FX COLUMN-Yen bears may need history lesson

By Neal Kimberley LONDON, Nov 9 (Reuters) - The debt market doomsters are again focusing on Japan's fiscal woes, driving credit default swaps on Japanese five-year government debt to 70 basis points from 35 in less than two months, their highest since April. They may have a point. The IMF said last week it expected Japan's gross public debt to reach 218 percent of GDP in 2009. At the same time, the new government has ambitious spending plans despite falling tax revenues. On the currency markets, some analysts are talking about the yen weakening. Dollar/yen targets of 95.00 have been mooted. This level was seen in August 2009, but the pair has since mainly been confined to an 88.00-92.00 range. But is this slide in the yen inevitable? Old Japan hands argue for a different outcome. If Japan is in trouble, the yen should strengthen as the Japanese bring money home, they say. And if the old hands are right, dollar/yen would more likely hit 85.

Below that, the market would look at the all-time low of 79.80. This alternative scenario is partly based on historical experience.

During the bubble era of the 1980s, a confident Japan bought Hollywood movie studios, U.S. real estate and Van Gogh's "Sunflowers" (bought for a then record $39.9 million by the Yasuda Fire and Marine Insurance Company in 1987). The yen weakened and the dollar in December 1989 was still above 140 yen even though the Nikkei stock index had peaked. Once the bubble burst, Japan turned in on itself. Faced with an impaired banking system, investors repatriated the "mother currency". The yen duly reached its strongest point of 79.80 against the dollar just months after the Kobe earthquake of January 1995 had inflicted another cruel blow on the struggling economy. What was bad for Japan was good for the yen. Yen bears argue that today is different. Japan no longer has the bunker mentality that drove the repatriation of capital. Nor, after years of economic drift, do Japanese investors feel home turf is necessarily safer. They may just stay offshore. This time it's different. This time the yen should weaken, the bears say. Yet has so much changed? In the world of finance, Sumitomo Trust & Banking and Chuo Mitsui said on Friday they planned to merge to create Japan's largest trust bank. This recalled the mergers of the 17 city banks in the post 1989 period that left Japan with three megabanks. Even Toyota's withdrawal from Formula One is an introspective move.. Yen bears should also note the consumerist stance of the new Democratic Party-led government. Finance Minister Hirohisa Fujii's comments on the yen have been variously interpreted but the consensus is he does not oppose a stronger yen. Indeed Fujii told parliament on Monday he expects U.S. Treasury Secretary Timothy Geithner, visiting this week, to urge Japan not to focus so much on exports. This would imply less need for a weak yen. The CDS move reflects market disquiet about Japan. The currency market has arguably been slow to note the widening of the spread. But having noticed it, the knee-jerk Western reaction has been to sell the yen. Yet history points to a different conclusion. Traders who want to sell Japan may have to learn to love the yen. Biography of author Keywords: MARKETS DOLLAR ([e-mail]; [phone]; Reuters Messaging: [e-mail], editing by Nigel Stephenson) COPYRIGHT Copyright Thomson Reuters 2009. All rights reserved.

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