Bank of Japan’s 31-year-high policy rate has not lifted the yen

The Bank of Japan raised its policy rate to 1.25% this month, the highest level in 31 years, yet yen weakness remains unresolved⁶. Another account described the move as Japan’s first interest rate rise in 31 years, with yen weakness expected to persist because the central bank signaled caution about what comes next⁸. Japan has moved from ultra-cheap money to a 1.25% policy rate⁷.

The yen remains under pressure despite the closely watched hike². The BOJ has aligned itself with the Federal Reserve, raising rates to curb the currency’s depreciation and bring inflation under control³. The Fed, the European Central Bank and the Bank of Japan all raised rates in September, while the Bank of England held its rate steady¹.

Why it matters to investors

The policy rate is moving more slowly than the bond market. Japan’s ten-year yield climbed to 3.08%, its highest level since 1996, as yields surged worldwide⁵. A policy rate at 1.25% against a ten-year yield above 3% is a wide spread, and it is the kind of spread that forces domestic institutions to reconsider holdings abroad.

That is the carry-trade channel. Cheap yen funding has underwritten positions in higher-yielding markets, and both legs of that trade are now moving: the funding leg is repricing while the currency has not strengthened in response^2,6. Japanese consumer names are already being screened by retail investors on the back of the rate shift⁷, and the domestic question has become whether the economy can absorb it².

What to watch

The currency has become a diplomatic subject as well as a market one. Japan said Trump voiced concern over the weak yen in his summit with Prime Minister Takaichi, and the finance minister’s comments were reinforced hours later by a call with US Treasury Secretary Scott Bessent, according to a statement from Japan’s Finance Ministry⁹. Takaichi now faces an autumn test in keeping economic policy on a credible path after the hike⁴.

Watch whether the BOJ’s signaling changes, since the expectation of continued yen weakness rests on the central bank having indicated caution rather than a sequence⁸. Watch the ten-year yield against the 1996 benchmark it has now passed⁵. And watch whether the Fed and the ECB keep moving in the same direction, because the September alignment is what the BOJ leaned on^1,3.