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Japan's New Stimulus: Good for Gold

When Quantitative Easing causes inflation, people naturally turn to Gold Investment...

in global markets is the meeting of the Bank of Japan, writes Julian Phillips of the, where they debated what to do about a Yen strong enough to damage Japanese exports, the mainstay of the Japanese economy.

It was agreed that Japan will spend ¥920 billion ($10.8bn) on economic stimulus and compile an extra budget if needed. The central bank expanded a loan program by ¥10 trillion ($116bn). This left the market underwhelmed and the Yen went stronger still. This was a red rag to a bull as it invited speculators to push the Yen even higher. They will keep pushing it up until the Bank of Japan takes sufficient action to prevent its rise.

The talk is now that it will rise to around ¥78 against the US Dollar, which will force crisis action on the government. But far more than meets the eye lies in this action and potential action.

  • It attacks the reasoning behind Exchange Rates;
  • It encourages speculation both on the Yen; and
  • Unlike the US action, this does not fill the holes caused by deflation but devalues the buying power of the Yen with an inflationary stimulus.

Both these new actions thus undermine Japanese money internally and externally. If no one objects to this, then a tacit approval of this policy is being given. If this is the case, then you can be sure that other major nations will follow suit. What of price stability and exchange rates that accurately reflect the Balance of Payments of a nation.

To understand the importance of these issues we take you back to the last time you heard the US complain about the undervaluation of the Chinese Yuan. It is perceived by many in government and in both parties that the Chinese are manipulating their currency to gain advantage in international trade and this is making many people angry.

The Japanese are about to attempt the same. While the principles of a currency's exchange rate dictates that it should reflect the underlying Balance of Payments, such moves clearly go against this. Perhaps we should question whether the Balance of Payments should dictate an exchange rate? Or should it be as in Asia, do what you can to support your exports? If it is the former then the system of exchange rates as we have relied on is giving way to expediency, a road with no principles. In short, if expediency is the way forward then the global system of exchange rates is under threat.

It is not simply a case of manipulating ones economy to engineer a weakening of one's currency if you need to stimulate your own economy. Surely, this also applies if you already have a strong economy.

In the case of the US the policy of benign neglect has led the US into a situation that will lead to a falling Dollar as it has a structural Trade deficit and has watched its manufacturing slip away to China over the years. The reality of this is now China can exert a huge influence over US monetary policy due to the huge investment it has in US Treasuries. And right now they are making moves to reduce this investment to the detriment of the US

The reality is there is no set of rules that determine exchange rates in the world economy. But you will find those who end up at a disadvantage howling 'foul'.

When the 'credit crunch' struck, money literally disappeared of the balance sheets of banks and off those of individual investors. Governments stepped in, in Europe and the US and pumped in new money in an attempt to fill those holes to keep the system going. Despite this the credit crunch persists. Yes, the banks did fill these holes and have made good profits through their trading activities, but the impact on the broad economy is that bank lending was not resuscitated. The state of the consumer and the broad economy in the developed world tells us this.

What's more, the banks have been pumping that money into Treasuries and making money there. So the purpose of the QE is actually being defeated in the States particularly. Certainly, no inflation is being seen in the US economy as a result of the QE. At least not yet! What should happen is that the money supply should be expanded in conjunction with job stimulation.

We take you back to the Depression and the vast money expansion which President Roosevelt authorized through the revaluation and purchase of Gold Bullion thereafter. One of the ways he pulled the US out of the Depression was to employ the unemployed to dig holes and fill them in again. Many thought this ridiculous, but what did it do? It introduced that new money into the economy by expanding the numbers of employed but most important of all it got the consumer spending as the money supply expanded. The money did not go in at the top but went in at the bottom to then filter up into the entire economy. This got the entire economy going, not just the banks. It wasn't inflationary because it did not simply add money to the system, it added spending consumers too. It matched the expansion of the economy to the expansion of the money supply.

Japan is a different kettle of fish. It has suffered deflation for a decade now. Its deflation has been absorbed by the economy and no 'holes' are there needing filling. New money in their system, we believe, will lie on the surface of the economy (as they want it to). It will precipitate inflation. Once this happens, savers will see little gain in holding depreciating cash and turn to invest in assets, so as to protect the value of their savings. They are not spending, but continue to save. By doing that the flow of money in the economy is too slow.

We believe that Japan is now about to walk that inflationary road to get the consumer spending through lowering the value of his savings. The only difficulty is that they have not done enough in this latest package to achieve that, so expect more and soon, as the Yen continues to rise. If they have success, you can be sure the US will do the same.

How can this be good for Gold Investment? Put yourself into the shoes of the Japanese investor. He has suffered deflation for so long he regularly invests in other currencies to gain the interest rate differential as well as the gain in foreign currencies over the Yen when it falls. With the Bank of Japan telling these investors they want to lower the Yen, these investors, when convinced this is about to happen, will follow this route more enthusiastically.

If he believes inflation is about to take off, he knows that in the present global environment the Bank of Japan cannot afford to let interest rates rise (and take the Yen with them). He then realizes that the buying power of the Yen is being reduced by such stimuli. Inevitably, once the Yen has been undermined by QE, interest rates will eventually have to rise, to counter excessive inflation. With this in mind both cash and fixed income securities lose their attraction. A hard asset that cannot be debauched is preferable. Locally this can be anything from property to gold. The advantage of gold is that it is well known to the Japanese and it travels all over the world. History also shows that gold has proved itself the certain retainer of value in all extreme times including both deflation and inflation.

In view of this we believe that the Japanese will turn to gold, once they see the policies intended to lower the Yen, working.

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JULIAN PHILLIPS – one half of the highly respected team at – began his career in the financial markets back in 1970, when he left the British Army after serving as an Officer in the Light Infantry in Malaya, Mauritius, and Belfast.

First he worked in Timber Management and then joined the London Stock Exchange, qualifying as a member and specializing from the beginning in currencies, gold and the "Dollar Premium". On moving to South Africa, Julian was appointed a macro-economist for the Electricity Supply Commission – guiding currency decisions on the multi-billion foreign Loan Portfolio – before joining Chase Manhattan and the UK Merchant Bank, Hill Samuel, in Johannesburg.

There he specialized in gold, before moving to Capetown, where he established the Fund Management department of the Board of Executors. Julian returned to the "Gold World" over two years ago, contributing his exceptional experience and insights to Global Watch: The Gold Forecaster.

Legal Notice/Disclaimer: This document is not and should not be construed as an offer to sell or the solicitation of an offer to purchase or subscribe for any investment. Gold Forecaster/Julian D.W. Phillips have based this document on information obtained from sources they believe to be reliable but which it has not independently verified; they make no guarantee, representation or warranty and accepts no responsibility or liability as to its accuracy or completeness. Expressions of opinion are those of Gold Forecaster/Julian D.W. Phillips only and are subject to change without notice. They assume no warranty, liability or guarantee for the current relevance, correctness or completeness of any information provided within this report and will not be held liable for the consequence of reliance upon any opinion or statement contained herein or any omission. Furthermore, they assume no liability for any direct or indirect loss or damage or, in particular, for lost profit, which you may incur as a result of the use and existence of the information, provided within this report.

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