Mike Norman, anchor, HardAssetsInvestor.com (Norman): Hello, everybody, and welcome to HardAssetsInvestor.com. I’m Mike Norman, your host. We’re here for the second half of my interview with Michael Woolfolk, who is the senior currency strategist at Bank of New York Mellon.

I want to talk a little bit about the yen. Because recently the new Japanese finance minister came out and said, “Look, we need to get the yen down. It’s part of our strategy of stimulating our economy. We want the yen at least around 95 to the dollar,” which he sees as a more fair, I guess, exchange rate. Yet, the yen doesn’t seem to be cooperating.

Michael Woolfolk, chief currency strategist, BNYM (Woolfolk): Nor should it.

Norman: I mean, let’s face it: A currency-issuing nation has unlimited power to weaken its own currency. We’ve seen that here in the United States. What’s the problem? If they want the yen down, they certainly can do it. Do you think it’s political pressure from the U.S.? Because we’re kind of in this game of one-upmanship here, like, you devalue your currency, we’re going to do ours. Because they want to get the export growth.

Woolfolk: Well, I think that you take a look at what Japanese officials have said for decades now, ever since the crash in 1990 of the Nikkei, which is that they feel that a currency should be consistent with fundamentals. And from a Japanese perspective, what they’re talking to really is growth differentials. So if their economy is weak, the currency should not strengthen. And yet it has.

The Japanese currency, the yen, has been the best-performing currency since the crash of 1990 through 2005, for 15 years there. And the reason being, Mike, is that they’ve had the lowest inflation rate, if not deflationary levels, of all the majors. And the way that works, with respect to nominal currency levels, is that if you have the lower inflation level, your currency should be appreciating in nominal terms. So a quick way to think about it is, today’s 90 in dollar/yen is last year’s 95. So if all things remain the same, dollar/yen is going to continue to creep lower and lower, regardless of the economy.

Norman: Isn’t it also, I mean, Japan just runs trade surpluses. There’s not that much yen pumped out into the global financial system because they’re running surpluses. And until they reverse that, which would mean they would need to stimulate domestically, the yen doesn’t go down.

Woolfolk: Certainly a trade surplus is a contributory factor to currency strength, there’s no question, to real currency strength as opposed to nominal. And Japan has had a structural trade surplus compared to the United States, which is legendary in terms of its current account, its trade deficit. So certainly that’s to be put in the yen strength column. I don’t think that it’s necessarily that important a trend during 2010. At Bank of New York Mellon, we’re expecting the yen to be the weakest of currencies over the course of the year, amongst the majors.

And one of the factors, other than the fact that they have very weak growth right now, is that the yen, with zero interest rates, and still a dose of quantitative easing, is not only the favorite, but it’s going to be the sole funding currency for the carry trade for 2010. Once the Fed begins raising interest rates, the Swiss National Bank is likely to follow suit, the Bank of England probably thereafter.

Norman: So they go back to using the yen as the basis of the carry trade.

Woolfolk: Absolutely. If risk is on, that yen is going to plunge.