Lets rewind to the 90's when the Yen made a sudden gain against the dollar and was marching relentlessly upwards. This was so because of the continuous flow of dollars to japan due to the BOP between japan and the US. The mishandling of the inflows by sucessive japanese governments in not deflating the explosive growth (like what dr yv reddy in india tried to do for which the FM saw to it that the country didnt get a well deserved extension of his tenure) saw them caught in a serious economic twist - on one side the Yen was rising very very fast and on the other threatening to blow all the asset bubbles in japan sky high. As a student of economics at that time i had predicted that the best gains that the japanese could do was to allow the Yen to rise in a measured and managed manner, use a portion of the forex reserves to recapitalise banks for the losses suffered in the asset bubble and make their homegrown MNC's shift to other countries like India or similar countries wherein the balance of their forex reserves could be used to gain political and economic benefits besides securing their investments. Additional spin off benefits is that the country they choose to shift to would have become part of their domestic consumption story as well!!
Instead of the above we now have the famous lost decade of Japan.
When a currency fluctuates 40-60% as the Yen did more than 12 years back, it does become very difficult to manage the effects of this on the local economy and mainly on asset prices. The net effect is that today after all these years the Yen is back up to a high of 87 (currently at 93 -20/7/09) and the forex reserves have accumulated to gigantic proportions which if used now would only furthur increase the relative strength of the Yen vis a vis the dollar.
It is still not late for the Japanese governement to use a sizeable portion of these funds to go through another round of deflation in their country with a target of 45-50 yen / dollar over the next decade. This should effectively end all chances of a surplus BOP with the US or any other nation for that matter and at the same time their continuous selling of these reserves to meet local social needs would also help them smoothen out the process of deflation. Radical but then these tough times need tough decisions.
Economists would argue the damage that deflation does to businesses - but we are not talking of a closed system here - Japan by virtue of the investments made abroad - lets say in INR would continue to keep its businesses alive - tax them and at the same time keep selling the dollar to manage the currency rates besides providing the liquidity within the country till such time the natural forces of economics display acceptable self perpetuating tendencies.
The above might actually help a nation like India/ China/ Brazil etc as they can affectively employ their teeming populations/ get their SEZ's functioning and create demand locally with all the extra disposable income sloshing around. The demand that the japanses make on the country accepting their investment is to show a deflation in population growth !!
Time of policy makers to put their thinking caps on!!
Personally would you vote for deflation or inflation. With the extra angle that high cost items will have lower to nil demand i think deflation is the best as we also get to save the environment - as the net result of the nay sayers arguments to deflation is that only needs will be compulsarily bought !!
so instead of being lemmings and being all at sea, i think we can also do with a dose of deflation and going green. A stronger rupee in the medium to longer term wouldnt hurt as well!!
PS: note on lemmings - they dont commit suicide by falling into the sea - they just migrate by swimming across the sea - of course as they dont know where the next land is and hence most of them die due to exhaustion.
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