Yen Bloc: Toward Economic Integration in Asia

Chapter 1: Overview

Interest in a yen bloc in Asia has been on the rise. This is happening against a background of growing recognition of the limitation of the Asian countries’ traditional exchange rate policy of pegging to the dollar, as revealed by the recent currency crisis in Asia; the implementation of Japan’s ambitious financial reform program dubbed the Big Bang; and the emergence of the euro as a challenge to the dominant role played by the U.S. dollar in the international monetary system. As noted in the preface, the term yen bloc refers to a group of countries that use the yen as an international currency and that maintain stable exchange rates against the yen.1 It is analogous to such currency blocs as the former sterling area and the Economic and Monetary Union (EMU) now taking shape in Europe. 1 1 Overview 1. As pointed out by Holloway (1990), the term yen bloc can mean two different things. According to the broad definition, “Japan becomes the center of gravity of the West Pacific economy by virtue of its size—it comprises two-thirds of the region’s annual output—and technological lead. As the region becomes increasingly integrated, more business activity enters the gravitational pull of Japan and its corporations. Trade and investment with the rest of the world continue to grow, but at a slower pace than within the region.” According to the narrower, monetary definition,“the Japanese currency is used increasingly for regional trade and financial transactions, to the point where countries find it convenient to peg their currencies to the yen. The eventual result may be some form of monetary union, as is evolving in the EC, in which a common currency emerges.” In this volume the definition of yen bloc is close to the narrower version.   The traditional approach to studying the use of the yen as an international currency, more widely known as the internationalization of the yen (the two expressions are used interchangeably), is framed in terms of Japan versus the rest of the world. In comparison, a yen bloc would be more limited in geographic scope but would involve closer policy coordination and economic ties among member countries. With most of their international transactions denominated in U.S. dollars and with their currencies pegged loosely to the dollar, Asia’s developing countries, it is fair to say, belong to a de facto dollar bloc. Taking this conclusion as my starting point, I try to find the answer to a further question: Is the formation of a yen bloc desirable, and if so, is it possible? The answer hinges on the implications of forming a yen bloc for both Japan and its Asian neighbors, some of which have become more apparent as a result of the crisis in Asia that started in the summer of 1997. Four Analytical Approaches to a Yen Bloc The possibility of forming a yen bloc in Asia can be studied from four complementary approaches: a Japanese perspective, an Asian perspective, a regional perspective, and a global perspective. These four approaches share the common understanding that the possibility of forming a yen bloc would be higher if major players perceive that its benefits outweigh its costs. A Japanese Perspective My study of the yen bloc from a Japanese perspective focuses on the implications for Japan of forming a monetary union with Asia. If the benefits exceed the costs, then Japan would be likely to pursue it as a policy objective and try to remove barriers hindering its realization. Until the early 1980s, the Japanese government was reluctant to promote the yen as an international currency, fearing that large fluctuations in the demand for the currency would destabilize the Japanese economy and make it difficult to conduct monetary policy. The changing international environment since the mid-1980s, however, has prompted Japan to reverse its stance. At the same time, the official approach to promoting the yen as an international currency has focused on its increasing role in Asia. With Asia now replacing the United States as Japan’s largest trading partner , stabilizing the yen’s effective exchange rate through the formation of a yen bloc should help reduce the vulnerability of the Japanese economy to fluctuations in the yen-dollar rate. No country today is attempting to stabilize its currency against the yen as part of its exchange rate policy, thus ren-   dering the yen more volatile than...