Bank of Japan lifts its rate to a 31-year high

The Bank of Japan raised its benchmark interest rate by 0.25 percentage points to 1.25 percent on 18 September, the highest level in 31 years¹. The central bank framed the move as a step to help counter inflation risks⁷. Governor Kazuo Ueda raised rates for the second time in short order⁹, the shortest interval between increases in the bank’s recent practice, against a backdrop of rising oil prices and a weakening yen¹⁰. Ueda indicated that the central bank has moved into a new phase².

The decision extends a long normalisation effort. The Bank of Japan has been trying to move away from decades of keeping interest rates near or below zero to encourage more activity³. It was the latest big central bank to tighten, following rate increases by the Federal Reserve two days earlier⁶. Central banks around the world have hiked as high energy prices push up inflation⁵.

Why it matters to investors

Even after the increase, the Bank of Japan remains well behind its peers, with rates below the European Central Bank’s 2.5 per cent and the Fed’s 3.75 per cent to 4.00 per cent⁴. That gap is one reason the hike did not support the currency. The yen sold off after the decision, and the move was read as leaving room for further weakness⁸.

The structural risk attached to the decision is the yen carry trade, the funding arrangement built on Japanese rates staying near zero¹. Japanese normalisation changes the cost of that funding for positions held well outside Japan, which is why a quarter-point move in Tokyo is being treated as a global event rather than a domestic one^1,6.

What to watch

US Treasury Secretary Scott Bessent has urged the Bank of Japan to take decisive measures in monetary policy¹⁰, and the bank’s answer to that pressure has become a visible part of the policy debate⁸. Governor Ueda is now balancing two constituencies that want him to move at different speeds⁹.

The near-term questions are whether the new phase Ueda described brings further increases², and whether the global hiking cycle now under way⁶ continues to be driven by energy prices rather than by domestic demand⁵. The gap to the ECB and the Fed is the number to track, because it sets how far Japanese policy would have to travel before the currency responds⁴.