KEY POINTS:
ESSEN - The G7 industrial powers, under pressure to address a decline in the yen, have warned investors that they could get burned betting in one direction when Japan's economy was continuing to strengthen.
The Group of Seven also repeated appeals to China to relax the state grip
on the yuan's exchange rate by calling for more currency flexibility and citing the world's fourth-biggest economy by name. And they commissioned a report on hedge funds.
The main innovation at a meeting dominated by currencies and market risk came in a declaration of confidence in the recovery of Japan's economy and warnings against the carry trade - an investment play that compounds yen weakness.
In a statement issued after talks in Essen, Germany, the G7 said the US economy was solid and Europe rebounding broadly.
"Japan's recovery is on track and is expected to continue. We are confident that the implications of these developments will be recognised by market participants and will be incorporated in their assessments of risks," it said.
The yen recently hit a 21-year low on a trade-weighted basis and has shed four times as much against the euro in the past year than against the dollar, sparking concern that European exporters will suffer disproportionately in competition on world markets.
European Central Bank President Jean-Claude Trichet added a layer of warning against the practice of borrowing vast amounts in low-yield currencies such as the yen to reinvest for a profit elsewhere - carry trades, as they are called.
"We want the markets to be aware of the risks of one-way bets, in particular on the foreign exchange market," Trichet said.
"One-way bets in the present circumstances would not be, it seems to us, appropriate. We want the markets to be aware of the risks they contain," he said.
Japanese Finance Minister Koji Omi appeared to agree.
"This means that G7 countries think that markets, particularly forex markets, should recognise the risk of moving in one direction too heavily," he said.
"I think we have come to the appropriate conclusion."
How effective the warnings would be was far from clear.
Marco Annunziata, chief economist at UniCredit investment bank, said the G7 was clearly trying but still unlikely to reverse market trends.
"It's nice of them to send a warning on one-way bets ... but it still sounds like cheap talk," he said, adding that markets were well aware Japan had yet to nail the coffin lid on a decade of deflation.
Moreover, he added, the G7 had also said the global economy was doing nicely.
"That's a great backdrop for putting on even more carry trades," he said.
International Monetary Fund chief Rodrigo Rato said he expected another year of global economic growth of about 5 per cent in 2007.
The G7 renewed calls for efforts to strike a deal in stalled free-trade talks.
Its statement endorsed the pursuit of energy efficiency and said alternative energy sources were increasingly important.
- REUTERS