Economic Research

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

Unwinding of YEN Carry has been Going On A lot has been flowing back through interoffice A/C 【 Other Investment ex.Trade Credits (12mts. Total) 】 Bank's Interoffice Account(L/T) Securities Lending Repurchase Agreement ＆ Others Currrency & Deposit Other Investment (ex. Trade Credits)

100M\

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

400,000 300,000 200,000

I N

100,000 0

O U T

▲100,000 ▲200,000 ▲300,000

09.10

09.07

09.04

09.01

08.10

08.07

08.04

08.01

07.10

07.07

07.04

07.01

06.10

06.07

06.04

06.01

▲400,000

DIAM Economic Research

10

Source:BOJ

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

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 Inv estment (Equity & Long/M id-te rm Bond)】 Life Insurance Trust Bank (Trust A/C) Others

100M\

250,000

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

200,000 150,000 100,000 50,000 0 ▲50,000

11

Source:MOF

09.03 09.06 09.09 09.12

08.06 08.09 08.12

03.12 04.03 04.06 04.09 04.12 05.03 05.06 05.09 05.12 06.03 06.06 06.09 06.12 07.03 07.06 07.09 07.12 08.03

02.03 02.06 02.09 02.12 03.03 03.06 03.09

01.09 01.12

▲100,000

12 mts. Total

DIAM Economic Research

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

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

Source: BoJ, Bloomberg

Jan. 1999 = 100

80

120.00

90

110.00

100

100.00

110

90.00

120

80.00

130

70.00

140

60.00 50.00

10.01

09.07

09.01

08.07

08.01

07.07

07.01

40.00

06.07

06.01

05.07

05.01

04.07

04.01

03.07

03.01

02.07

02.01

00.07

00.01

160

01.07

150

01.01

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

DIAM Economic Research

12

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

Current A/C Surplus & $/YEN Rate If we assume a time lag for 6Qs before moving rate... < Current A/C of Japan & $/YEN Rate > $/YEN Rate JPN:Current Account / Nominal GDP (4QTotal %, RHS,6Qleading)

2.4

10.09

09.09

08.09

07.09

06.09

05.09

5.5 04.09

1.9 03.09

5.0 02.09

2.0 01.09

4.5

00.09

2.0

99.09

4.0

98.09

2.1

97.09

3.5

96.09

2.1

95.09

3.0

94.09

2.2

93.09

2.5

92.09

2.2

91.09

2.0

90.09

2.3

89.09

1.5

88.09

2.3

87.09

13

1.0

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

Twin Deficits of US, & $/YEN Simultaneous deterioration cast shadow upon $ denominated assets – If US current a/c would deteriorate with the legacy of huge fiscal spending, ...

– CHINA: anchor against or catalyst for high yen? < $/YEN Rate & Foreign Researve > TYen

Simultaneous Deteriaration of US Twin Deficits $/YEN Rate Foreign Researve(RHS)

LOG10 2.5 2.4

110 100 90

Plaza Accord ('85/9)

80

2.3

70 60

2.2

911 Attack ('01/9)

50 40

Louvre Accord('87/2) 2.1

30

Clinton's Talk Up('93/4)

Data:Datastream, Tresuary Department (US)

14

20 10 09.12

08.12

07.12

06.12

05.12

04.12

03.12

02.12

01.12

00.12

99.12

97.12

96.12

Lehman Shock ('08/9) 95.12

94.12

93.12

92.12

91.12

90.12

89.12

88.12

87.12

86.12

85.12

84.12

83.12

82.12

81.12

80.12

79.12

77.12

1.9

78.12

(Note):Tw in Deficits:Current Account Deficit / Nominal GDP (%) Federal Government's Deficit / Nominal GDP (%) QtQ deference after 4QMA

98.12

2.0

0

DIAM Economic Research

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

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 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

60 Data:Datastream, BOJ, Ministry of Internal Affairs & Tellecommunication(JPN), DoL(US)

15

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

Bull, Pushed to the Edge of a Cliff

16

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

Demography : Front Runner in Asia All Asian counties are doomed to face rapid aging.

– The refraction points in other Asian will not so far away.

– Going down with much faster speed in some countries. 【 Asia : Productive Population Ratio 】

% 80

Japan

China

Korea

HK

Singapore

Taiwan

75

70

65

60

55

Estimate from CY2010 Productive Population Ratio: Age 15-64 / Total population

Source: UN, National Statistic Bureau (Republic of China)

17

2050

2045

2040

2035

2030

2025

2020

2015

2010

2005

2000

1995

1990

1985

1980

1975

1970

1965

1960

1955

1950

50

DIAM Economic Research

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

1. Fertility rate↑

Higher Female Labor Participation Labor participation rate of female has becoming higher – Centered in late 20’s, 30’s – Higher labor participation of women → Higher opportunity cost to have children 【 Labor Perticipation Rate (Female) 】

80% 70% 60% 50% 40% 30% 20%

08.12

10%

85.12

0% 15-19

20-24

25-29

30-34

Source : Ministry of Internal Affairs & Communications, National Research Institution of Social Welfare

18

34-39

40-54

55-64

65+

DIAM Economic Research

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

1. Fertility rate↑

Still We Have Hope The neck is day-care system & spending for education – OECD estimate the fertility rate would be risen to 2.0 provided that public support for day-care and spending for education – Japanese women still do want babies. (Not like German) %

【 Potential Impact of Various Policy Reforms on Total Fertility Rates 】

3.0

Expectate Progress in Fertility Rate by Policy Enhancement Current Level of Birthrate

2.5 2.0 1.5 0.2

1.0 0.5

0.0

0.2

0.2 0.3

0.6 0.7 0.8

0.5

0.7

0.3 0.3 0.4 1.0

0.4

0.4 0.6

0.9 1.1

2.0 1.9 1.7 1.6 1.7 1.7 1.8 1.7 1.5 1.5 1.4 1.4 1.5 1.3 1.2 1.3 1.3 1.2 1.1

19

Source: OECD

Korea

Portugal

US

Netherland

Ireland

Greece

France

UK

Finland

Japan

Canada

Czech

Italy

Austria

Belgium

Denmark

Sweden

Germany

Spain

0.0

DIAM Economic Research

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E

Higher Productivity : Emission Control Japan boasts of its highest energy efficiency.

– Additional cut is unfair, impossible OR good chance for innovation » Solar energy : Highest cutting edge with low growth due to a lack of initiative » Nuclear power : 3 companies out of 4 which can build & operate advanced generator are Japanese

20

Outlook for Yen (GIC, Shanghai) Jan 11, 2010 DIAM E