Dollar Plummets, Yen Soars on New Japan Optimism

The value of the dollar plummeted on Wednesday, accelerating a shift that bodes well for most of Asia and, if it stands, changes the calculus of the global economic crisis.

Responding to evidence that Japan at long last is nearing a political deal to rescue its tottering banking system, the yen surged and the dollar tumbled 8.1%--its biggest one-day loss against the Japanese currency in 25 years.

The explosive move, which brought the dollar as low as 118.90 yen before closing at 120.25 from 130.85 on Tuesday, immediately brightens the economic picture for struggling nations across Asia by easing pressure on their beleaguered currencies and making their goods more competitive against those from Japan.

At the same time, it makes U.S. goods more competitive overseas, a boon to American exporters that have been hurting recently. It also should ease the pressure on the currency in Brazil, which is seen as the next potential victim of the so-called Asian contagion.

But the immediate winner is Asia.

“If the markets indeed have correctly forecast an end to Japan’s woes, it’s tremendous news for Asia,” said John Lonski, chief economist at Moody’s Investors Service.

Analysts cautioned, however, that even if Japan finally adopts a plan to bail out the troubled banks with public funds, it will be years before the economy is fully back on its feet.

“They will work out their troubles over the next two, three or even four years and then spend the following decade paying their debts,” said Kenneth Courtis, Tokyo-based chief economist for Deutsche Bank.

Economist Lawrence Kudlow also noted that Japan’s well-known exporters such as Sony and Toyota may have a tougher time selling their goods overseas as the yen rises, which could make an economic recovery more arduous.

But analysts believe this penalty is worth it.

The weak yen has been an enormous burden for Japanese banks. Chang Yi, an analyst with Kokusai Securities, says every 1-yen drop in the value of Japan’s currency against the dollar results in about $8 billion more credit pulled out of the nation’s banking system, which further squeezes credit-starved Japanese companies.

“Right now the financial system is more important than [the fate of export] corporations, so you can see this strong yen as a positive factor,” he said.

After a long run-up against a weakening yen that prompted some to fear an outright meltdown of the Japanese currency, the dollar in recent weeks began to edge back down, moving from 145 yen to Tuesday’s 130.

Experts attributed that trend in part to maneuvers by hedge funds as well as signs of a cooling U.S. economy, the slump on Wall Street and last week’s interest rate cut by the Federal Reserve Board.

The dollar had also been weakening against the German mark and other European currencies. That accelerated Wednesday as the greenback slid more than 1.5% to as low as 1.6047 marks, its lowest level against the German currency since January 1997.

Although the dollar had been moving lower, Wall Street was stunned by the depth of Wednesday’s plunge, which means the yen has surged by 18% against the dollar since Aug. 11.

Traders again pointed to hedge funds, the once-obscure international investment funds that shouldered their way into the headlines two weeks ago with the near-collapse of Greenwich, Conn.-based Long-Term Capital Management.

When the Tokyo stock market surged overnight due to bullishness about the banking situation, it lifted the yen also. Hedge funds that had been betting against the yen were forced to sell dollars and buy yen furiously to cover their yen-denominated loans.

Global stock, bond and currency markets all have been infected with extreme volatility as hedge funds scramble to unwind their risky bets.

“It’s a very treacherous market now,” said David Resler, chief economist for Nomura Securities in New York. “Any event with the potential for significantly changing perceptions will have a magnified effect.”

Although the day-to-day reactions of the markets can be frightening, some on Wall Street thought that the gloom over Asia may be lifting slightly.

“Just maybe the [International Monetary Fund] and central bankers are slowly restoring an iota of confidence,” ventured Christine Callies, chief investment officer for CS First Boston.

Besides the rumors of a political settlement emanating from Tokyo, she pointed to “a gradual accumulation of circumstantial evidence” that the Asian crisis may have hit bottom. She cited a slight pickup in the prices of key commodities, such as gold and industrial metals.

It’s no surprise that word of progress in resolving Japan’s banking crisis would have a dramatic effect. Repairing the banking system is widely seen as the most urgently needed step to arrest the Asian crisis that has now engulfed much of the globe.

Under the latest plan being considered by Japan’s parliament, the government will inject capital as needed into the banking system, thus allowing the banks to resume lending--the lifeblood of the nation’s economy.

Combined with other stimulus programs, “the Japanese government will have injected $200 billion into the economy. It is bound to have an effect,” said analyst Courtis.

Not only will Japanese banks be able to lend to domestic companies, they will once again be able to finance overseas subsidiaries of Japanese manufacturing firms--most of them elsewhere in Asia. The withdrawal of credit from these subsidiaries has helped to cripple Southeast Asian economies.

Times staff writer Mark Magnier in Tokyo contributed to this report.

* HINTS OF RATE CUTS: Greenspan’s comments offer hope of interest rate cuts. C1

(BEGIN TEXT OF INFOBOX / INFOGRAPHIC)

Lots of Winners

Who wins when the U.S. dollar falls:

Large U.S. companies: Companies that export to, or operate in, overseas markets benefit because their products become cheaper abroad and their earnings rise when foreign revenue is translated back into dollars.

Asia and Latin America: Asian firms benefit when a stronger yen makes Japanese products costlier than their own. Latin American countries benefit because several currencies are pegged to the dollar.

Tourists to U.S.: A cheaper dollar makes it less expensive for Japanese tourists to visit U.S. destinations, thus helping many Southland businesses.