The economic reason that Japan decided to intervene decisively to try to aid the US economy this week may be seen clearly in the graph below.
It has been one of key goals of Japanese economic policy to attempt to prevent the yen rising against the dollar - unlike the situation with the euro where the eurozone countries have been content to see the euro rise strongly against the dollar.
Japan had succeeded in either keeping the exchange rate of the yen at its 2000 level or even below. Under the impact of the global financial crisis, however, the yen had soared upwards against the dollar rising by 15 per cent since the beginning of September - moving from 108.7 yen to the dollar to a peak of 92.6 yen to the dollar on 24 October.
The specific configuration of Japan's economy is that a highly internationally competitive series of exporting companies, centred in manufacturing, exist in the context of highly uncompetitive small businesses in other sectors that are deliberately protected by the ruling Liberal Democratic Party (LDP) in order to maintain its electoral base. These latter, uncompetitive, firms cannot be used to stimulate the economy and indeed are a major drag on it. The LDP however cannot rationalise this sector without destroying its own support. Therefore, in order to square the economic circle, Japanese economic policy is centred on maintaining a low exchange rate that will allow its exporting manufacturing companies to flourish. When, therefore, Japan saw the rapid rise of the yen it felt economically compelled to intervene to aid the US by driving down the yen through large purchases of dollars - the latter aiding the US.
Over and above this economic imperative is also the political one that the US demands from Japan, in return for militarily protecting it, an accommodating financial policy to support the United States. This political pressure goes in the same direction as the economic one.
As outlined in the previous post such policies have been highly damaging to the Japanese economy but are considered a necessary price to be paid by the LDP.