The Bank of Japan is preparing to raise its benchmark interest rate to a 31-year high, a move that would mark one of the most significant shifts in the country's monetary policy in a generation. The decision, expected at the conclusion of the central bank's next policy meeting, reflects mounting concern that inflation has become entrenched enough to require a firmer response.
If confirmed, the increase would take Japanese borrowing costs to their highest level since the early 1990s, when the collapse of the country's asset bubble ushered in an era of stagnation, deflation and near-zero interest rates. For more than two decades, the Bank of Japan has kept policy extraordinarily loose, buying government bonds in vast quantities and holding short-term rates at or below zero in an effort to revive price growth and stimulate demand.
That era now appears to be closing. Policymakers have grown more confident that domestic inflation is being driven by wage growth and consumer demand rather than solely by imported energy and food costs, which had previously been dismissed as temporary. The central bank has signalled that it will continue to normalise policy gradually, but the direction of travel is clear.
The timing carries weight for global markets. Japan has long been the world's largest source of cheap funding, with investors borrowing yen at minimal cost to buy higher-yielding assets elsewhere. As Japanese rates rise, that trade becomes less attractive, potentially pulling capital back home and unsettling bond and currency markets far beyond Tokyo.
The yen has been under sustained pressure for much of the past two years, weakened by the wide gap between Japanese rates and those in the United States and Europe. A rate increase could offer some relief to the currency, though analysts caution that the effect will depend heavily on how quickly the Bank of Japan moves relative to its peers.
Domestically, higher rates will be felt unevenly. Households with savings will benefit from better returns, but borrowers — including small businesses and homeowners with variable-rate mortgages — face rising repayment costs. The government, which carries one of the world's largest public debt burdens, is also sensitive to any increase in servicing costs.
The Bank of Japan has stressed that further moves will be data-dependent and taken cautiously. Officials are wary of repeating past episodes in which premature tightening snuffed out fragile recoveries. But with inflation risks looming and the labour market tight, the case for continued normalisation has strengthened.
The decision will be watched closely by other central banks, many of which are weighing their own paths after a period of aggressive tightening. A more assertive Bank of Japan would mark the end of an anomaly that has shaped global finance for a quarter of a century, and would confirm that the era of free money is over even in its last stronghold.