Japan Raises Interest Rates for First Time Since 2007 – The Bank of Japan has concluded eight years of implementing negative interest rates, marking a significant change to one of the most assertive monetary easing strategies worldwide aimed at stimulating bank lending and boosting demand.
In its first interest rate increase in 17 years, the BOJ announced it would raise its short-term policy rate from -0.1% to a range between zero and 0.1%. However, analysts caution that due to a fragile economic recovery, any further increase in borrowing costs will likely be gradual.
This move positions the BOJ as the final central bank to abandon negative rates, signaling the conclusion of an era where policymakers encouraged lending by charging interest on funds deposited by banks at Japan’s central bank. As anticipated, the BOJ made a decision on Tuesday to abandon a policy implemented in 2016, believing that its longstanding objective of achieving a stable 2% inflation rate was now “within sight.”
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According to the Kyodo news agency, seven out of the nine members of the bank’s policy board endorsed the decision, while two dissented. The growth in wages has bolstered confidence among BOJ board members regarding the likelihood of attaining the 2% inflation target after years of deflation and economic stagnation.
Japan’s largest employers agreed to a 5.28% wage hike during negotiations with unions this month, marking the most substantial increase since 1991 and raising expectations for a “virtuous cycle” of rising wages and prices. This rate of increase is the highest in over thirty years. “This would be the first rate hike in 17 years, so it has a lot of symbolic significance,” Izumi Devalier, head of Japan economics at BofA Securities, said prior to the BOJ’s policy decision.
“But the actual impact on the economy is very small,” she said, noting the BOJ will probably maintain its resolve to keep monetary conditions loose. “We would not expect a substantial rise in funding costs or households mortgage rates. The BOJ is optimistic that Asia’s second-largest economy is moving past a prolonged period of deflationary pressure.
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This trend had set it apart from other central banks, which have raised rates in response to inflation driven by the Covid-19 pandemic, Russia’s invasion of Ukraine, and supply chain disruptions. The BOJ faced pressure to terminate its ultra-loose monetary policy, which was deemed a significant factor in the rapid depreciation of the yen against the dollar.
While the weak yen has benefited exporters, it has imposed greater financial strain on households. In 2023, inflation in Japan momentarily soared to its highest level in over 40 years, compelling households to tighten their budgets and posing additional challenges for the country’s prime minister, Fumio Kishida.
Nevertheless, this inflation rate remained well below the levels observed in many other countries in recent years that led to significant increases in the cost of living. Following Russia’s invasion of Ukraine in 2022, the US Federal Reserve and other central banks raised interest rates to curb escalating inflation.
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However, haunted by Japan’s “lost decades” of economic stagnation and deflation, the BOJ maintained its main rate at a negative level. Increasing the rate will raise borrowing costs for consumers and businesses, as well as escalate Japan’s expenses for servicing its national debt, which stands at around 260% of its gross domestic product, among the highest in the world.
Market attention has now shifted to Governor Kazuo Ueda’s post-meeting press conference for insights into the pace of future rate hikes. The cessation of the world’s final source of inexpensive funds could potentially unsettle global financial markets. Japanese investors, who accumulated overseas investments in pursuit of higher yields, may redirect their funds back to their home country, causing significant market shifts.