BOJ FOCUS-Yen fall, not rise, may be bigger worry in post-quake era

* Yen strength remains potential trigger for BOJ action

* Quake raises BOJ concern about damage from weak yen

* Pace, not level, may be more important – analysts

* No obvious policy response in case of yen slide-analysts

By Leika Kihara

TOKYO, March 30 (Reuters) – Less than two weeks after the
Bank of Japan led a G7 charge to stop a soaring yen from hurting
the export-reliant economy, policymakers are starting to worry
about a scenario where a weak yen could hamper recovery from
this month’s deadly earthquake.

For years the central bank’s main concern — and trigger for
policy action, such as the March 18 coordinated intervention —
has been excessive yen strength that threatened to choke off
Japan’s modest, largely export-driven growth.

But the triple blow of a massive earthquake, a tsunami and a
nuclear crisis has led BOJ officials to consider what would
happen if the yen’s fortunes reversed at the time of the
economy’s heightened vulnerability and dependence on imports.

“People talk so much about the risk of a yen rise. But now,
what’s really scary for Japan is yen weakness which would make
imports costly,” said a source familiar with the BOJ’s thinking.

“With Japan having to rely more on imported fuel, that would
deal a severe blow to the economy.”

Another source expressed a similar view, saying that a
strong yen would benefit the economy more than a weak currency
in the near term as Japan is set to import significantly more
fuel and raw materials needed for reconstruction.

That means the BOJ may be less aggressive in responding to
yen rises alone and will increasingly look how broader markets,
including bond and stock markets, perform and how they affect
consumer and business sentiment, in deciding whether to further
ease monetary policy, several other sources said.

Any sharp deterioration in developments at the crippled
Fukushima nuclear power plant may also justify easing policy
further if it jolts markets and hurts sentiment, they said.

PACE, NOT LEVEL, MATTERS MORE

Japan’s dependence on food and fuel imports means any drop
in the yen translates into large losses in purchasing power and
bodes ill for the overall economy.

Even before the quake, the BOJ has noted how a strong yen
has helped mitigate some of the negative effects of surging
global commodity prices.

Power shortages resulting from the nuclear crisis and damage
to conventional power plants are likely to boost Japan’s fuel
imports, making the world’s third-largest energy consumer more
vulnerable to a weak yen than before the
disaster.[ID:nL3E7ED023]

“There are many companies suffering from a strong yen. But
excessive yen weakness is also undesirable,” one of the sources
said.

For now, expectations of euro zone policy tightening and
possibly a gradual unwinding of quantitative easing in the
United States are keeping the yen at around 83 to the
dollar, well off the 76.25 all-time high hit days after the
quake, but still strong in historical terms.

To be sure, BOJ officials do not expect the quake’s damage
to trigger a sudden sell-off of Japanese assets or a sharp
weakness in the yen any time soon.

But the fact that such possibility is being discussed marks
a significant shift in the BOJ’s thinking about economic risks
posed by the currency’s swings.

For the time being, the central bank’s main scenario is that
the world’s third-largest economy will return to moderate growth
after the summer once the effects of rolling power outages wear
off and reconstruction spending picks up.

Still, anxiety that the yen’s sharp fall may derail the
recovery is palpable among Japanese policymakers, perhaps in
part because there is no obvious policy recipe for such a
scenario.

BOJ watchers say the central bank is concerned with the
economic consequences of market moves, not the moves themselves,
so it is highly unlikely it would try to stem the yen’s fall by
raising interest rates if the economy remained weak.

“Raising rates won’t be easy unless the economy is
performing well enough to make zero rates hard to justify,” said
Hideo Kumano, chief economist at Dai-ichi Life Research
Institute.

Instead, the BOJ might intervene if it felt the fall was
excessive or even ease its monetary policy further to help the
economy, even if that could push the yen even lower.

Officials refuse to say how much the yen would need to
weaken to become alarming, but some analysts reckon a sharp drop
well below 90 yen to the dollar could be similarly damaging to
the economy as its sharp spike earlier this month.

They say the speed of the move rather than absolute levels
would be key to gauge the broad economic impact.

“A sharp yen fall, such as by around 5 yen in one to two
days, would be damaging,” said Ayako Sera, market strategist at
Sumitomo Trust & Banking. “But if the dollar rises to around 100
to 120 yen in, say two years, that won’t be much of a problem.”

(Additional reporting by Kaori Kaneko; Editing by Tomasz
Janowski)

BOJ FOCUS-Yen fall, not rise, may be bigger worry in post-quake era