Despite the current signs of relief in Japanese and other Asian financial markets, deflationary forces in the region are set to grow. That will force the US and Japan to signal the end of the Asian crisis with a new global policy framework and massive fiscal stimulus in Japan. Investors should prepare for a policy reversal.
It will most likely happen only after further economic pain in Asia, renewed equity market weakness around the world and a steady build-up of deflationary waves hitting OECD economies. At first, that could well send the yen back down to ¥135 to the dollar. But after the switch in global policy, I expect the dollar would fall to around ¥110 by the end of 1998.
There are still some big shoes to drop in the emerging-markets crisis: a renminbi devaluation by China and disorderly succession in Indonesia. But a new Plaza-type accord has the potential to provide a full stop, at least until the Chinese renminbi and the Hong Kong dollar fall.
How would it work? First, the US Fed and the Japanese monetary authorities, with the participation of the European central banks, would intervene massively in support of the yen by selling the US dollar.