Hendry Warns: Yen's Plunge & China's Deflation Risk

Key Takeaway

• Hugh Hendry highlights risks including Chinese deflation, a strong US dollar, and losses in US Treasuries.
• Warns of potential "Mad Max" deflation from a yuan devaluation aimed at sustaining China's export drive.
• Describes the drop in the Japanese yen as "terrifying," with the US emerging as a global growth leader.

Yen's Precarious Position

The Japanese yen's recent plunge to a 34-year low against the dollar has ignited fears of a new currency war in Asia, with potential competitive devaluations among Japan's neighbors. This situation is exacerbated by the yen's significant drop, which undermines the export competitiveness of countries like South Korea and Taiwan. The yen's weakness is attributed to Japan's low-interest rates compared to the rest of the world and a global preference for US assets. The currency's fall to its lowest since 1992 against the yuan, near its weakest versus the won since 2008, and at a 31-year low against the Taiwan dollar, has raised concerns about competitive devaluation, particularly in a scenario where the dollar remains strong.

China's Economic Conundrum

Hugh Hendry, former manager of the Eclectica hedge fund, highlighted the risk of a yuan devaluation by China in response to its economic challenges and the yen's depreciation. He described the situation as potentially leading to "Mad Max" deflation, emphasizing the broken economic model where China's GDP growth outpaces domestic investments and household income. This imbalance, coupled with the yen's decline, poses a significant threat to regional stability and competitiveness, especially given China's role in inflating global asset values.

Intervention and Inflation in Japan

The Bank of Japan (BOJ) Governor Kazuo Ueda has pointed to the yen's weakening as a critical factor in Japan's inflation, potentially pushing it above the 2% target. Despite ¥9 trillion ($58.9 billion) interventions, the yen remains volatile, with further declines anticipated amid global yield disparities. Ueda's remarks underscore the negative economic implications of a rapidly weakening yen and the possibility of adjusting interest rates more swiftly to counteract inflation risks. This situation has prompted discussions on the need for careful policy monitoring and potential shifts in the central bank's approach to managing the yen's value.

Global Perspectives and Market Reactions

Market views on the yen's future are mixed, with some analysts predicting continued weakness without a decrease in US interest rates, potentially surpassing 160 per dollar. The global financial community, including US Treasury Secretary Janet Yellen, has advocated for rare and coordinated intervention efforts to stabilize the currency. The yen's volatility and the potential for further declines highlight the challenges of managing currency values in an interconnected financial system and the broader implications for regional and global markets.

Street Views

• Hugh Hendry (Neutral on global economic risks):

  "The world is brimming with risks right now, from Chinese deflation, to the strength of the US dollar, to unrealized losses in US Treasuries held by the bank... Specifically, he sees a broken model, in which the country's GDP grows rapidly, but domestic investments and household income don't keep up. He warns of a risk of a yuan devaluation... He also talks about the 'terrifying' drop in the Japanese yen."