In a significant policy shift, Japan’s central bank has raised its main interest rate to its highest level in three decades amidst a growing cost-of-living crisis. On Friday, the Bank of Japan (BOJ), under the leadership of Governor Kazuo Ueda, announced a quarter percentage point increase in its benchmark rate to approximately 0.75%. This decision marks the first rate hike since January and coincides with new Prime Minister Sanae Takaichi’s focus on inflation control while keeping government borrowing costs manageable.
Raising interest rates typically strengthens a country’s currency. In Japan’s case, this adjustment could alleviate inflation driven by the yen’s weakness against other major currencies, such as the US dollar and the euro, which has led to rising import costs. However, this increase will also elevate government borrowing costs, as higher interest rates mean that the government will face increased expenses to finance its debt.
Last year, Takaichi criticized the notion of a rate hike, labeling it “stupid.” Since taking office in October, she has not openly contested Ueda’s strategies but has prioritized combating rising inflation as it dampens the support for her ruling Liberal Democratic Party. Recent statistics revealed that Japan’s inflation, excluding food and energy, increased by 3% in November, surpassing the BOJ’s target of 2%.
Despite the rate increase, some economists, such as Shoki Omori, chief strategist at Mizuho in Tokyo, believe it will have minimal impact on inflation. Omori pointed out that market expectations had already factored in the rate increase, keeping the yen relatively weak.
Looking ahead, most economists predict that the BOJ may implement another rate hike next year, possibly reaching a benchmark rate of 1%. This marks a considerable shift in Japan’s monetary policy after nearly three decades of persistently low rates. Julia Lee from Pacific FTSE Russell characterized the move as a historic transformation.
However, Takaichi’s position on monetary policy could complicate future rate hikes. Shigeto Nagai, head of Japan economics at Oxford Economics, noted that the BOJ might require around six months to assess the impact of this rate change on the economy before considering another increase.
The BOJ’s recent decision contrasts sharply with the approaches of other major central banks globally, which are currently reducing borrowing costs. The Bank of England, for instance, cut its main interest rate to 3.75%, the lowest since February 2023. Furthermore, the US Federal Reserve lowered its key lending rate for the third time this year, now set between 3.50% and 3.75%, the lowest level witnessed in three years.
