Bank of Japan’s Interest Rate Strategy

By Leika Kihara
TOKYO (Reuters) – The Bank of Japan (BOJ) is facing market turmoil and investor anxiety as it navigates a strategy to communicate interest-rate increases while grappling with past mistakes in policy.

Last week, the yen surged and Tokyo shares dropped significantly after the BOJ unexpectedly raised its policy rate to the highest level in 15 years. Governor Kazuo Ueda indicated that further rate hikes could follow, contradicting the bank’s recent messaging.

Ueda’s deputy played a crucial role in calming the market by stating that rates would not increase alongside market instability. However, further confusion arose when discussions of the BOJ’s policy indicated a focus on potential rate hikes to control inflation.

“The BOJ hiked interest rates because it didn’t like the weak yen. Now it appears to be suggesting a pause in rate hikes because it doesn’t like stocks falling,” said Takuya Kanda, a Gaitame.com Research Institute analyst.

The BOJ increased its short-term policy target to 0.25%, leading to a significant drop in the Nikkei stock average. Investors were also spooked by signals indicating the Federal Reserve may cut rates soon.

Deputy Governor Shinichi Uchida acknowledged the market chaos, implying that the BOJ would continue its monetary easing while inflation remained moderate. This about-face, while stabilizing markets, has also led to increased volatility.

According to economist Yoshimasa Maruyama, “the chance of a near-term rate hike is gone… significantly diminished.” Critics argue that the BOJ’s policy adjustments seem reactive to market fluctuations rather than being based on economic data.

The Japanese government, both ruling and opposition parties, intends to summon Ueda to explain the rate hike. There has been a notable shift in political pressure on the BOJ, from calls to ease policies in response to the yen’s rise to supporting normalization to combat inflation.

Historically, the BOJ has faced backlash for prematurely halting stimulus, and current scrutiny suggests that any hawkish pivot may be perceived as yielding to governmental pressure.

With the likelihood that the Fed will be cutting rates, this complicates the BOJ’s task, potentially leading to increased volatility in the dollar/yen exchange rate.
“This time, the BOJ may have been too preoccupied with public and political anger over excessive yen falls…” said former BOJ board member Takahide Kiuchi.