Bank of Japan policy board member Masu Ichigyo said on Thursday, Sept. 10, that Japan is no longer in deflation and that the central bank should keep raising policy rates to deal with negative real interest rates. He also warned that if inflation accelerates from current levels, the BOJ could be forced to raise rates quickly.
His remarks came with only one week left before the BOJ’s Sept. 17-18 policy meeting. Overnight index swaps, or OIS, are now pricing in roughly a 97% chance of a rate hike on Sept. 18, up from 80% two weeks ago.
Markets are already positioned for a September hike
Japan’s policy rate currently stands at 1.0%, after being raised from 0.75% in June. That is the highest level since September 1995. Markets are now expecting another 25 basis point increase next week, which would take the rate to 1.25%.
Against that backdrop, the new element in Masu’s comments was less about whether the BOJ will hike and more about how quickly it may continue tightening after that.
Real rates remain below zero
Masu’s reference to negative real rates points to inflation-adjusted borrowing costs still being below zero. Japan’s core CPI for August, excluding fresh food, rose 1.8% year over year, compared with 1.7% in July. With the policy rate at 1.0%, that leaves the real rate at about negative 0.8%.
At that level, money parked at the policy rate would lose 0.8% of its purchasing power over the course of a year.
Masu said he is convinced the BOJ needs to raise rates further so the policy rate moves into the estimated neutral range, giving the central bank room to adjust policy in either direction depending on economic conditions. Neutral rate refers to a level that neither stimulates nor restrains the economy. He said Japan’s policy rate has long remained below that range, which is why he still sees monetary conditions as loose.
Inflation could change the pace of tightening
Masu also raised a warning on the pace of rate increases. He said underlying inflation is about to reach 2%, though he does not expect it to move far above that level. He added that if inflation accelerates from here, there is a risk the BOJ will have to hike quickly.
The yen and bond market have already reacted
USD/JPY traded at 153.62 on the day. The pair touched 153.48 on Sept. 8, the strongest level for the yen since mid-February. In July, the exchange rate was still close to 163.98, which means the yen has appreciated by about 6.3% in less than two months.
Moves in the bond market have been larger. Japan’s 10-year government bond yield briefly broke above 3% on Sept. 1 for the first time since September 1996, before returning to 2.91% on the day. The report said yields have been pushed up not only by rate hike expectations but also by fiscal concerns. Japan’s initial budget request total for fiscal 2027 is estimated at about JPY 143 trillion, the largest on record.
External pressure and disagreement over the path ahead
Outside pressure is also pointing in the same direction. U.S. Treasury Secretary Bessent said last week that he is now the “house,” claimed to hold “asymmetric information” on what the BOJ is likely to do next, and openly challenged yen short sellers to take the other side. The report said he has been pushing for BOJ rate hikes because a stronger yen would reduce Japan’s need to sell U.S. Treasuries to intervene in the foreign exchange market.
There is still disagreement over the pace of tightening. Stefan Angrick, an economist at Moody’s Analytics, said Masu’s comments are another signal that the BOJ is moving toward more rate hikes, and he expects the central bank could raise the pace to once every three months.
Analysts surveyed by Reuters were less hawkish. They expect the BOJ to lift rates to 1.25% on Sept. 18 and then wait until the second quarter of 2027 to reach 1.75%, implying an average pace of one 25 basis point move about every four months.
Crypto markets are also under pressure
In crypto, Bitcoin was trading at $78,108, down 1.92% over 24 hours, while Ether was at $2,470, down 1.86%.
The report said the transmission channel from a stronger yen into crypto runs through carry trades. Investors borrow low-yielding yen and rotate into higher-yielding assets, including cryptocurrencies. When the yen strengthens and Japanese rates rise, holding those positions becomes more expensive, while repayment pressure can force investors to sell risk assets.
The report also pointed to an earlier example on Aug. 5, 2024, when an unexpected BOJ rate hike triggered carry trade unwinds and sent Bitcoin from $64,000 to $49,000 within 48 hours. This time, the difference is that the surprise element is far smaller. With a 97% implied probability, the market has largely priced in a 25 basis point move next week.
What has not been fully priced in, according to the report, is the scenario Masu described in which inflation accelerates and the BOJ shifts from one hike every four months to one every three months. In that case, carry costs would rise faster rather than gradually.