Japan’s financial markets defied conventional logic Friday after the Bank of Japan raised its benchmark interest rate to its highest level since 1995.
The BOJ lifted its policy rate by 25 basis points to 1.25%, continuing an aggressive tightening cycle that began just three months earlier with its previous hike.
Typically, a central bank rate increase strengthens a nation’s currency, pushes bond yields higher, and weighs on equity markets, but Japan’s markets moved in the opposite direction across all three measures.
The yen weakened past 157 against the dollar, the 10-year Japanese Government Bond yield slipped, and the Nikkei 225 rose 1.5% following the BOJ’s announcement.
Analysts attributed the unusual market reaction largely to a split decision on the BOJ’s board, which signaled the central bank may not pursue an aggressively hawkish path forward.
“The two dissenting votes in favor of keeping rates unchanged came as a surprise,” said Hirofumi Suzuki, chief FX strategist at Sumitomo Mitsui Banking Corporation.
The decision to hike passed 7-2, with board members Toichiro Asada and Ayano Sato both voting to hold rates steady rather than raise them.
Asada argued that with Japan’s core inflation rate sitting at 1.7% in August, down from 1.8% in July and still below the 2% target, the economic backdrop did not justify tightening.
Sato similarly argued that current economic and price developments did not appear to have substantially accelerated compared to before the previous hike.
Masahiko Loo, senior fixed income strategist at State Street Investment Management, noted that the absence of an updated outlook report further limited the BOJ’s ability to reinforce a hawkish message through revised economic forecasts.
Shigeto Nagai, head of Japan economics at Oxford Economics, told CNBC’s “Access Middle East” that the two dissenters signaled Prime Minister Sanae Takaichi was not convinced to accede to the U.S.’ request for faster and more rate hikes.
Reuters reported Friday that U.S. Treasury Secretary Scott Bessent had stressed the need for higher BOJ rates during his meeting with Japanese Finance Minister Satsuki Katayama in May.
“If we look at the statement, all the phrases and the tone was almost similar to what we saw in the quarterly outlook report published in July, so the tone was less hawkish than financial markets had hoped for,” Nagai added.
Despite the dovish market read, most analysts believe another rate hike, likely arriving around December, remains a strong possibility for the BOJ.
State Street’s Loo said he expects BOJ Governor Kazuo Ueda to emphasize that every forthcoming meeting remains “live,” adding that “the debate is no longer whether the BOJ hikes, but how far rates ultimately go.”
The BOJ acknowledged that growth could decelerate due to elevated oil prices stemming from the ongoing Middle East conflict, complicating the path for continued tightening.
Sam Jochim, economist at EFG International, expects rates to rise roughly once every three months as underlying inflation approaches 2%, forecasting a terminal rate between 1.75% and 2% by 2027.
Stefan Angrick, head of Asia-Pacific economics at Moody’s Analytics, anticipates another increase around the turn of the year but warned that weak demand-driven inflation and disappointing real-wage growth would limit how far the BOJ can ultimately go.
The BOJ itself has declined to specify a terminal rate, maintaining only that it will conduct monetary policy “as appropriate” to stabilize underlying inflation around its 2% target.
