Japan, the DJP and Regional Financial Arrangements; a preliminary view.

In recent days both the Liberal-Democratic Party (LDP) and the Democratic Party of Japan (DPJ), in addition to trading barbs, have released their respective ‘manifestos’, or policy platforms. Unsurprisingly, the focus in these documents is on domestic political matters almost exclusively with the pension system again taking centre stage.

Despite the preoccupation with internal affairs, Japan will not be able to shut out events in the outside world. The global financial crisis will propel the new government headlong into international affairs, ready or not.

It is increasingly likely that the DPJ will win this election. What are the DPJ’s views on Japan’s role in the international economy?

A central question is whether Japan will throw its weight behind the effort to de-throne the US dollar’s global role. It is worth remembering that in 1999, in the aftermath of the Asian financial crisis, the then PM Obuchi proposed ‘yen internationalisation’ as a means of achieving exactly this. Japan’s intentions are still important because unlike China - the current ‘leader’ (or at least the most vocal member) of the putative movement to replace the dollar, the Japanese yen has the greater ability to replace to some extent the dollar’s role, at least within East Asia.

The first point is that the DPJ has no declared policy on the role of the yen. At least not yet. But it has ideas, and ideas which in time might morph into policy. Indeed, Yukio Hatoyama, the DPJ’s leader and potential Prime Minister, has commented about currency coordination in East Asia in the Diet. In 2005, Hatoyama said in a Diet session focused on constitutional reform, that ‘it is important now to have a discussion about how to include in our constitution a clause enabling us, Japan, to give up a portion of our sovereignty to regional level governance, like the members of the EU did with the Euro. I believe that such an East Asian Community is necessary.’ While not a comment on ‘yen internationalisation’ per se, these comments suggest that the idea of common currency in Asia (the effect of which would be to displace or reduce the role of the USD) has attraction for him personally.

Others within the DPJ have been more specific. Nakagawa Masaharu, the Nekusuto (shadow) treasurer, hit all the buttons in an interview with Bloomberg in early July, in one sentence alone calling for yen internationalisation, IMF-SDR denominated bonds, and the US to issue some of its bonds in yen (aka Samurai bonds). Taken together, these ideas if they became policy would move Japan from its current position supporting the USD’s role as key currency, to adding Japan’s not inconsiderable weight to those seeking to unseat the USD (or at least its privilege in debt denomination).

Hatoyama’s belief is that the question of the USD’s role (and yen’s role in any new regional financial architecture) is ultimately a political question, as closely tied to the rise of China as to the perceived excesses of the US. Hatoyama recently published a piece called ‘My political philosophy’ in this month’s Voice, a leading news magazine in which he writes, ‘The realisation of regional currency integration (an Asian Common Currency) ought to be our goal, however this ought to occur in the context of building a permanent East Asian security frame-work’. That is a fairly unequivocal statement of support for the Asian Currency Unit (ACU) idea – an idea which has been voiced in Japanese Ministry of Finance and related research bodies, and by influential people such as former PM Nakasone. Taken together with Hatoyama’s earlier statements in the same article about American economic hegemony failing, we can conclude that he is (at the moment, as the leader of the non-governing party) sympathetic to idea of reforming the current financial system in which the USD is the key currency. Hatoyama’s ideas about an Asian Common Currency (presumably including China) were married to the belief that the move (effectively toward China) should be taken in tandem with the development (and progress towards) a regional security framework.

It is still early days, but what is apparent is that the DPJ and Hatayama are more pre-disposed than the LDP toward reaching a new understanding with China. The emphasis on China is clearly signposted in the DPJ manifesto, as is the interest in cooperating with China in regional architecture building, including in the financial arena.

Neither Hatoyama nor Nakagawa have a background in international finance, (graduates of engineering and international politics respectively), so once the DPJ is in government and as the trade offs of moving beyond the dollar become clearer there remains every possibility that the DPJ will back away from taking on the USD, at least initially. But if there were signs already the Japan was tipping away from the US-led Pacific, open regional order towards a more exclusive economic arrangement with its partners in East Asia, the results of this election could accelerate those trends.